Senator GOLDWATER. Are performance or completion bonds ever required in the purchases of materiel that are made?

Mr. WELCH. I think some departments do require them in some instances but it is discretionary with the Department. I don't believe they are required by any statute.

Senator GOLDWATER. What would you think of that being adopted as a general practice?

Mr. WELCH. I am not sure that our office would feel that is a desirable practice because the cost of the bonds would necessarily be included in the contract price and it might tend to increase the cost of supplies to the Government.

Senator GOLDWATER. That would be a very small amount.

Mr. WELCH. That would be a very small amount in some instances. It possibly could amount to considerable sums, considering the overall procurement of the Government.

Senator GOLDWATER. That is right.

Mr. WELCH. Of course, we feel that the contract should be made in such a way that the Government has adequate remedies without a completion bond. The difficulty in this case I just referred to was that such remedies were not provided in the contract; therefore we were powerless to effect a remedy.

Senator GOLDWATER. What would those remedies be?

Mr. WELCH. As far as late deliveries were concerned, the assessment of liquidated damages. Or if they were going to do as in this case, award to a higher bidder because of earlier delivery time promised, they should make specific provision in the contract for paying the higher bidder only at the low-bid price in the event he is late.

Senator GOLDWATER. Have you ever made suggestions that would correct this deficiency in Government bidding?

Mr. WELCH. In connection with that particular problem?
Senator GOLDWATER. Yes.

Mr. WELCH. Yes, sir. We did in this case that I just referred to. I think it was to the Secretary of the Army-we advised him that in cases like this in the future appropriate provision should be made for protecting the Government's interest.

Senator GOLDWATER. Could we have a copy of that instruction or letter in the record?

Mr. WELCH. Yes, sir.

Senator GOLDWATER. If you don't have it you can send it over to be included in the record.

Mr. WELCH. All right, sir.

(The information referred to was subsequently received with May 12, 1955, letter to Senator Sparkman from the Comptroller General of the United States (exhibit 17, p. 199) and follows:)

EXHIBIT 19

B-120741

COMPTROLLER GENERAL OF THE UNITED STATES,
Washington, March 17, 1955.

The honorable the SECRETARY OF THE ARMY.

DEAR MR. SECRETARY: Reference is made to your letters of August 20, 1954, and March 1, 1955, replying to our inquiries concerning the protest of Samuel N. Zarpas, Inc., against the rejection of its bid for construction of a cubicle in room 28A, Building 500, Physiology Research Laboratory, Forest Glen Section, Walter Reed Army Medical Center.

The invitation for bids (No. MD-49-024-54–36) was issued October 21, 1953, and provided for opening of bids on November 10, 1953. The invitation did not state that time of completion of the work would be an important factor or that it would be considered in making award. Bidders were instructed by paragraph 9 of the invitation to set their own completion time unless a maximum time was fixed by the special conditions of the invitation. They were also advised by paragraph 9 of the possibility that bids might be evaluated on the basis of liquidated damages specified in the special conditions. Since no special conditions were included in the invitation and, as stated in your letter of March 1, 1955, apparently were not intended to be included, the only reasonable conclusion bidders could draw from the absence of a required completion time and the failure to provide for liquidated delay damages was that time of completion would not be a factor in evaluating bids. Bidders cannot compete on an equal basis as required by law unless they know in advance the basis on which their bids will be evaluated. Therefore, if the needs of the Government in this instance required completion within a particular period of time, the invitation should have so stated.

The reported facts do not demonstrate that a completion time of 100 days as estimated by the low bidder was patently unreasonable. Actual completion time for the work was about 193 days and, although it is reported that the 148 days' delay was the fault of the Government, the only delay specifically mentioned is 1 of 6 weeks in finding a substitute for a certain lighting fixture.

In view of the fact that the matter did not come to our attention through the protest of the Zarpas firm or otherwise until after the work had been completed and paid for, no remedial action appears to be possible at this time. However, in future cases of this nature, time of delivery or completion (unless patently unreasonable) should not be considered in evaluating bids unless the invitation for bids clearly advises bidders that time will be considered in making award and sets forth the basis for evaluation of the bids.

Pursuant to your request, the enclosures transmitted with your letter of August 20, 1954, are returned.

Sincerely yours,

JOSEPH CAMPBELL, Comptroller General of the United States.

Mr. WELCH. Although it is not generally realized, there is a deficiency in the law relating to the making of Government contracts which presents a recurring problem to our office.

