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DOD comments on GAO finding: The Navy does not concur with the GAO conclusion that the A-4 automatic flight control system was sufficiently reliable in November 1960 to permit direct procurement from Eclipse-Pioneer. Viewing the history of deficiencies and the unreliability of the A-4 AFCS, and in view of changes contemplated in November 1960, conversion of the AFCS from contractorfurnished equipment to Government-furnished equipment would not then have been appropriate. Douglas' participation was essential because the deficiencies in the AFCS were not limited to the subsystem itself, but were induced, in part, by other subsystems with functions related to those of the AFCS.

DOD comments on costs: The Navy does not agree that direct procurement of the AFCS from Eclipse-Pioneer commencing in fiscal year 1962 was practicable and asserts that, under the circumstances, its action was proper and reasonable. Therefore, the costs cited by GAO were not unnecessary.

DOD corrective action: This report was one of a series concerning conversion from contractor-furnished to Government-furnished equipment (breakout) after production has commenced. The Bureau of Naval Weapons on October 7, 1964, promulgated a formal policy setting forth the criteria that must be met to qualify an item for breakout.

Navy postscript, May 14, 1965

The Bureau of Naval Weapons is currently preparing further detailed guidance to supplement the policy instruction of October 1964.

GAO Report B-146898, October 16, 1964

45 Title: "Overcharges Included in Prices Negotiated for Change Orders Issued Under Fixed-Price Contracts Awarded to Avondale Shipyards, Inc., New Orleans, Louisiana" (OSD case No. 2021).

GAÓ finding: Government has borne overcharges of $261,773 in prices negotiated for 32 change orders because Avondale proposed prices which (1) did not allow the Government sufficient credits for deletions or substitutions affecting prior contract requirements and (2) included costs for materials which were in excess of known costs or in excess of known or estimated requirements. GAO estimate of unnecessary costs: $261,773.

Time period of GAO report: Review covered 108 change orders negotiated during period July 1, 1961, to June 30, 1963.

DOD comments on GAO finding: The Navy reviewed 12 of the actual change orders involved which comprise 98 percent of the alleged overcharge. The Navy investigation is not complete as yet but indications are that possible excess costs amount to only a small portion of the total given by GAO.

DOD comments on costs: The Navy investigation is in process.

DOD corrective action: The difference of opinion present in this case involves the question of the method to be used to assure the fair and equitable pricing of change orders. Stated briefly, the GAO would have change orders priced out on the basis of how much was included in the original proposal for the item being changed. The DOD disagrees with this approach and is of the opinion that changes should be priced out on the basis of current estimated costs; i.e., that true cost effect of a change order is best determined by comparing what it would actually have cost the contractor to perform the work as it was before the change and what it will actually cost to perform the work as changed. The difference represents the real cost of the change.

Navy postscript, May 14, 1965

Navy will seek recovery of a small portion of the excess stated by GAO, based on an evaluation of the change order pricing in accordance with the method believed by the Navy to assure fair and equitable pricing of change orders.

GAO Report B-146733, October 29, 1964

46. Title: "Unwarranted Allowance for Material Price Increases to Newport News Shipbuilding & Dry Dock Co., Newport News, Va., for Construction of the Aircraft Carrier U.S.S. Enterprise" (OSD case No. 1956).

GAO findings: That in its evaluation of the final price for fixed-price incentive contract NObs-3959 for the aircraft carrier U.S.S. Enterprise, the Navy included

an amount of $237,000 as incentive profits resulting from an unwarranted adjustment for increases in material prices. Also, that Navy contract auditors were remiss in not uncovering this matter.

GAO estimate of unnecessary costs: $237,000.

Time period of GAO report: The time period of the GAO review covers the period November 1957 through April 1963.

DOD comments on GAO findings: The Department of the Navy does not agree with GAO's findings. Under modification No. 7 of the contract, Newport News received a total price for all work in lieu of separate identifiable allowances for incentive profit, contract costs, changes and price adjustments. Therefore, a separate identifiable amount for incentive profit was not negotiated for the contract. The Navy auditor had no basis for raising the questions GAO claimed he should have since he was not furnished information by the contracting officer indicating the composition of target costs after the contract was definitized.

DOD comments on costs: Navy does not agree that the total price of $234,600,000 includes unwarranted incentive profit of $237,000.

DOD corrective action: The Navy review of the flow of information to contract auditors disclosed a need to provide the auditors information concerning the contracting officer's intent as to the composition of target costs after contract execution. Effective procedures for obtaining and transmitting such information to contract auditors have been found more difficult to develop than anticipated, and the development is still in process.

Navy postscript, May 14, 1965

Improvement in administrative communications is being pursued. The Navy's position on the basic pricing issue does not warrant adjustment of established prices. The Navy believes that to demand voluntary refund would be contrary to the facts and equities in this case.

GAO Report B-146732, December 2, 1964

47. Title: "Unnecessary Cost to the Government Through the Leasing of Electronic Data Processing Systems by Defense Electronic Products, Radio Corp. of America, Camden, N.J." (OSD case No. 1960).

GAO finding: The Government will incur unnecessary costs of about $3,416,000 over a 5-year period if the contractor continues to lease the systems because the contractor will pay rentals greater than the full purchase and maintenance cost to the Government, including interest on the investment. Amount of unnecessary cost will increase to about $2,342,000 annually after 5 years, and about $15,126,000 at the end of 10 years.

GAO estimate of unnecessary costs: $3,400,000.

Time period of GAO report: January 1960 to June 1963.

Navy comments on GAO finding: ASD (I. & L.), by letter of May 21, 1964, to GAO, commented on 23 reports (5 final and 18 draft) issued to date on the same subject, including the draft of this report. GAO bases its findings in all reports on its position that computers have a "useful life of 5 to 10 years" and should be retained in use for that period; that cost of leasing will exceed cost of ownership by the end of 5 years; therefore, the Government should buy computers and furnish them to contractors.

The DOD position is that the useful life of computers will vary with each equipment type and its economic utility in given areas of application; and that the present policy of the Government to require contractors to furnish their own facilities should remain unchanged. DOD feels that computers can be purchased on a selective basis when the stability of both systems and equipment can be established.

Navy comments on costs: The unnecessary costs considered by GAO are based upon conditions assumed to prevail over a prospective period. The Navy does not believe that adequate consideration was given other factors that bear significantly on the basic assumption.

Corrective action: ASPR changes will require contractors to submit comprehensive analyses of lease/purchase costs and equipment replacement requirements, and will base cost allowability on the least cost method of acquisition.

48-132-65- -50

GAO Report B-146760, January 5, 1965

48. Title: "Unsupported Cost Included in Price of Nuclear Submarine Valves Purchased From Crane Co., Chicago, II., by Westinghouse Electric

Corp., Pittsburgh, Pa., Under Cost-Plus-a-Fixed-Fee Contract" (OSD case No. 1759).

GAO finding: The negotiated price for 23 nuclear submarine valves purchased by Westinghouse from Crane under Navy CPFF contracts included unsupported costs of about $65,000. In addition, the valve prices included profit applied at a higher rate than that normally awarded by Westinghouse to other vendors. Westinghouse should have obtained and reviewed Crane's cost estimate for the valves but did not do so.

GAO estimate of unnecessary costs: $65,000.

Time period of GAO report: 1960.

DOD comments on GAO finding: The GAO position that Westinghouse should have obtained and reviewed Crane's cost estimate is based on GAO's opinion that there was insufficient basis for assuring that Crane's price was reasonable. The DOD disagrees. There was price competition in which all three of the qualified and experienced companies submitted bids and Crane was the low bidder. In addition, a price analysis was performed which substantiated the reasonableness of the price. The Navy and the prime contractor had a sound basis for concluding that the price was fair and reasonable.

DOD comments on costs: There were no "unsupportable" costs.
DOD corrective action: No corrective action is necessary.

Navy postscript, May 14, 1965

The Navy believes that a sound basis existed for determining the reasonableness of price; therefore, request for a voluntary refund is not warranted.

GAO Report B-146975, April 30, 1965

49. Title: "GAO Report on Procurement of Office Furniture by Lockheed Missiles & Space Co., Sunnyvale, Calif., Potential Savings on Procurement Through GSA Sources" (OSD case No. 1985).

