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Mr. GANSLER. Yes. As you know, I have been a very vocal advocate of things like the "design-to-cost” concept, even during the time while I was with the Department of Defense. I feel strongly that the Department is now starting to use cost as a primary design criteria, along with performance. That was not the historical case in the Department of Defense. It was, as you say, state of the art performance exclusively, and then left to the people to bid for the lower cost for that expensively designed system.

The approach should be, and is starting to be in many cases now, designing to a lower cost system, one that can be afforded, so that the quantity versus quality trade can be made within the limited budget. The quantity is the thing that is suffering the most. We don't have sufficient tactical forces today.

Senator PROXMIRE. If we learned anything, I guess, from the latest Israel-Arab war, we learned we could have enormously expensive tanks knocked out in such immense numbers within a few days that we really suffered greatly from having a shortage of the number that we had to have. You could make an argument, the same kind of argument with aircraft. Mr. GANSLER. Very definitely.

Senator ProxMIRE. Dr. Kurth, do you think that industrial readiness might be improved if we moved to lower cost, less sophisticated systems?

Mr. KURTH. I didn't hear the last.
Senator PROXMIRE. I am really asking the same kind of question.

Do you think that our readiness could be improved if we moved to lower cost systems, less sophisticated systems?

Mr. KURTH. I do associate myself with the statement by the witness for the Department of Defense. Given the way aircraft have evolved, I think the best solution is to have both the high cost and the low cost aircraft for both the Navy and the Air Force. That is to say both the F-14 and the F-18 for the Navy (high cost and low cost, that is a top of the line and hopefully a lower line aircraft) and the F-15 and the F-16 for the Air Force.

I think that is probably a good policy. I would not try to restructure the defense industry in a way that would no longer permit that. I would say that we would normally want to have four major aircraft in the U.S. military inventory, a high-cost Navy and a low-cost Navy aircraft, and a high-cost Air Force and a low-cost Air Force aircraft.

I do agree with what the Defense Department wants to do in this regard. And the low-cost aircraft producers, especially Northrop and McDonnell vis-a-vis the F-18, have good records for producing very cost-effective aircraft.

Senator PROXMIRE. Mr. Gansler, you say that the Department of Defense should, and I quote, assure that subcontractors do not receive more harsh treatment than Government prime contractors do.

I think it was your article that indicated that as we have an overcapacity of prime contractors, we often have a serious undercapacity of subcontractors.

At any rate, how can we avoid more harsh treatment of subcontractors?

Mr. GANSLER. In fact, I personally believe that this shortage of subcontractors constrains you as much if not more in the surge areas as well as in the economic area through the pricing structure. An example of the more harsh treatment would be on a program where the contract was awarded cost-plus to the prime and the major hightechnology, high-risk subcontractor is awarded fixed price for the subcontractor development; and that is a typical situation that happens today.

There frequently is vicious competition that takes place at the sublevel, trying to get two to play against each other, and there are a number of examples. The actual data does show that at the subcontractor level and at the parts supplier level, the profit appears to be much lower; and therefore, what is happening is that with the shrinking total dollars and the low profit, they are all leaving voluntarily or going bankrupt. In terms of corrective action that could be taken, I think in many critical areas the Department of Defense should pay for two suppliers of a critical item, two people to develop, two people to produce it, at the subcontractor and component part levels. That means initially people will come back and say that this is very expensive, how can you afford to pay for two people to build a tube when we only really need one tube supplier. If we are down to the point of only one supplier, say of that type of device, then in fact I think you would be far better generating two suppliers, paying for them and letting them compete.

The development phase cost, in fact, might be higher. However, letting these two people stay in production would keep driving the price down in the big-dollar phase. By contrast, when there is only one supplier, we find the prices going up. The thing that prohibits this multiple saving is that the budget is always established on this year's dollars; it is not a multiyear, long-range commitment, and therefore, the cheapest thing this year is the thing that is done.

Senator PROXMIRE. I suspect one of the reasons why subcontractors have what might be harsher treatment, maybe it ought to be put the other way, the prime contractors have a soft permissive kind of treatment, is because the subcontractors deal with a private corporation, which is used to having its contracts respected and delivery on time and a fixed price met or else, whereas a prime contractor deals with the Government which doesn't do that.

Does this suggest if we follow a businesslike policy with prime contractors, the kind I have been advocating here, that we are going to reduce excessively the number of prime contractors in the same kind of problem now we have with the subcontractors?

Mr. GANSLER. I would think the initial response would be that you have more subcontractors going bankrupt because the primes initially pass on as much of that financial liability downward and the smaller people can't afford the high losses that will result from the initial impact, while the larger ones can. So I think unless one does that very carefully you will have the less desirable of the two impacts, first; namely, that you will wipe out the total subcontractor base before having had a significant impact on the giants who can take it

Senator PROXYIRE. What does the data really show? Does the data really show the subcontractors are in that kind of shape, profits on investment, for instance? Data that I have seen on defense contracts generally have shown that while the percentage of profit on sales may be moderate, the percentage of profits on investment is pretty good.

Mr. GANSLER. That is right for the prime contractors. The data at the subcontractor level is very minimal, first of all. The Department of Defense decided a number of years ago to stop gathering data at the subcontractor level. There is very little visibility as to what the profit really is. The data you are getting which was done at the prime contractor level was for the larger contractors who in fact do in many cases have a good return on investment, but that does vary with the sector. Like shipbuilding, it appears to still be very low. In the other sectors it appears to be quite high. I took that same data which came from the profit 1976 study that you referred to and plotted it versus the size of the company rather than by the sector of the industry and found in fact in the smaller companies that the profit was significantly less for the same data you are quoting, significantly less, but even more important that the spread in that profit, which is a measure of risk, was far greater for the small companies. So it says that even from the same set of data, that the profit was much lower for the small companies and the risk much higher for the small companies.