As you know, section 4 (b) of the Armed Services Procurement Act prohibits the use of the cost-plus-a-percentage-of-cost system of contracting and section 304 (b) of the Federal Property and Administrative Services Act contains a similar prohibition. The latter provisions, however, applies only to purchases and contracts made by the General Services Administration or by other civilian agencies, pursuant to authority delegated by the Administrator of General Services. There exists no general provision of law prohibiting contracting on a cost-plus-a-percentage-of-cost basis when advertising is not required.

Consequently, when we are confronted with a contract entered into on such a basis by an agency not subject to the Armed Services Procurement Act, the Federal Property Act, or some other special statute which prohibits the system, the only action we can take is to suggest to the agency concerned, that it should refrain from using the system since the Congress has declared a policy against it in statutory provisions which apply to broad fields of Government procurement.

The intent of the Congress in opposing the cost-plus-a-percentageof-cost system is clearly discernible in the legislative history of the acts involved.

Conditions which it sought to prevent are those which provide an incentive and an opportunity for a contractor or subcontractor who

63038-55- -15

knows he will be reimbursed his cost of performance to increase his profit by increasing his costs of performance at the expense of the Government.

The Armed Services Procurement Regulation issued by the Department of Defense for guidance of all the military services provides in paragraph 3-401 that the cost-plus-a-percentage-of-cost system of contracting shall not be used or allowed to be used for any subcontract under a Department contract.

Under the procurement instructions implementing this policy, the prohibition has been construed by contracting personnel as applying only in connection with subcontracts under cost-type prime contracts. Recently our office observed instances in which cost-plus-a-percentage-of-cost subcontracts had been made under military fixed-price prime contracts containing provisions for price redetermination.

Under this form of price, this form of prime contract, the price ultimately negotiated is dependent largely upon the costs of performance. A cost-plus-a-percentage-of-cost subcontractor in this situation is in a position to increase his profit by increasing his costs, which in turn become a part of the prime contractor's cost and therefore become a dominant factor in the ultimate negotiated price to the Government.

In a letter dated October 8, 1954, B-119292, the matter was brought to the attention of the Secretary of Defense and by letter of February 10, 1955, he advised the Comptroller General that paragraph 3-401 of the Armed Services Procurement Regulation would be revised to prohibit cost-plus-a-percentage-of-cost subcontracts under fixedprice contracts containing price revision clauses.

Senator GOLDWATER. Have you been able to ascertain since the receipt of the Secretary's letter whether or not anything is being accomplished in that field. Has it been stopped?

Mr. WELCH. I am sure that the Department did issue a revised regulation to preclude the system from thereafter being used. I don't know that we have been notified of that or that we have the revised copy yet, that was in February 1955.

Senator GOLDWATER. For the record, would you submit a copy of the letter of October 8, 1955, and a copy of the reply received February 10 or written February 10 and a copy of the revised regulations? Mr. WELCH. Yes, sir; we will do that.

(The information referred to was subsequently received with May 12, 1955, letter to Senator Sparkman from the Comptroller General of the United States (exhibit 17, p. 199) and follows:)

EXHIBIT 20

COMPTROLLER GENERAL OF THE UNITED STATES,
Washington, October 8, 1954.

The honorable the SECRETARY OF DEFENSE.
DEAR MR. SECRETARY: Section 4 (b) of the Armed Services Procurement Act
of 1947 prohibits the use of the cost-plus-a-percentage-of-cost system of contract-
ing. The intent of the Congress in opposing this system is clearly discernible in
the legislative history of this and other acts regulating Government procurement.
Conditions which it sought to prevent are those which provide an incentive and
an opportunity for a contractor or subcontractor to increase his profit by increas-
ing his costs at the expense of the Government.

In paragraph 3-401 of the armed services procurement regulations, the policy of the Department of Defense with respect to this form of contracting under negotiated contracts is stated as follows:

"*** except that under no circumstances shall the cost-plus-a-percentageof-cost system of contracting be used, or allowed to be used for any subcontract under a Department contract."

Under the procurement instructions implementing this policy, the prohibition has been construed by contracting personnel as applying only in connection with cost-type prime contracts.

This office has observed instances in which cost-plus-a-percentage-of-cost subcontracts have been made under military fixed-price prime contracts containing provisions for price redetermination. Under this form of prime contract, the price ultimately negotiated is dependent largely upon the costs of performance. A cost-plus-a-percentage-of-cost subcontractor in this situation is in a position to increase his profit by increasing his costs, which in turn become a part of the prime contractor's cost and therefore become a dominant factor in the ultimate negotiated price to the Government. It seems clear that the statutory prohibition against the cost-plus-a-percentage-of-cost system of contracting must be considered applicable to such subcontracts.

