$644.75 for a small gear smaller than a dime that sells for $12.51: more than a 5,100 percent increase in price. $1,678.61 for another tiny part, also smaller than a dime, that could have been bought within DoD for $7.71: a 21,000 percent increase. $71.01 for a straight, thin metal pin that DoD had on hand, unused by the tens of thousands, for 4 cents: an increase of over 177,000 percent.
Taxpayers were massively overcharged in dozens of transactions between the Army and Boeing for helicopter spare parts, according to a full, unredacted Department of Defense Office of Inspector General (DoD OIG) audit that POGO is making public for the first time. The overcharges range from 33.3 percent to 177,475 percent for mundane parts, resulting in millions of dollars in overspending.
The May 3, 2011, unclassified “For Official Use Only” report is 142 pages. Prior to POGO’s publication of the full report, the only publicly available version was a 3-page “results in brief” on the DoD OIG’s website, first reported by Bloomberg News. The findings in the results in brief, while shocking on their own, pale in comparison to the detail contained within the full report. The DoD OIG scrutinized Army Aviation and Missile Life Cycle Management Command (AMCOM) transactions with Boeing that were in support of the Corpus Christi Army Depot (CCAD) in Texas. The audit focused on 24 “high-dollar” parts. Boeing had won two sole-source contracts (the second was a follow-on contract awarded last year) to provide the Army with logistics support—one of those support functions meant Boeing would help buy and/or make spare parts for the Army—for two weapons systems: the Boeing AH-64 Apache and Boeing CH-47 Chinook helicopters.
Overall, for 18 of 24 parts reviewed, the DoD OIG found that the Army should have only paid $10 million instead of the nearly $23 million it paid to Boeing for these parts—overall, taxpayers were overpaying 131.5 percent above “fair and reasonable” prices. The audit says Boeing needs to refund approximately $13 million Boeing overcharged for the 18 parts. Boeing had, as of the issuance of the audit, refunded approximately $1.3 million after the DoD OIG issued the draft version of its report. Boeing also provided a “credit” to the Army for another part for $324,616. The Army has resisted obtaining refunds worth several million dollars on some of the overpriced spare parts, in opposition to the DoD IG's recommendations. For instance, one of the IG's recommendations was that the Army should request a $6 million refund from Boeing for charging the Army for higher subcontractor prices even though Boeing negotiated lower prices from those subcontractors. In response, the Army said that "there is no justification to request a refund."
In calculating what it says the Army should have paid, the DoD OIG assumed Boeing reasonably should charge a 34 percent surcharge fee for overhead, general and administrative costs, and profit, according to the audit report.
Above and beyond what the DoD OIG viewed as fair and reasonable (including the 34 percent surcharge), Boeing’s average overcharges to the Army for these 18 parts range from 33.3 percent to as much as 5,434 percent, based on the DoD OIG’s analysis.
What is even more shocking is the difference in prices the Army would have paid if it procured many of these parts directly from the Defense Logistics Agency (DLA) and from the Army’s own procurement offices, the audit shows. The largest percentage differences cited in the DoD OIG report—such as the 177,475 percent example (which is not among the 18 parts the report focuses on)—compare DLA unit prices to Boeing unit prices.
The Overcharges Add Up
The individual transactions of tens of thousands to millions of dollars examined by the DoD OIG may at first appear to be small potatoes against an annual DoD budget of more than $700 billion, including the costs of the wars. But when viewed over the cost of a weapon system’s lifespan, the total cost of spare parts—including simple components such as ball bearings, retainers for nuts and bolts, sleeve bushings (basically just a metal cylinder), and straight metal pins—can be significant. The cost to buy a weapon system out of the factory, such as the AH-64 helicopter, usually is less than the cost to operate and maintain the weapon over its life. Parts on a weapon have to be replaced at varying intervals and, similar to how the human body replaces most cells in the body in less than a decade, a major weapon system with a long-enough life span may eventually be largely rebuilt with new spare parts. Hence the expression that aircraft are nothing but “spare parts flying in close formation.”
The audit report raises significant questions about what the DoD is paying to maintain and operate major weapons. For instance, the estimated “sustainment” price tag for the Lockheed F-35 Joint Strike Fighter is $1 trillion over the next 50 years. The cost of spare parts makes up a portion of that $1 trillion figure. Spare parts overcharges become quite significant when you add up individual overcharges over time, over a number of weapon systems.
As a Government Accountability Office (GAO) report last year stated, “Weapon systems are costly to sustain in part because they often incorporate a technologically complex array of subsystems and components and need expensive spare parts and logistics support to meet required readiness levels.” However, many spare parts need not be so expensive. Better “acquisition of spare parts and components [can] reduce sustainment costs,” according to another GAO report.