GAO findings: GAO recommends: (i) DOD examine provisions of ASPR with the objective of providing a basis for use by Government contractors of GSA supply sources, (ii) where there is a significant amount of negotiated Government work that defense contract administrators review existing contracts and incorporate necessary provisions in existing contracts to use GSA sources, and (iii) when significant amounts of costs are involved controls be established to insure that GSA furniture is utilized unless equal quality furniture can be obtained at equal or lower cost from commercial sources.

GAO estimate of unnecessary costs: Based on average prices differential (GSA versus Lockheed's costs) savings of $218,000 would have accrued in 1962. Using 1962 as a basis, unnecessary costs of $1 million accrued from 1956 to 1962. Time period of GAO report: Calendar year 1962.

Navy comments on GAO findings: Defense contractors ought to be able to use or reject GSA sources for such items as furniture as it is the contractor and not the Government who has the responsibility for determining what furniture and equipment is most suitable to meet requirements; that the prices paid for such items when purchased from sources other than GSA ought not to be limited to GSA costs but weighed, on a case-by-case basis by knowledgeable Government personnel; that selected portions of industry should not be given procurement advantages over others; and that defense contractors ought not be required to use identical equipment, if circumstances indicate the need for different types. Navy concurs that information available from GSA sources should be used for guidance purposes in enabling contractors to make sound decisions in selecting furniture and in evaluating the reasonableness or prices quoted by a wide range of suppliers. Prices of certain items in GSA schedules were based on large quantities for which the contractor did not have immediate use.

Navy comments on costs: Navy does not question the GAO contention that had Lockheed been authorized to purchase office furniture through GSA supply sources, it is probable that a saving to the Government might have been realized, of some considerable dollar value.

Corrective action: Navy has no objection to using GSA schedules as a general guide to evaluate the reasonableness of prices paid by contractors, but not as an absolute limit.

GAO draft report, January 28, 1965

50. Title: "Inappropriate Use of Formal Advertising and Unnecessary Costs in the Procurement of Aircraft Carrier CVA 67, Department of the Navy" (OSD case No. 2241).

GAO finding: Navy awarded contract NObs-4766 to the low bidder, Newport News Shipbuilding & Dry Dock Co., on a formally advertised basis even though the quality and extent of competition was not adequate to provide assurance that a reasonable price had been obtained. The only other bidder, Electric Boat, had never built a comparable aircraft carrier and had other problems which Navy acknowledged made it doubtful that such bidder could compete effectively. Comparison of Navy estimate of construction costs indicated that the Newport News price was about $9.3 million higher than the Navy might have obtained had bids been rejected and price negotiation conducted. Award made on basis of contracting officer's findings of effectiveness of competition and price reasonableness without adequate supervisory review.

GAO estimate of unnecessary costs: $9.3 million.

Time period of GAO report: Bids opened April 28, 1964, award made April 30, 1964.

Navy comments on GAO finding: Three firms, Newport News, New York Shipbuilding, and Bethlehem Steel were qualified and desirous of being considered for the work in November 1963 at time of bid solicitation. Two bids were received, one from Newport News, as low bidder, and the second from Electric Boat (General Dynamics), as successor to Bethlehem Steel, Quincy. Problems in construction of CVA 67 are no more severe than those that New York Shipbuilding encountered in construction of the CVA 63. Electric Boat, through acquisition of Bethlehem Steel's Quincy facilities, was qualified based on past experience. The need to invest in additional facilities was not considered a handicap that could not be successfully overcome. Navy thus had every reason to expect a responsive reasonably priced bid from Electric Boat.

Two responsive and responsible bids were received from bidders independently contending for the procurement. Navy considers competition was adequate because no offeror was denied an opportunity to compete; that the low bidder had no determinative advantage over other bidders and thus was not immune to the stimulus of competition in proposing a price, which was determined to be reasonable.

Navy comments on cost: Navy properly compared low bid price of $188,500,000 from Newport News to price of $224,875,550 from Electric Boat and a $189,638,000 Navy estimate. Price analyses was also made with prices bid for CVA 63 (Kitty Hawk) and CVA 66 (America). Projection of prices of CVA 63 and CVA 66 were adjusted for differences of ship characteristics of CVA 67 and periods of time involved. Price analyses, in addition to adequacy of competition, demonstrated that the price was reasonable.

