oversight

Contractual Features and Related Matters in the S-3A Aircraft Program

Published by the Government Accountability Office on 1971-03-29.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

        ' ~. REPURT TO THE CHAIRMAN,
             PREPAREDNESS INVESTIGATING
      "<s ., SUBCOM, ITTTEE, SENATE COMMITTEE
             ON ARMED SERVICES


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                     ...... , '           ;ecjior,F~.oications 81-a-lo,   OAS



            Contractual Features And
VDo         Related Matters In
            The S-3A Aircraft Program ,.,,,0,,

            Department of the Navy



                                  FlI.E COPY - COMP            EE




             BY THE COMPTROLLER GENERAL                                                   J
             OF THE UNITED STATES




                   O/,'%            /M                    HARCH29,1971
            COMPTROLLER GENERAL OF THE UNITED STATES
                       WASHINGTON. D.C. 20548




B-!63058



Dear Mr. Chairman:

      This is our report on contractual features and related
matters in the Navy's S-3A aircraft program. Our review
was made in response to your request dated July 9, 1970.
The significant contents of the report are summarized in
the digest which is bound in the report.

      During the course of our review we provided copies
of our report draft to representatives of the Department
of Defense and the Department of the Navy for review and
discussion. We did not submit the report to officials of
the Department of Defense for written comments.

      We plan to make no further distribution of this re-
port unless copies are specifically requested, and then
copies will be distributed only after your agreement has
been obtained or public amntouncement has been made by
you concerning the content s of the report.

                                  Sincerely yours,



                                   Comptroller General
                                   of the United States

The Honorable John C. Stennis, Chairman
Preparedness Inve stigating Subcommittee
Committee on Armed Services
United States Senate




           50TH ANNIVERSARY    1921-   1971
COMPTROLLER GENERI.L'S                              CONTRACTUAL FEATURES AND
REPORT TO 7HE CHAIRMAN,                             RELATED MATTERS IN THE
PREPAREDNESS INVESTIGATING SUBCOhMMITTEE,           S-3A AIRCRAFT PROGRAM
SENATE COMITTEE ON ARMED SERVICES                   Department of the Navy
                                                    B-163058


DIGEST


WHY THE REVIEW WAS AMADE

     The Chairman of the Preparedness Investigating Subcommittee, Senate Com-
     mittee on Armed Services, asked the General Accounting Office (GAO) to
     assist the subcommittee in its analysis of the contractual features of
     the Navy's program for developing and producing a twin-jet, four-man-
     crew, carrier-based antisubmarine aircraft, the S-3A.
     It was suggested that GAO include in its review areas of the structure
     of the contract, cost and pricing provisions, management controls, and
     extent of concurrency between development and production; that is, how
     much production is under way before development of the aircraft is com-
     pleted.

FINDINGS AND CONCLUSIONS

     Problems of inflexibility

     Essentially the contract is a "total package procurement," in that de-
     velopment of the aircraft and its production are tied together in one
     contract which was awarded after one competition. The contractor is the
     Lockheed-California Company of the Lockheed Corporation.
     From a strictly legal standpoint, the contract appears to protect the
     Government's interests adequately.
     However, a possible vulnerable feature is that the contract may be
     tightly drawn in favor of the Government to an unrealistic degree. Un-
     foreseen technical or financial problems, or both, may prove that to be
     true. (See p. 10.)
     Development by its very iature involves uncertainty, and there should be
     flexibility in the early stages of a development program. That flexi-
     bility should include appropriate pricing provisions and allowance for
     alternative approaches, with costs and technical factors being continually
     assessed by the Government and the contractor.
     When serious problems come to light in an inflexible contract situation,
     the attention of both parties tends to shift from the primary goal of
Tear Sheet



                                                 MARCH 29,1971
achieving an acceptable product. The contractor tends to search for ways
to acquire additional funds, and the Government tends to concentrate on
strict enforcement of the contract.
The situation can deteriorate until the highest officials of the Depalt-
ment of Defense, the Congress, or ultimately the courts must resolve the
matter. By then, the Government is in an untenable position. It still
needs the weapon system, and forcing the contractor out of business will
not get it. The Government cannot easily begin ain with a new contrac-
tor because that could bring prohibitive costs and delay; moreover, it is
difficult to transfer technical and engineering knowledge from one con-
tractor to another.
The only viable course is to introduce flexibility, belatedly, by ignor-
ing the original tight contract terms, relaxing specifications realisti-
cally, and providing more money to get the job done.
Contract structure

