On Contracts:
Posted on InsideDefense.com: June 13, 2014
The debate over the use of cost-plus contracts instead of fixed-price contracts to drive down costs is a "red herring," the Defense Department has found during its second annual acquisition system performance review.
HERE I PUT FOR SOME NON-NATIVE SPEAKERS LIKE ME
"Of particular note, this year's report shows that the prevalent debate of cost-type versus fixed-price contracting is misguided," Frank Kendall, the Pentagon's chief acquisition executive, writes in the June 13 report. "The real issue is how effective the incentives are for each contract type within each of those groupings. There are cost-type contracts that are very effective at controlling cost while others are not. Fixed-price contracts are effective at controlling cost -- but some types do not share those savings with the government, yielding higher margins (sometimes spectacularly so) and higher prices for our taxpayers."
Fixed-price contracts are business arrangements with a single, set price for goods and services. Cost-plus contracts are deals in which the price is based on the actual cost of production and any other rates of profit or fees.
A "fixed-price" label can also be misunderstood because a price is only truly fixed if the contract never changes, Kendall adds. But the cost of the C-130J program, for example, grew more than 2,000 percent after DOD decided to install the Global Air Traffic Management system, adding several hundred million dollars to the development price tag.
"Prices on fixed-price contracts are only 'fixed' if the contractual work content and deliverables remain fixed; such contracts can be (and often are) easily modified to handle unexpected technology gaps, engineering issues or shifting threats, leading to cost growth," Kendall writes. "At times fixed-price vehicles can be virtually indistinguishable from cost-plus vehicles, as was the case with the Air Force's canceled Expeditionary Combat Support System (ECSS)."
The "cost-plus versus fixed-price is a red herring," the report states. "The distinction between cost-plus and fixed-price contracts is not the divide on effectiveness. Rather, the emphasis should be on matching incentives to the situation at hand instead of expecting fixed-price contracting to be a magic bullet."
The report notes that
"fixed-price contracts have lower costs because they are used in lower-risk situations, not because they control costs better." In the end, analysis showed that
"objectively determined incentives were the factors that controlled costs, not selecting cost-plus or fixed-price contract types," according to the report.
While
DOD's "should-cost initiatives" have been implemented across the acquisition system, the report notes that not enough time has passed to measure their impact, which will have to be included in another study. "We are continuing the effort to change the acquisition culture from one focused on obligation rates, spending available budget, and accepting costs as a given -- to one where managers scrutinize each element of cost under their control and assess how it can be reduced without reductions in value received," the report states.
The acquisition study also compared the performance of development contracts since 2000, showing that unmanned aircraft system programs had the highest price growth, follow by ships. Missile efforts saw the lowest growth.
Ships also accounted for the worst developmental schedule delays, followed by rotary-wing aircraft contracts. The report also states that research and development funding for DOD's "product 'pipeline'" is scheduled to decline "well below 2001 levels," and even further if the automatic budget cuts triggered by sequestration remain in place.
The study also examines Nunn-McCurdy cost breaches, noting that
"the Nunn-McCurdy process provides insights but only comes into play when programs already are having problems."
An analysis of all DOD's major defense acquisition programs since 1997 shows that 32 percent have had either significant or critical cost Nunn-McCurdy breaches. "This analysis appears to show that all commodities are susceptible to breaches, with the chemical weapons demilitarization (Chem Demil), space-launch (Evolved Expendable Launch Vehicle-EELV), and helicopter programs having the highest breach rates (note EELV is the only space-launch program in this data set)," the report states.
The study notes that chemical weapons demilitarization and EELV are unique, "but it is unclear at this point why helicopters breach at a higher rate than other standard commodity types." Both chemical demilitarization and EELV had 100 percent breach rates; helicopter programs breached at 62 percent; satellite programs 42 percent; fixed-wing aircraft 41 percent; UAS programs 33 percent; ground vehicles 27 percent; ships 26 percent; missiles 24 percent; C4ISR 22 percent; and missile defense 13 percent.
The report also cites "troubling cases" in which program costs to contractors decreased but the overall price charged to the government increased under cost-plus and hybrid contracts. "In a few CP/H cases, price went up but costs went down, and this also happened more often than in development for all contract types," the report states. "These inverse relationships between cost and profit are not acceptable."
Unsurprisingly, the study found that competed contracts perform better on cost and schedule than those with single bidders or sole-source arrangements. "Thus, we must continue our efforts to seek competitive environments in creative ways," the report states. "Unfortunately, direct competition on some MDAP contracts is often not viable -- especially in production, where significant entry costs, technical data rights, or infrastructure may be barriers. In response, we are seeking ways in which competitive environments and open-system architectures will allow us to introduce competitive pressures." The report did not specify what new methods to foster competition were on the table.
The study also found no meaningful correlation between contract performance and acquisition program manager tenure. "There has been much discussion and some policymaking on the length of time that individuals are PMs," the report states. "Despite vocal concerns about PM tenures being too short and policies that set a minimum tenure, analysis to date has not shown a correlation between PM tenure and program performance."
Last year's report found that poor program management was the most significant contributor to program cost and schedule growth. "Far and away the most significant factor in these large overruns is poor management performance," Kendall wrote in a July 5, 2013, email to DOD acquisition officials. "We can do better, and this report is a tool to help us achieve that end as all of us involved in defense acquisition, in government and in industry, work to continuously improve the outcomes we achieve."
Kendall this year urges acquisition professionals to think in ways that apply best practices to their unique and individual programs, rather than "dictate a cookbook that workforce members blindly follow."
EDIT
also on contracts: