of the magazine Military Engineer in regard to the speed with which some of this work has gotten under way.

Senator BONE. Admiral, may I interpose one question there?
Admiral MOREELL. Yes, sir.

Senator BONE. I don't think it will interfere with your line of thought.

With respect to competitive bidding and cost-plus-fixed-fee, do you not run into almost an identical condition in both cases? Obviously your Engineering Department has to prepare some sort of plans and specifications in advance. You just don't start out to build an air base or a naval base of some sort without some plans. That is correct? Admiral MOREELL. Yes, sir.

Senator BONE. So, having to face the necessity for plans, you would draw them in advance. Well then, where would the loss of time come-in calling for bids and having them examine the plans or how would that would necessitate a contractor facing precisely the same problem as though he was going to bid on it, because the fact that he does have to make a bid on it, in effect he has to make a bid, his engineers and his cost experts have to go over those plans, otherwise he couldn't possibly make an estimate of price?

Admiral MOREELL. Well, we do

Senator BONE (interposing). You get what I am driving at?

Admiral MOREELL. Yes, sir; I understand your question thoroughly. Senator BONE. If I were counsel representing a contractor and I was going to do business with the Government, I would first want the details, plans and specifications and blueprint and the whole business. I would go over them and say to my men, "If you are going to bid on this, you want to be darn certain of what you are doing or you will get yourselves all messed up. If you make an estimate and it is 25 or 50 percent off, you are going to appear in a very funny position with the Government," and I would think he would have to be almost as careful with that and as precise in his estimates as though he were going to bid on it against a field of buyers.

Now, what is the fundamental difference between his position in the case of the cost-plus-fixed-fee and his position as a potential bidder in the open market?

Admiral MOREELL. The difference is this, Senator

Senator BONE (interposing). Where would the loss of time come in? Admiral MOREELL. Yes, sir; In this respect. You take the construction of the air station at Kaneohe Bay. Now we started out with a general layout of that station, a layout plan showing the various buildings, and a statement showing the character of the construction of each building. That is, whether they were to be of steel or reenforced concrete or wood frame with galvanized metal siding or what not. For each one of those projects we, i. e., the Navy, made an estimate. The contractor did not make the estimate.

Let us take a shop building for example. We calculated the cubage of that shop building and we said, "If we were building this shop building in San Francisco it would cost us 25 cents a cubic foot to build it, but because it has to be built at Kaneohe and the transportation difficulties and the difficulties of obtaining labor are great, we are going to add 25 percent to that estimate just as a stab in the dark." So we estimated the building at 314 cents per cubic foot.

We went to the contractor and said "We are going to make a fee contract for this building, and our estimate of the total cost is half a

million dollars. We are going to allow you a 42-percent fee on our estimated cost, or $22,500, and you will have to put up this building for that much fee. The building is so many feet long, so many feet wide, so many feet high. It has a structural steel frame with galvanized iron roof and siding. We are going to allow you a fee of $22,500. That is, we will pay you the actual cost of the building plus $22,500. If the building costs more than our estimate of $500,000, you will receive no more fee.

"Now, are you willing to accept?" He says, "Yes; I will accept if you will reimburse me whatever the building costs. I have no way of telling how to evaluate the difficulties of transportation, of recruiting, maintaining, and housing the labor, because the conditions are so utterly unknown to me, but if you will protect me on the actual cost, I will give you the use of my construction organization and of my central office organization for building that building for a fee of $22,500."

Now, the contractor is taking a chance, because if we estimate that building too low, he might have to build a much more expensive structure for the same $22,500 fee. In this case he fails to make as large a profit as he anticipated. But he is not responsible for the accuracy of the original estimate.

On the other hand, suppose he had to take that gamble on a competitive bidding contract. He takes that building and he estimates the cost and he says, "Well, it looks to me as though that building is going to cost about $650,000, but I don't know whether I am going to have to house my labor there; I don't know how much transportation difficulty I am going to have; I don't know what my labor turnover is going to be, so, in order to play safe, I am going to add $150,000 to that bid."

Now, suppose he doesn't do that. Suppose he estimates $650,000 and takes a chance on it and the building actually costs him $750,000. Well, instead of failing to make a profit, he actually suffers large outof-pocket loss.

That is why a contractor who bids competitively must be very, very careful, because he, personally, guarantees the cost of the structure and so, in order to get proper competitive bids on a structure of that kind, we go into the market with very complete plans and specifications so that no bidder, after he gets the contract, can come to us with a claim and say, "You did not make the extent and scope of the work sufficiently accurate to permit me to make an accurate bid, and therefore you deceived me."

Senator BONE. In a sense then, he is to all intents and purposes an employee of the Navy Department? I don't use that in an invidious sense. He becomes their employee and instead of paying salary and wages you give him a certain amount of money. For $750,000 you do all this work?

Admiral MOREELL. Yes, sir.

Senator BONE. I have another question, which has interested me very much. You brought it up the other day.

Suppose I am a contractor with the equipment and staff and my skeleton staff and the padding I can give it, in order to do a good job, and I am tendered one of these pieces of work and I do it.

I do not have all the necessary machinery. We will assume that I have to get some bulldozers, steam shovels, and some heavy cutting

and welding machinery, stiff-leg and sheer-leg derricks, and what not, to do a good job.

Is the over-all cost to the Navy made to include these items of machinery and if so, when the work is done, do they become the property of the contractor?

Admiral MOREELL. There are a number of different cases, Senator. Senator BONE. How far in your accounting system do you allow the contractor to go in the acquisition of building equipment which would subsequently be his property. Do you see what I am trying to develop?

Admiral MOREELL. Yes, sir.

Senator BONE. Because otherwise I might be a contractor and have nothing but a skeleton staff of experts, engineers and the like, and I would make a deal with the Government and I would emerge from that deal having been paid this fixed fee but I would also be possessed of a magnificent set of equipment that I could utilize in subsequent jobs. Now that, of course, would have to come within the framework of your accounting system. How do your experts adjust those matters? Admiral MOREELL. I will explain that, Senator.

It is explained in considerable detail in this booklet. it here briefly.

I will explain

There are a number of different cases. The ordinary large building contractor and by "building contractor" I mean a man who builds a structure such as we are in now-retains comparatively little equipment.

If he is a big operator, he buys the equipment for the job-it pays him to do that—and at the end of the job, he sells it to a small contractor or an equipment dealer. It is only the smaller contractors who maintain equipment because they do the smaller pieces of work which are not sufficiently large to finance the equipment needed for that job.

Now the big contractors, the big operators like the Turner Construction Co. or the Geo. A. Fuller Co., buy special equipment for the job because it pays. They usually get new equipment, in good shape, and they "take the guts out of it," so to speak. Then they sell it and charge up the difference between the cost and selling price to that job. It pays them to do that.

Let us take a specific case of our work; let's say the Alaska work. The contractor buys a lot of equipment for those Alaskan air stations, with our money. We own that equipment; it belongs to us. At the end of the work, we do one of two things. We either retain that equipment to be used in the maintenance and operation of that station or else we sell it and the money goes into miscellaneous receipts of the Treasury. The contractor does not get the equipment.

Two years ago I asked the Senate Appropriations Committee for authority to sell that equipment and credit the job account so that I could use that money to build other projects with, but the committee would not give me that permission because they stated that it might lead to abuses. So I got out an order to our field offices saying that when any equipment is sold, the money must go into miscellaneous receipts of the Treasury and cannot be credited to the job account. Now, then, there is the case of what we call a "heavy contractor," the fellow who builds dams and roads and water-front structures. He usually has a lot of expensive equipment, such as dredging equipment, which he cannot afford to buy and sell for each job.

He retains that equipment as a part of his "stock in trade." You will notice in the appendixes to this book, there is a description and a table of plant rentals. The table is on page 41, and is accompanied by a very detailed description of how we arrive at the payments that should be made to a contractor from whom we are renting equipment. The underlying principle is that a contractor who is doing a piece of work for us must make no profit from his equipment. His equipment must be rented to us at what we consider to be the cost to the contractor.

Senator BYRD. Admiral, excuse me there, sir.

Admiral MOREELL. Yes, sir.

Senator BYRD.. The 42-percent fixed-fee,. does that include furnishing of equipment?

Admiral MOREELL. Furnishing of equipment at cost; yes, sir.

Senator BYRD. But the cost of equipment is not taken out of the fee, is it?

Admiral MOREELL. No, sir; we pay him a rental for the equipment that he owns, but that rental is calculated to reimburse him only for his out-of-pocket cost of owning that equipment.

Senator BYRD. The 42-percent fee then does not include any cost to the contractor for equipment?

Admiral MOREELL. No, sir; that does not.

Senator BYRD. What does that include? In other words what does the contractor perform for this 41⁄2 percent?

Admiral MOREELL. I think I can read it

Senator BYRD (interposing). I don't want to interrupt you, but I think that is pertinent.

Admiral MOREELL. I can give you a better statement on that if I am permitted to read from this booklet, which describes that point in some detail.

The CHAIRMAN. It is more than general supervision?

Admiral MOREELL. Yes, sir.

Senator LUCAS. What page?

Admiral MOREELL On page 14 at the bottom of the page. "The fees allowed under these contracts were determined by the Chief of Bureau." That isn't strictly correct. The fees were determined by a board and approved by the Chief of Bureau.

Senator BYRD. One more question: 41⁄2 percent is based on your estimate of the cost?

Admiral MOREELL. Yes, sir.

Senator BYRD. I mean, that is the fixed percent?

Admiral MOREELL. Yes, sir.

Senator BYRD. Based on your own estimate of it?

Admiral MOREELL. Yes, sir.

Senator BYRD. Now, if the cost exceeds your estimate?

Admiral MOREELL. The contractor gets no more fee.

Senator BYRD. He gets no more?

Admiral MOREELL. No, sir.

Senator BYRD. If the cost is less than your estimate?

Admiral MOREELL. He gets no less fee [reading].

The fees allowed under these contracts were determined by the Chief of Bureau. It was considered wise that the selection of the contractors should not be influenced by their ideas as to the amount of the fee.

The con

The chance of gambling with the fee item was thus eliminated. tractors, whoever they might be, were assured a just fee and the Government's interests were properly safeguarded.

60805-41- -2

The law allowed a maximum fee of 10 percent of the estimated cost of the work in each case, exclusive of the fee. The allowed fees amounted on the award dates to 6 percent, 5.8 percent, and 5.6 percent, for the Pacific islands, the Alaska, and the San Juan contracts, respectively.

The fees absorb interest on moneys, contingent fees or commissions, rent and other expenses of the central offices of the contractors, and services and traveling expenses of officers and employees of the central office organization except as specifically authorized by the contracting officer—

and then, of course, after those expenses are deducted, the balance represents the net profit to the contractor.

Senator BYRD. Absorbs interest on money? You mean the contractor has to advance the money?

Admiral MOREELL. Yes, sir. I have here now this book which I mentioned before, Manual of Accounting, Auditing, and Control of Negotiated Cost-Plus-Fixed-Fee Contracts, Bureau of Yards and Docks, Navy Department.

This manual sets out in complete detail the procedure which must be followed by our officers in auditing the accounts of a contractor before he can be reimbursed for moneys that he has advanced.

In some cases those advances, Senator, amount to a very sizable sum. For instance, in the Western Pacific contract, they have gone up as high as $5,000,000 that has been advanced by the contractors. Senator ELLENDER. You mean not reimbursed for some time? Admiral MORE ELL. Yes, sir.

Senator ELLENDER. How long a time?

Admiral MOREELL. The contractor told me recently that they average a continual advance of about $2,500,000.

Senator ELLENDER. It takes that capital?

Admiral MOREELL. Yes, sir.

Senator ELLENDER. Don't you make your accounts every week? Admiral MOREELL. We make them every week; yes, sir.

Senator BONE. Suppose he advances or is required to have bank advances, is that charged to the cost of the work?

Admiral MOREELL. No, sir, that is charged to his fee.

Senator ELLENDER. He has to furnish that.

Senator BONE. I note this statement, "The fees absorb interest on moneys, contingent fees." You mean by the term "absorb" that he must pay interest on moneys that he is compelled to borrow?

Admiral MOREELL. Yes, sir.

Senator BONE (reading):

Contingent fees or commissions, rent and other expenses of the central offices of the contractors, and services

and the like.

Senator BYRD. What do you mean by "contingent fees"?

Admiral MOREELL. There is a provision in the contract-I will point that out.

On page 34, article 19 [reading]:

The contractors warrant that they have not employed any person to solicit or secure this contract upon any agreement for a commission, percentage, brokerage, or contingent fee.

Breach of this warranty shall give the Government the right to terminate the contract, or in its discretion, to deduct from the contract fixed fee the amount of such commission, percentage, brokerage, or contingent fees.

This warranty shall not apply to commissions payable by contractors upon contracts or sales secured or made through bona fide established commercial or selling agencies maintained by the contractors for the purpose of securing business.