GAO's premise that $9.3 million could be saved by negotiation was based on comparison of isolated cost element in the contractor's proposal with those of its counterparts in Navy's estimate. In effect, the low cost element was taken from each estimate without considering pricing interrelationships between all separate elements of cost.

Navy corrective action: None.

To have rejected all bids and negotiated would have been inconsistent with provisions of 10 U.S.C. 2304(a)(15) and seriously violated the integrity of the advertised bidding system. Appropriate supervisory review was exercised as follows: Documentation was signed at Branch level of contracting officer; contract signed at Division level by the Director of Contracts who performed price analyses with full support of professional staff. Award was also personally reviewed and approved by the Secretary of Defense who personally reviewed and approved the judgment that adequate competition existed.

APPENDIX 2D-AIR FORCE CASES

GAO Report B-146801, July 31, 1963

51. Title: "The Increased Price for Ballistics Computers Resulting From Excessive Estimated Material Costs Under Department of the Air Force Contract AF 09 (603)-34097 with Servomechanisms, Inc., El Segundo, Calif." (OSD case No. 1729).

Problem

The Comptroller General states that (1) the price proposed in March 1957 by Servomechanisms for contract -34097, and accepted by the Air Force without change, included estimated material costs that were excessive costs and related overhead costs and profit, amounting to about $83,800 were included in the contract price of $308,516, (3) appropriate evaluation by Air Force contracting officials of information available at the time the price was established would have disclosed that the material cost estimates were higher than the costs Servomechanisms would reasonably have expected to incur.

Further, the GAO finds that "the revised provisions of the law, together with the actions taken by the Air Force to require that Servomechanisms improve its price estimating procedures, if implemented adequately should reduce the possibility of further overpricing in future contracts which the Air Force may negotiate with this contract."

GAO recommendation

That the Secretary of Defense (1) continue the efforts to obtain a price reduction from Servomechanisms for the excessive estimated material costs and related overhead costs and profit included in the price negotiated for contract AF 09(603)-34097, and (2) make this contractor's adamant position known to all procuring activities and that it be given appropriate consideration in connection with contemplated future procurement from this company.

Since no evidence of fraud or other basis could be found, for legal proceedings, the Air Force requested a voluntary refund which the contractor refused. Perhaps the main reason for the company's adamant position is its declining sales, $23.5 million in 1957 to $9.4 million in 1962 and its declining net income. In 1957 the company showed a net profit of $308,776 while showing a net loss of $197,628 in 1962, and a net loss of $101,000 for the first quarter of 1963. In addition, sales for the first quarter of 1963 were down 43 percent when compared to a like period in 1962. Additional pressure by DOD, except in the most serious cases, would tend to make the term "voluntary refund" meaningless. While the DOD policy is very clear that efforts to obtain a voluntary refund should be vigorously pursued, it is also clear that such efforts must stop short of pressure that would be tantamount to coercion.

For the same reason, DOD cannot concur in the second recommendation because in effect it would penalize the contractor for refusing a request for a voluntary refund. It could, as a practical matter, have consequences verging on suspension or debarment without either the justification or safeguards that are essential prerequisites to such actions.

As of the date of the reply, October 1963, the contractor was doing business in an acceptable manner as an approved source.

The Air Force has made appropriate use of the facts of this case, which has reiterated to cognizant officials the importance, in dealing with all contractors, of effective implementation of the policies and procedures applicable to the noncompetitive procurements. Procurement Information Digest, September 1963.

GAO Report B-125071, October 24, 1963

52. Title: "Excessive Costs Included in Prices for FALCON Missile Components Purchased from AVCO Corp., Crosley Division, Cincinnati, Ohio, by Hughes Aircraft Co., Culver City, Calif., under a negotiated contract, Department of the Air Force" (OSD case No. 1745).

GAO finding: Prices of missile stabilizers and flippers were excessive in relation to available cost data, acceptance of prices without appropriate review and evaluation.

GAO estimate of unnecessary costs: $158,110.

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