Audit May Add to Debate Over Insourcing
The report may also add fuel to the intense debate over the role of contractors and whether more jobs need to be insourced—that is, converted from functions that are currently contracted out to government positions. The DoD OIG found that the Army had issued a sole-source contract to Boeing to do what the DLA is supposed to do for the entire DoD—obtain parts and materials (“DLA reportedly supplies 84 percent of the military’s spare parts”).
The audit report is somewhat vague on why the Army decided to rely on Boeing. The report states that the Army contracted with Boeing “in an effort to streamline its logistic infrastructure.” The intent was “to implement the most successful business practices that would result in reductions in Apache and Chinook weapon systems repair turnaround time, lower required inventory levels, improved readiness, increased depot capacity, and reduction in total cost.” However, the intended goals of the Army’s contracts with Boeing may not have been met. The DoD OIG found that the Army “overstated repair turnaround time improvements” by Boeing. Boeing benefited from these overstated improvements because the Army “overpaid incentives for the repair turnaround time improvements, and Boeing owes the Army a refund of $6.3 million to $10.9 million,” according to the report. Boeing also supplied parts that were “potentially nonconforming” to required specifications, some of which were “not usable.”
Furthermore, in case after case examined by the DoD OIG, the Army was buying parts for much more money from Boeing that DLA already had in its inventory at significantly lower prices. In some cases, Boeing bought parts from DLA (one part of DoD) and resold them at a higher price to the Army (another part of DoD). From 2007 to 2009, Boeing bought $3.1 million in parts from DLA and sold them to the Army for $4.2 million. “[B]ased on the data Boeing provided us, Boeing made a 35 percent profit on the parts that it bought from DLA,” the audit report states.
In sum, “[t]he Army paid significantly higher prices to Boeing than if it would have procured the same parts from DLA,” according to the audit report. Specifically, Army “officials did not effectively use $339.7 million of existing DoD inventory before procuring the same parts from Boeing,” the audit report says, “because DoD had inadequate policies and procedures addressing inventory use.” There was about $243 million to $278 million in DLA’s excess inventory—an inventory taxpayers have already paid for—that is not being used. Yet, the Army is paying Boeing for overpriced parts.
The Army’s sole-source follow-on contract to Boeing to continue supplying the Corpus Christi Army Depot was also awarded despite the fact that the DLA “had sufficient inventory to satisfy annual contract requirements for 1,635 parts on the follow-on contract,” according to the audit report, “and the Boeing contract price for those items was $8.0 million, or 51.2 percent, higher than the DLA price.” These parts are for smaller dollar amount transactions than the 24 “high dollar” spare parts that the DoD OIG focused on, of which 18 were significantly overpriced. There were another 431 parts where it was cheaper to procure from DLA, but DLA had insufficient inventory, and 757 parts in which purchasing from the contractor was cheaper than procuring from DLA.
Another part of the report states that the Army’s contracts with Boeing are part of a wider trend: “The Services also appear to be moving supply operations and material management functions for consumable items from DLA to the private sector.”
DLA needs to be “the first source of supply when cost effective and practical,” the audit report recommends.
The DoD OIG audit has received some high-level attention within the DoD. “The policy question we are looking at is: are these isolated instances or is it a systemic problem?” Deputy Secretary of Defense William Lynn said in an interview with Bloomberg News. “A systemic problem would suggest we need to take policy steps,” Lynn added.
There are strong reasons to believe the problems are rampant and systemic. “This is not the first time we identified unused DoD inventory,” the DoD OIG audit report says. “During our review of the Air Force Secondary Power Logistics Solution Contract, we identified about $70 million of unused DoD inventory because the Air Force was buying the same parts from a private contractor through a performance-based logistics arrangement.” If changes do “not happen, hundreds of millions of dollars will be wasted as the inventory sits in DLA warehouses, and DoD pays private contractors to provide the same parts.”
Additionally, in 2006, the DoD OIG identified rampant overpricing of spare parts in a DoD sole-source contract with Hamilton Sundstrand, a subsidiary of the United Technologies Corporation. POGO wrote in a letter to Congress, describing some of those DoD OIG findings (many of which had been partially redacted in the publicly available version of their audit report), that there were overcharges of up to 900 percent on the spare parts provided by Sundstrand. POGO also made headlines exposing excessively overpriced spare parts such as the $436 hammer and $640 toilet seat in the 1980s.
The DoD OIG is currently conducting an audit of another Army contract with Sikorsky Aircraft Corporation.
How Did the Overcharges Happen?
There are numerous reasons taxpayers got a raw deal on so many of the parts examined by the DoD OIG. In the 18 “high-dollar” parts for which Boeing overcharged, neither the Army nor Boeing “performed adequate cost or price analyses, and Boeing officials submitted cost or pricing data that were not current, complete, and accurate” for 7 of those parts. “Boeing officials routinely proposed, and AMCOM officials accepted, egregiously deficient cost or pricing data based on unrealistically low quantities that had no relationship to the quantities required or the actual price Boeing negotiated with its subcontractors,” the audit report says. The Truth In Negotiations Act (TINA) requires that contractors pass on current, complete, and accurate cost and pricing data for certain contracts so that the U.S. government will have information parity with contractors when negotiating prices. For instance when TINA applies, if a contractor, such as Boeing, gets a better price from its subcontractors, Boeing is required to tell the government of the better subcontract price so the government can negotiate down what it is paying the contractor.
Yet “Boeing routinely negotiated significantly lower prices with its suppliers shortly after negotiating prices with” the Army, the audit report says, and Boeing “did not share range pricing/quantity discounts with the Army when procurement quantities were increased or when Boeing combined buys, resulting in lower unit prices.”
In some cases, Boeing made spare parts itself, instead of buying them at a much cheaper price from another supplier.
Another reason for the ripoffs: the Army contracting officer did not request Defense Contract Audit Agency (DCAA) audits of subcontracts. The Army “contracting officer instructed the DCAA auditors not to request necessary assist audits of major subcontractors because the assist audits would not be completed in time to incorporate into the report due to the accelerated negotiation schedule,” according to the audit report. In some instances where DCAA was brought in to look at other aspects of the contract with Boeing, DCAA auditors found deficiencies.
Spare Parts Horror Stories
POGO has extracted details from a Department of Defense Office of Inspector General (DoD OIG) audit report on excessively overpriced spare parts that Boeing procured for the Corpus Christi Army Depot (CCAD) in Texas.
The DoD OIG report contains a vast amount of information, but POGO has focused on three prices:
The average unit price Boeing charged the Army under the CCAD contract for each part (Boeing often delivered parts for different unit prices at different times - the average is weighted for the quantity of Boeing's separate parts deliveries). We call this “The Average Price Boeing Actually Charged Per Unit.”
The unit price that the DoD OIG deemed as “fair and reasonable” for Boeing – as a contractor – to charge. According to the report, “To calculate the DoD Inspector General (IG) fair and reasonable price, we reviewed Boeing costs and applied a 34 percent addon or wrap rate to reach the burdened Boeing price. The wrap rate includes Boeing’s costs of doing business such as overhead, general and administrative costs, and the negotiated profit rate.” We call this the “Fair and Reasonable Boeing Unit Price.”
The Defense Logistics Agency (DLA), DoD EMALL, Army Procurement, or Army Aviation and Missile Life Cycle Management Command (AMCOM) unit price – we refer to these as the “DLA,” “DOD EMALL,” “Army,” and “AMCOM” prices. When more than one of these prices is listed in the DoD OIG report for a particular spare part, we rely first on the price from DLA, then from AMCOM, Army, and finally from DOD EMALL. DLA is the primary parts supplier for the DoD. The Army buys spare parts from suppliers. AMCOM’s mission is to help sustain weapons, including ensuring availability of spare parts. DOD EMALL is a website designed to help DOD purchasers find finished goods and services from commercial and government sources.
We use these three numbers to show only two things: 1) how much Boeing charged the government above and beyond what was fair and reasonable for it to charge as a contractor—we call this the “% Increase over Fair and Reasonable Price”; and 2) how much more Boeing charged over what it would have cost to buy the same spare parts at the government-negotiated price (the government often negotiates good deals with suppliers)—we call this the “% Increase over” either the DLA, Army, AMCOM, or DOD EMALL price . POGO strove to show both of these things in each example, but the lack of price data prevented this in some circumstances.
These prices are taken directly from the Department of Defense Office of Inspector General report, “"Excess Inventory and Contract Pricing Problems Jeopardize the Army Contract with Boeing to Support the Corpus Christi Army Depot" (Report No. D-2011-061, dated May 3, 2011). For the percentages comparing the increase of Boeing Weighted Average Unit Prices to the Burdened Boeing Price, POGO relied on the DoD OIG’s calculations. For most of the percentage comparisons of DLA (or Army, AMCOM or DOD EMALL) unit prices to Boeing Weighted Average Unit Prices, POGO did the calculations.
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