There have been other studies done of that sort over the years that have indicated the same thing. The fact that many of them seem to be going bankrupt is another indication.

Senator PROXMIRE. Well, I looked at the Renegotiation Board's record on renegotiated profits. We found that a large number after renegotiation were making 200 percent, 500 percent, 1,000 percent on their contracts. So they move all over the place.

Mr. GANSLER. If I could comment. What we have found in those cases is at the subcontractor level where you get down to a sole-source supplier then the profit obviously flies out of sight and I think those are some of the cases

Senator PROXMIRE. We have asked the Renegotiation Board to do something about it.

Mr. GANSLER. I would think simply having competition would be even better. Forcing two suppliers, that would keep the prices down through competition and not require the renegotiation.

Senator PROXMIRE. One of the reasons I bring this up is because the Renegotiation Board is fighting for its life, Mr. GansLER. I realize that.

Senator PROXMIRE. Its life depends on this committee. We haven't given up yet. It looks like it is dead.

Well, gentlemen, I am going to ask your permission to permit me to read a statement. It is going to take me a couple of minutes to read it. It is a statement at the end of the hearing which sums up my feelings about what we have learned and where we can go.


This concludes the last day of hearings of the Joint Committee of Defense Production. As of October 1, the functions of this joint committee will be absorbed by the Banking Committee. The Defense Production Act will require further hearings under the authority of the Banking Committee and any unfinished business of this committee will be taken up by that parent body.

The Defense Production Act required that this committee “make a continuous study of the programs and of the fairness to consumers of the prices authorized by this act and to review the progress achieved in the execution and administration thereof."

The history of the Defense Production Act makes it clear that the overriding purpose of reviewing prices and programs was to answer the question: Is the United States economically prepared to meet a military emergency?

In the last 21,2 years we have examined that issue closely. Although there may be a difference in opinion among individual members of this joint committee as to the answer to that question, I am prepared to offer my opinion.

The answer is a qualified “no.” Surely the potential is there. This country has amazing recuperative powers. We can marshal enormous resources in times of national emergency. We did so during World War I and II and, to a lesser extent, for the Korean war. We have the plant capacity, the skilled manpower, the technology, the management, the financial resources, the natural resources, the productivity, and will to produce war materials without parallel in the history of the world. It has been said with more than a hint of truth that our adversaries are more afraid of Detroit than our standing Army.

But potential is not enough. If this potential is left unexploited and lies unready to meet a national emergency then it is a weak link in our national defense posture.

We no longer have the luxury of time. Prior world wars were fought on distant continents with sufficient lagtimes involved so that our industry could gear up into action. We had time to redress any momentary imbalances.

Today the flight time of the ICBM is 30 minutes at most. Warheads from one submarine could destroy all the major population centers on the eastern seaboard.

To answer the question: "Are we economically prepared to meet a military emergency?" the committee held 13 days of hearings over an 18-month time period beginning in December 1975. We looked at the use and availability of strategic materials; the adequacy of the civil preparedness bureaucracy to face a nuclear attack; the strength and weakness of the defense industrial base.

We found long-term neglect in preparedness planning. In some cases no planning at all.

We found Government agencies not knowing what each other were doing. Duplication and inefficiency were rampant. Therefore the committee recommended a consolidation of the preparedness agencies and higher visibility of their problems at the National Security Council level.

We found inadequacies with the defense priorities system; lack of enforcement; misuse of priority ratings; disjointed coordinating efforts.

The committee also turned its attention to the defense product. As a test case we conducted one of the most intensive reviews of a major weapon system decision on record—the Condor missile program. It was a classic story of conflict of interest which resulted in situations inimical to the Government's best interests.

Inside information was leaked continuously to the contractor, Bar. riers to production were eased. Specifications were changed. And people responsible for the Condor go-ahead decision were found to have prior- and postfinancial ties to the contractors involved.

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This conflict-of-interest atmosphere was found to be widespread. The duck and goose hunting forays to the Eastern Shore were as Secretary Schlesinger said "only the tip of the iceberg." The real issue was not the momentary acceptance of a gratuity but the collective effort these actions had in degrading the budgetary and force planning system. It was a prime sign of lack of discipline. * An industrial base that allows noneconomic factors to shape force level decisions is an inadequate base. The lack of competition in defense procurement represents a built-in economic penalty to productivity. · And what has the result been? We produce one-fifth as many aircraft as 10 years ago. We have the smallest number of ships in the Navy since before World War II. We have the largest backlog of ship construction in our history with delays of 2 years not being uncommon. There are too few shipyards and too few subcontractors producing critical components.

All in all it cannot be said that our defense industrial base is adequate when the country continues to face the declining-force-levelrising-unit-cost dilemma. And until that problem is resolved there is no room for satisfaction or complacency.

There are many other items I could mention, but I will not take the time. The hearings, reports, staff studies, and legislative recommendations are available to anyone with the interest.

In closing I want to pay tribute to the staff of this committee who have worked far longer and harder than could be expected of them. With the smallest budget on Capitol Hill and the smallest staff, they have produced facts, recommendations, and legislation out of proportion with their resources.

A committee relies heavily on its staff and this committee has been blessed with the best.

The meeting is adjourned. Further business will be conducted by the Senate and House Banking Committees.

Thank you.



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