I understand that certain revisions of the armed services procurement regulations are now under consideration by your Department. In connection therewith, I suggest that, in order to strengthen the procedures for compliance with the intent of section 4 (b) of the Armed Services Procurement Act of 1947, the policy stated in paragraph 3-401 of the armed services procurement regulation be supplemented by a specific requirement that all negotiated contracts, except those with initial firm fixed prices not subject to revision, shall contain a clause prohibiting the prime contractor from making cost-plus-a-percentage-of-cost subcontracts thereunder.

I would appreciate your advice as to the action taken on this matter.
Sincerely yours,

FRANK H. WEITZEL,

Acting Comptroller General of the United States.

EXHIBIT 20 (A)

OFFICE OF THE ASSISTANT SECRETARY OF DEFENSE,

Washington 25, D. C., February 10, 1955.

The honorable the COMPTROLLER GENERAL OF THE UNITED STATES. DEAR MR. COMPTROLLER GENERAL: Further reference is made to your letter of October 8, 1954, to the Secretary of Defense in which you stated your views with respect to a prohibition against cost-plus-a-percentage-of-cost subcontracts under all prime cost-reimbursement type contracts, letter contracts, fixed-price type contracts providing for the redetermination of price and fixed-price incentive type contracts and suggested the incorporation of certain principles in the armed services procurement regulation.

This Department has given consideration to your views in the development of certain revisions to the regulation and, without deciding whether there is any legal requirement for changing the present provisions of the regulation, we now propose to include in an early revision to paragraph 3-401 of the regulation the following language:

"***The cost-plus-a-percentage-of-cost system of contracting shall not be used. In furtherance of this policy all prime cost-reimbursement type contracts, letter contracts, fixed-price type contracts providing for the redetermination of price and fixed-price incentive type contracts shall by an appropriate clause prohibit cost-plus-a-percentage-of-cost subcontracts."

As you know, our present contract clauses for cost-reimbursement type supply contracts now contain such a prohibition (see ASPR 7-203.8 (c)). As we further develop the clauses covering the other types of contracts mentioned, we will include provisions of similar import.

Sincerely yours,

R. C. LANPHIER, Jr., Deputy Assistant Secretary of Defense (Supply and Logistics).

EXHIBIT 20 (b)

EXCERPT FROM ARMED SERVICES PROCUREMENT REGULATION (1955 EDITION REVISED), APRIL 4, 1955, No. 4

3-401 Types of Contracts.-Pursuant to the authority of Section 4 of the Act, contracts negotiated under this Section III may be of any of the types or combination of types described herein, which will promote the best interests of the Government subject to the restrictions described below. The cost-plus-a-percentage-of-cost system of contracting shall not be used. In furtherance of this policy all prime cost-reimbursement-type contracts, letter contracts, fixed-price type contracts providing for the redetermination of price and fixed-price incentive type contracts shall by an appropriate clause prohibit cost-plus-a-percentage-ofcost subcontracts.

Senator GOLDWATER. You wrote a letter on October 8 and got an answer on February 10?

Mr. WELCH. That is right.

Senator GOLDWATER. That is from your office to the Pentagon and back?

Mr. WELCH. Yes, sir.

Senator GOLDWATER. We used to do better than that by pony

express.

Mr. WELCH. The Secretary did agree with us that the regulation should be changed and I am sure it is being changed if it has not been already changed.

Senator GOLDWATER. You probably would not be able to give us anything on that until another 5 or 6 months.

Mr. WELCH. If the revision has come out, we will be able to furnish it immediately. If it has not we will certainly look into it.

Senator GOLDWATER. You have not seen any revision of that? Mr. WELCH. No, sir; I personally have not. But I am not certain that it has not actually been promulgated.

Senator GOLDWATER. All you have is the Secretary's letter that he was going to change it.

Mr. WELCH. I think that is correct.

Senator GOLDWATER. You don't know whether the regulation has been changed?

Mr. WELCH. I personally do not.

Senator GOLDWATER. Well, get that from the military.

Mr. WELCH. Our audit people you see would follow through and make certain that the change was made as promised and they might know. They probably do.

Senator GOLDWATER. Does 4 months seem a rather long time to get an answer to a letter like that?

Mr. WELCH. Well, offhand it would seem that it might be. However, I am sure the letter had to receive pretty high level consideration. Senator GOLDWATER. And after 3 months more we don't know if the regulation has been changed?

Mr. KELLER. I would like to clarify that. It may very well have been changed. We are not in a position where we have it before us. We will submit it for the committee.25 We will follow through to make sure that just the regulation was not changed and then it stopped thereafter, but that the regulation is followed up.

Senator GOLDWATER. All right.

Mr. WELCH. Another case considered by our office during the past year which might be of interest to the committee involved the award

25 See exhibit 20 (b) above for excerpt from Armed Services Procurement Regulation.