The S-3A contract was developed in a period of transition between the
former Department of Defense (DOD) administration and the present one.
It contains features reflecting the procurement policies of both. On
the one hand, it combines development and production in a single con-
tract, and development is procured on a fixed-price incentive basis.
(See p. 16.) On the other hand, it permits the Government to delay the
start of various production phases until prescribed goals have been
reached in development, or for 6 months, whichever is earlier. (See
p. 22.) A full discussion of contractual features is in chapter 2,
pages 8 to 42.
The optimism that was characteristic of previous major weapon acquisi-
tion programs seems to be present in the S-3A program. Department of-
ficials have testified that, at the start of any development program,
there are "driving forces" that make for a lack of realism and for a
sense of optimism. Planners tend to overstate the threat, which means
overstated requirements. Technical people, in both industry and Govern-
ment, are always optimistic about achieving performance characteristics,
the length of time development will take, and cost. The Government
wants the weapon system and the contractor wants to produce it, so both
have incentive to underestimate costs so that the project will be ap-
proved.
Evidences of optimistic pricing and a tightly drawn contract include
the following facts.
  --Navy's cost estimate for the development effort was about $45 mil-
    lion, or 11 percent higher than Lockheed's estimate. (See p. 13.)
  --Navy's cost estimate for production option lots was $60 million, or
    6.5 percent higher than Lockheed's estimate. (See p. 13.)
  --Lockheed's price for the development effort was some $30 million
    lower than its competitor, although the Lockheed proposal offered a
    more sophisticated weapon system. (See p. 13.)
                             2
             --The records of negotiation clearly indicate that the Navy expects
               Lockheed will experience costs over target on the development work.
               (See p. 13.)

             --The basic aspects of the contract structure that impose substantial
               financial risks on the contractor are:
               1. The development portion of the contract is on a fixed-price in-
                  centive basis. In any major weapon system development, there is
                  a significant degree of technical uncertainty. If unexpected
                  technical problems are encountered, the contractor must bear a
                  major portion of the resulting financial burden.
               2. The contract provides options for production quantities of air-
                  craft under binding ceiling prices. Under such an arrangement,
                  the contractor is subject to the effect or production of unex-
                  pected development problems.
        Although the Navy did not obtain more favorable prices from Lockheed
        during negotiations, it did require certain provisions that had not
        been mentioned in the request for proposals. These provisions increased
        Lockheed's financial risks, yet they were accepted at no increase in
        price. The new provisions included the Variable Quantity Option provi-
        sion and the Pricing of Changes clause. (See p. 14.)
        Additionally, Lockheed had predicated its proposal on the inclusion in
        the contract of a clause providing for abnormal economic inflation ad-
        justments to each of the production lot option prices. The Government
        agreed to adjustments for abnormal economic inflation only with respect
        to the last two option lots. Furthermore, the abnormal inflation cover-
        age that was agreed to is incomplete. (See pp. 30 to 32.)
        Management controls

        The management controls for the S-3A include Navy and contractor project
        management organizations, a contractor performance measuring and report-
        ing system, and various techniques for program assessment by top offi-
        cials of DOD. Generally, the controls appear adequate, if properly ap-
        plied.
         Extent of concurrency

         The extent of planned concurrency between development and production of
         the S-3A is described in chapter 4, pages 51 to 54.)

 MATTERS FOR CONSIDERATION BY THE SUBCOMMITTEE

         Potential problem areas are listed in chapter 5, pages 55 to 59.    Some
         of the more important areas are described below.

Tear Shect




                                         3
Possible need for relief for contractor
The conservative pricing and tight structuring of the contract may force
the contractor to seek relief from the Government   in order to continue
work. (See pp. 8 to 15.) Potential    events  that could precipitate such
a need and, thus, should be monitored  by the  Subcommittee, are

  --an increase in the rate of economic inflation or even a continuance
    of the present rate for a prolonged time (see p. 55);

  --the occurrence of major development problems (see p. 55); and
  --ordering by the Navy of minimum, or near minimum, quantities of the
    aircraft, as permitted under the production options (see p. 55.)
Production decision

A decision on whether the S-3A will go into production is scheduled   in
February or March 1972. That date may be premature    and may not allow
time for technical data from tests that would  be available in a few
months more to the decisionmakers.  Also, it  appears  that the decision
will be made in an atmosphere where program advocates are overly   influ-
ential. GAO believes that consideration should be   given  to conducting
an assessment of the S-3A, independent of program management, prior to
the production decision. (See p. 56.)


 Concurrency of dveZopment and production

 Under the plan to start production before development is completed,
 there is the real possibility that, after many aircraft are manufactured
                                                               are needed
 or in production, tests will show that significant changes have
 to ensure an effective weapon system.   Changes then  would       to be
 made to completed or partially completed  units and  would  require sub-
 stantial additional amounts of time and  money.  (See  p.  57.)

 Responsibility for total system performance

 The contract purports to impose total responsibility for performance   of
 the S-3A system on the prime contractor (Lockheed).   However,  the Navy
 negotiator states that, under some circumstances, the Government must
 pay for modifying Government-furnished equipment so that it   will be
 suitable for use in the S-3A. An attorney  for the  Naval Air  Systems
 Command disagrees. The variance in interpretation   indicates  that a
 dispute may arise in that area. (See p. 58.)




                                4
                       C o n t e n t s
                                                         Page

DIGEST                                                     1

CHAPTER

  1       INTRODUCTION                                     5
              The S-3A mission                             5

  2       CONTRACTUAL ARRANGEMENTS                         8
              Contract award background                    8
              Overall merits of contractual arrange-
                ments                                     10
                  Fixed price development with pro-
                    duction options                       12
                  Conservative pricing                    13
              Contract description                        16
              Key contract clauses                        17
                  Clause granting options to pur-
                    chase additional quantities           19
                  Project milestones                      22
                  Ordering-Date Extension                 26
                  Defects                                 26
                  Economic Escalation                     30
                  Pricing of Changes                      33
                  Installment Funding                     36
                  Performance responsibility prime
                    and associate contractor rela-
                    tionships                             38
                  Stop-Work Order                         41
                  Restraint of Competition                41

  3       MANAGEMENT CONTROLS                             43
              Project management organization             43
              Performance measurement                     43
              Other management tools                      45
              Development Concept Paper                   45
              Thresholds                                  46
              Defense Systems Acquisition Review
                Council                                   48
              Independent assessment needed by Defense
                Systems Acquisition Review Council for
                production decision                       49
CHAPTER                                                 Page

      4    EXTENT OF CONCURRENCY                         51
               Areas of primary technical risk           53

      5    POTENTIAL, PROBLEMS TO BE MONITORED           55
               Possibility of need for extra con-
                 tractual relief                         55
               Upcoming production decision              56
               Concurrency of development and produc-
                 tion                                    57
               Cost threshold for production aircraft    57
               Less than total system performance re-
                 sponsibility                            58
               Possible side effects from the pricing
                 of changes clause                       58
               Possible side effects from restraint
                 of competition clause                   59

      6    SCOPE OF ANALYSIS                             60

APPENDIX

           Letter dated July 9, 1970, from Chairman,
             Preparedness Investigating Subcommittee,
             Senate Committee on Armed Services          63

                         ABBREVIATIONS

ASPR       Armed Services Procurement Regulation

AWACS      Airborne Warning and Control System

DOD        Department of Defense

GAO        General Accounting Office
COMPTROLLER GENERAL'S                                CONTRACTUAL FEATURES AND
REPORT TO THE CHAIRMAN,                              RELATED MATTERS IN THE
PREPAREDNESS INVESTIGATING SUBCOMMITTEE,             S-3A AIRCRAFT PROGRAM
SENATE COMMITTEE ON ARMED SERVICES                   Department of the Navy
                                                     B-163058

DIGEST

WHY THE REVIEW WAS MADE

     The Chairman of the Preparedness Investigating Subcommittee, Senate Com-
     mittee on Armed Services, asked the General Accounting Office (GAO) to
     assist the subcommittee in its analysis of the contractual features of
     the Navy's program for developing and producing a twin-jet, four-man-
     crew, carrier-based antisubmarine aircraft, the S-3A.
     Itwas suggested that GAO include in its review areas of the structure
     of the contract, cost and pricing provisions, management controls, and
     extent of concurrency between development and production; that is,how
     much production is under way before development of the aircraft is com-
     pleted.

FINDI.,"7'S AND CONCLUSIONS

     ProbZems of inflexibiZity

     Essentially the contract is a "total package procurement," in that de-
     velopment of the aircraft and its production are tied together in one
     contract which was awarded after one competition. The contractor is the
     Lockheed-California Company of the Lockheed Corporation.
     From a strictly legal standpoint, the contract appears to protect the
     Government's interests adequately.
     However, a possible vulnerable feature is that the contract may be
     tightly drawn in favor of the Government to an unrealistic degree. Un-
     foreseen technical or financial problems, or both, may prove that to be
     true. (See p. 10.)
     Development by its very nature involves uncertainty, and there should be
     flexibility in the early stages of a development program. That flexi-
     bility should include appropriate pricing provisions and allowance for
     alternative approaches, with costs and technical factors being continually
     assessed by the Government and the contractor.
     When serious problems come to light in an inflexible contract situation,
     the attention of both parties tends to shift from the primary goal of




                                     I
achieving an acceptable product. The contractor tends to search for ways
to acquire additional funds, arid the Goecrnment tends to concentrate on
strict enforcement of the contract.
The situation can deteriorate until the highest officials of the Depart-
ment of Defense, the Congress, or ultimately the courts must resolve the
matter. By then, the Government is in an untenable position. It still
needs the weapon system, and forcing the contractor out of business will
not get it. The Government cannot easily begin again with a new contrac-
tor because that could bring prohibitive costs and delay; moreover, it is
difficult to transfer technical and engineering knowledge from one con-
tractor to another.
The only viable course is to introduce flexibility, belatedly, by ignor-
ing the original tight contract terms, relaxing sppcif'cations realisti-
cally, and providing more money to get the job done.
Contract structure

The S-3A contrat was developed in a period of transition between the
former Department of Defense (DOD) administration and the present one.
It contains features reflecting the procurement policies of both. On
the one hand, it combines development and production in a single con-
tract, and development is procured on a fixed-price incentive basis.
(See p. 16.) On the other hand, it permits the Government to delay the
start of various production phases until prescribed goals have been
reached in development, or for 6 months, whichever is earlier. (See
p. 22.) A full discussion of contractual features is in chapter 2,
pages 8 to 42.
The optimism that was characteristic of previous major weapon acquisi-
tion programs seems to be present in the S-3A program. Department of-
ficials have testified that, at the start of any development program,
there are "driving forces" that make for a lack of realism and for a
sense of optimism. Planners tend to overstate the threat, which means
overstated requirements. Technical people, in bot;) industry and Govern-
ment, are always optimistic about achieving performance characteristics,
the length of time development will take, and cost. The Government
wants the weapon system and the contractor wants to produce it, so both
have incentive to underestimate costs so that the project will be ap-
proved.
Evidences of optimistic pricing and a tightly drawn contract include
the following facts.
  --Navy's cost estimate for the development effort was about $45 mil-
    lion, or 11 percent higher than Lockheed's estimate. (See p. 13.)
   --Navy's cost estimate for production option lots was $60 million, or
     6.5 percent higher than Lockheed's estimate. (See p. 13.)
   --Lockheed's price for the development effort was some $30 million
     lower than its competitor, although the Lockheed proposal offered a
     more sophisticated weapon system. (See p. 13.)
                              2
      --The records of negotiation clearly indicate that the Navy expects
        Lockheed will experience costs over target on the development work.
        (See p. 13.)
      --The basic aspects of the contract structure that impose substantial
        financial risks on the contractor are:
        1.The development portion of the contract is on a fixed-price in-
          centive basis. Inany major weapon system development, there is
          a significant degree of technical uncertainty. Ifunexpected
          technical problems are encountered, the contractor must bear a
          major portion of the resulting financial burden.
        2.The contract provides options for production quantities of air-
          craft under binding ceiling prices. Under such an arrangement,
          the contractor is subject to the effect on production of unex-
          pected development problems.
    Although the Navy did not obtain more favorable prices from Lockheed
    during negotiations, it did require certain provisions that had not
    been mentioned in the request for proposals. These provisions increased
    Lockheed's financial risks, yet they were accepted at no increase in
    price. The new provisions included the Variable Quantity Option provi-
    sion and the Pricing of Changes clause. (See p. 14.)
    Additionally, Lockheed had predicated its proposal on the inclusion in
    the contract of a clause providing for abnormal economic inflation ad-
    justments to each of the production lot option prices. The Government
    agreed to adjustments for abnormal economic inflation only with respect
    to the last two option lots. Furthermore, the abnormal inflation cover-
    age that was agreed to is incomplete. (See pp. 30 to 32.)
    Management controls

    The management controls for the S-3A include Navy and contractor project
    management organizations, a contractor performance measuring and report-
    ing system, and various techniques for program assessment by top offi-
    cials of DOD. Generally, the controls appear adequate, ifproperly ap-
    plied.
     Entent of concurrency
     The extent of planned concurrency between development and production of
     the S-3A is described inchapter 4, pages 51 to 54.)

MATTERS FOR CONSIDERATION BY THE SUBCOMMITTEE

     Potential problem areas are listed inchapter 5, pages 55 to 59.   Some
     of the more important areas are described below.




                                  3
Possible need for relief for contractor
The conservative pricing and tight structuring of the contract may force
                                        Government in order to continue
the contractor to seek relief from theevents
work. (See pp. 8   to 15.)  Potential        that could precipitate such
a need and, tlhus, should be monitored by the Subcommittee, are

  --an increase in the rate of economic inflation or even a continuance
    of the present rate for a prolonged time (see p. 55);

  --the occurrence of major development problems (see p. 55); and
  --ordering by the Navy of minimunl, or near minimum, quantities of the
    aircraft, as permitted under the production options (see p. 55.)
Production decision

A decision on whether the S-3A will go into production is    scheduled in
February or March 1972. That date may  be premature   and may   not allow
                                               be available
time for technical data from tests that would appears          in a few
months more to the decisionmakers. Also,  it           that  the  decision
will be made in an atmosphere where program advocates   are  overly  influ-
ential. GAO believes that consideration should   be given   to  conducting
an assessment of the S-3A, independent of program management, prior to
the production decision. (See p. 56.)


 Concurrency of deVel opment and production
 Under the plan to start production before development is completed,
 there is the real possibility that, after many aircraft are manufactured
                                                             are needed
 or in production, tests will show that significant changes have
 to ensure an effective weapon system. Changes then would        to be
 made to completed or partially completed units and would  rr'uire sub-
 stantial additional amounts of time and money. (See  p.  57

 Responsibility for total system performance
 The contract purports to impose total responsibility for performance    of
 the S-3A system on the prime contractor (Lockheed). However, the mustNavy
 negotiator states that. under some   circumstances,  the Government
                                                        that it will be
 pay for modifying Government-furnished equipmenttheso Naval
 suitable for use in the S-3A.   An  attorney for            Air Systems
 Command disagrees. The variance    in interpretation  indicates that a
 dispute may arise in that area.    (See p, 58.)




                                 4
                         CHAPTER 1

                       INTRODUCTION

      ihne General Accounting Office has performed an analysis
o. the Department of the Navy contract for development and
Prroduction of the S-3A aircraft weapon system. Our analysis
was performed in response to the request dated July 9, 1970,
from the Chairman, Preparedness Investigating Subcommittee,
Committee on Armed Services, United States Senate.    (See
app. I.)    In the same request, the Chairman also requested
a similar analysis of the Department of the Air Force con-
tract for development and production of the Airborne Warn-
ing and Control System (AWACS).    The AWACS analysis is the
subject of a separate report.

     The Chairman expressed an interest in our opinions on
the merits of the management and contractual aspects of the
S-3A program and any potential problem areas that should be
monitored. The Chairman wanted our analyses to include the
areas of contractual structure, cost and pricing provisions,
management controls and the extent of concurrency between
development and production in the S-3A program.

THE S-3A MISSION

     The mission of the S-3A is antisubmarine warfare: to
seek and destroy hostile submarines.  The S-3A is a twin-
jet engine aircraft with a four-man crew, designed to oper--
ate from an aircraft carrier. The jet engines will be the
newly developed TF-34-2 General Electric high-bypass turbo-
fan engines developing about 9,000 pounds of thrust each.

     The heart of the S-3A weapon system will be its highly
sophisticated and complex avionics (aviation electronics)
subsystems. For example, one of the key avionics subsystems
is the Univac general-purpose digital computer. This com-
puter will do such things as preflight checkout of other
subsystems, navigational computations, tactical data process-
ing, acoustic contacts classification, and weapon trajecto-
ries calculation and will indicate when one of the subsystems
is malfunctioning.



                             5
     We have included En illustration of the S-3A in order
to describe the overall physical dimensions of the aircraft
and point out such features as the folded wings and tail
that are characteristic of carrier-based aircraft. (See
fig. 1, p. 7.)




                            6
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                        CHAPTER 2


                CONTRACTUAL ARRANGEMENTS

CONTRACT AWARD BACKGROUND

     In late December 1967 the Navy issued requests for pro-
posals to the aircraft industry. Five major defense con-
tractors responded. Two of these contractors, the Convair
Division of General Dynamics and the Lockheed-California
Company of the Lockheed Corporation, were awarded contracts
for contract definition in August 1968 and were requested
to submit firm cost and technical proposals for engineering
development and production of the S-3A.

     In August 1969 Lockheed was declared the winner of the
competition and was awarded a fixed-price incentive contract
for the engineering development of the S-3A and for six re-
search and development aircraft at a ceiling price of
$461 million. The contract also includes five options for
additional aircraft. The first option lot (contract lot
II) for two additional research and development aircraft
was exercised on October 1, 1970.  The other four options
are for production aircraft.

     The contract was originally structured so that eight
research and development aircraft were included in a single
lot. However, for funding reasons, two of the research and
development aircraft were placed in a second lot before con-
tract award, with six aircraft remaining in lot I.

     The S-3A weapon system contract was the result of in-
tensive competition during the contract definition phase.
In 1969, which has been labeled by the financial community
as a disaster year for the aerospace industry, the compe-
tition was intensive because both contractors were seeking
the award of a contract for development and production of
the S-3A weapon system valued at about $1.7 billion.

      In a procurement environment such as this, the Govern-
ment has considerable bargaining power in establishing con-
trac't terms and conditions. Each contender tends to acqui-
esce to the Government's conditions for fear that the other

                             8
contractor will accept and that this will result in the loss
of the multibillion-dollar procurement prize to the reluc-
tant contractor. The Government and defense contractors
are well aware of the hazards of this procurement system.
Both competitors for the S-3A program had encountered sig-
nificant problems on prior Government programs: General
Dynamics with its F-lll program and Lockheed with its C-5A
transport, AH-56A Cheyenne helicopter, and Short Range At-
tack Missile motor programs.

     The optimism that has characterized prior major weapon
acquisition programs also seems to be present in the S-3A
program. At congressional hearings DOD officials have tes-
tified that, at the beginning of any new development pro-
gram, there are "driving forces" which make for a lack of
realism and a sense of optimism. Planners tend to overstate
the threat, which means overstated requirements. Then the
technical people, both in industry and in Government, are
always optimistic about the performance characteristics they
can achieve, how long the development will take, and what it
will cost. The user wants the new weapon system and the
contractor wants to produce it, so both have a great incen-
tive to underestimate the cost so that the project will be
approved.




                            9
OVERALL MERITS OF CONTRACTUAL ARRANGEMENTS

     From a strictly legal point of view, we are of the opin-
ion that the S-3A contractual instrument adequately protects
the interest of the Government in that, except for the mat-
ter discussed on page 38, there are no obvious "loopholes"
or ambiguities providing an opportunity for the contractor
to evade the apparent intent of the contract clauses. It
is our opinion that, if the S-3A contract does contain a vul-
nerable feature, it is the possibility that unforeseen tech-
nical and/or financial problems may prove that the contract
is too tightly drawn in favor of the Government.

      The ultimate purpose of a contractual instrument is to
define the rights and duties of the respective parties and,
at least in Government contracts, to equitably allocate the
financial risks to be assumed by the parties. A contract
which places undue risk on the contractor--either by means
of contract type or by means of too tightly drawn risk-
allocating clauses--may fail because it will not allow deliv-
ery of an acceptable product within contractual limitations.
The result of such a contract is that the Government pays
more than the contractual price for the end product and
possibly more than the price for which the end product
could have been secured had a more realistic contract orig-
inally been entered into. Thus, the recent proposed "re-
structuring" of the C-5A contract into a "fixed loss" con-
tract, in effect, ignores the terms of the original contract
document to allow delivery of an acceptable end product.
While the financial pressure forcing such restructuring
stems, in part, from the reduced levels of both defense and
commercial business, the pressure may also be said to stem,
at least in part, from overburdensome contracts.

     The apparent economy of a tightly drawn, tightly priced
contract, therefore, may be illusory because the total cost
to the Government may exceed the contractually stated amounts
by the amount necessary to deliver acceptable end-items to
the Government in the event extracontractual relief is
agreed upon. Further, the efficiency of the contractor and,
therefore, the interests of the Government, may decrease to
a marked extent as contractor officials direct their atten-
tion to the problem of searching out ways to acquire addi-
tional funds, either by claims or changes within the

                            10
contract scope or by building a case for extracontractual
assistance outside its scope. This management concentration
on contractual concerns, as opposed to the more important
concern of developing and producing an acceptable product,
can also spread to Government management as more emphasis
is placed on holding the contractor strictly to his contract
rather than on using reason and judgment to arrive at equi-
table solutions to problems.

      As indicated in the previous section, the S-3A contract
was negotiated in a highly competitive atmosphere.   The re-
sult was that the contractor made concessions to the Govern-
ment which otherwise might have been resisted. The S-3A
contract, at least on paper, is a "tough" one, preservi;-,;
to the Government the right to require performance within
contractual cost constraints.   The problem of "buy in"--the
quoting of overoptimistic cost, schedule, and performance
estimates with the hope of recouping during performance by
means of changes--appears to have been prevented by the use
of the modified-total-package-contract type requiring cost
ceilings for development and production and the inclusion of
 a Pricing of Changes clause designed to control contractor-
 initiated changes.

      It remains to be seen, however, whether cost estimates
made under the pressure of strong competition for Govern-
ment business together with contractual terms barring later
recoupment will become problems in the S-3A contract. Lock-
heed has indicated confidence in its cost figures and its
ability to meet schedule and performance requirements while
remaining under ceiling. However, the conservative nature
of Lockheed's cost proposal, the use of a fixed-price incen-
tive features for the development portion of a contract call-
ing for inclusion of a sophisticated avionics package in a
carrier-based airplane, the options for production quantities
of aircraft under binding ceiling prices, and the failure to
provide for adjustment in the case of abnormal escalation in
 the economy until the 5th contract year, could all combine
with Lockheed's already precarious financial condition to
create a situation where extracontractual assistance may be
necessary to allow completion of the contract. (Lockheed's
 financial report shows a net loss, after taxes, of $32.6 mil-
 lion in 1969. Final settlement with DOD to limit its losses
under the C-5A and Cheyenne programs is still pending.)

                              11
We emphasize that we do not anticipate that this will be the
case. However, it is our opinion that, if the contract
becomes a problem in the S-3A procurement, it will be be-
cause of the contract's tightness rather than its looseness.

Fixed price development with production options

      In our opinion experience has shown that the use of
fixed-price development contracts with binding production
options, total package procurement, is generally inad-
visable in a major weapon system procurement because of the
risk that contractually imposed inflexibility will bring
about contract failure if major development problems arise
or if the contract is too tightly priced. The current phi-
losophy within DOD is that development contracts should be
on a cost-type basis as opposed to a fixed-price basis be-
cause of the increased flexibility provided by the cost type.
Additionally, recent pronouncements by top officials of DOD
 indicate that development and production of future weapon
systems may be contracted for separately rather than purchased
by so-called total package or modified total package con-
 tracts; in fact, the most recent major weapon system to go
 into engineering development, the B-1 bomber, contains no
production options.

     The structuring of the S-3A contract took place before
DOD established the policies described above. With the ex-
ception of the clause providing that production options are
to be slipped until certain development milestones have
been passed or for 6 months, whichever is earlier, the S-3A
contract generally reflects the procurement policies and
practices which were in effect throughout most of the 1960's.

     In our opinion, if the development risk has been deter-
mined to be sufficiently low and pricing is realistic, no
impediment exists to the use of a fixed-price development
contract or for that matter to the inclusion of development
work with binding production options in a single contract.
     The Navy chose to use a fixed-price development con-
tract with binding production options for the S-3A because,
in the Navy's engineering judgment, the development risk in-
volved was sufficiently low to ensure development within
contractually required targets and/or ceilings. Our visits
to Lockheed, to major subcontractors, and to the Naval
                             12
Development Test Center, Warminster, Permsylvania, disclosed
no major development problems. We cannot conclude, there-
fore, that the determination to use a fixed-price develop-
ment contract with binding production options in the S-3A
program was not a proper exercise of the discretion vested
in the Navy contracting officials.

Conservative pricing

     However, as indicated earlier, several interrelated
factors including, but not limited to, the use of a fixed-
price development contract with binding production options
could, under certain circumstances, combine to result in
contract failure. A review of the records of negotiations
indicates that the prices accepted by Lockheed in the S-3A
competition may actually have been so conservative as to
lead to the possibility that, under adverse conditions, the
contract ceilings could be breached.

     This view is supported by the fact that the Navy's in-
dependent cost estimate for S-3A research and development
(lot I, which at that time consisted of eight research and
development aircraft) was some $45 million, or 11 percent,
higher than the cost initially proposed by Lockheed. Fur-
ther, Lockheed's price for this work was some $30 million
lower than its competitor's although, according to negoti-
ation records, the Lockheed proposal, technically speaking,
called for a more sophisticated weapon system than its com-
petitor. Finally, the Navy's cost estimate for lots II
through V was some $60 million, or 6.5 percent, higher than
Lockheed's cost estimate. The Headquarters, Naval Material
Command, approval of the Request for Authority to Contract
for the S-3A program stated, with respect to the conserva-
tive nature of the Lockheed proposal, that, in view of the
admitted probability that Lockheed would exceed target and
possibly even reach ceiling on lots I and II, "it would be
prudent, in this case, to budget on some other basis than
target price" (the usual budget base). Also, the Request
for Authority to Contract stated that Lockheed's assumption
of a 70:30 cost-sharing ratio in the development portion of
the contract (whereby Lockheed pays 30 percent of all costs
over target up to ceiling), coupled with its conservative
lot I estimate and its agreement to be bound by variable op-
tion quantity production ceiling indicated, "a willingness to

                             13
assume considerably more cost risk than is ordinarily asso-
ciated with fixed-price incentive contracts."

     Although the Navy made no attempt during negotiations
to obtain more favorable prices from Lockheed, it did re-
quire the contractor to accept certain provisions in the
contract which had not been mentioned in the request for
proposals. Although these provisions increased the con-
tractor's financial risks under the contract, they were
accepted by the contractor at no increase in price. The new
provisions included the Variable Quantity Option provision
and the Pricing of Changes clause.

     Additionally, Lockheed had predicated its proposal on
the inclusion in the contract of a clause providing for
adjustments to each of the production lot option prices for
abnormal economic inflation. The Government, however, would
agree to adjustments for abnormal economic inflation only
with respect to the last two option lots, thus the prices of
lots I through IV were left unprotected from abnormal infla-
tion. Since negotiation of the contract, inflation has
increased at a rate significantly in excess of that antic-
ipated by either party. Although both the Navy and Lockheed
have expressed confidence that ceilings through lot IV will
not be exceeded in spite of the abnormal inflation experi-
ence, the absorption of the unanticipated inflation within
the unescalated ceilings obviously reduces the cost flexi-
bility originally contemplated by the choice of a 130-per-
cent ceiling.

     Finally, in April 1969, after negotiations had been
completed but before the contract was awarded, the Director
of Defense Research and Engineering was briefed on the re-
sults of negotiations. At this meeting the Director stated
his belief that the Navy should require that the contract
include provisions for delay of production options until
such time as major development milestones had been met.
The Deputy Secretary of Defense subsequently agreed with
this recommendation. The Navy then reopened negotiations
and included the Project Milestones clause in the contract.
Lockheed accepted inclusion of this clause at no increase




                            14
in price, although contractor financial risk was increased.
It was agreed to include, in addition to the Project Mile-
stone clause, a 6-months extension of the schedule for the
research and development portion of the contract in order
to render milestone accomplishments, particularly the avi-
onics portion of the contract, less risky. This schedule
stretch-out somewhat balances the increased financial risk
represented by the milestone requirement.




                            Is
CONTRACT DESCRIPTION

     The S-3A prime contract continues the practice followed
in recent major weapon system acquisitions of obtaining bind-
ing production commitments at the same time development is
contracted for. This practice was designed to obtain compe-
tition in the pricing of both the development and production
portions of the required effort. This feature is the most
important element of the so-called total package procurement
concept.

     The S-3A program was the next aircraft program in DOD
to go into full-scale development following the F-14 program.
Due to this proximity and to the fact that the F-14 is a
Navy program, the F-14 contract served as the chief example
for the Navy in structuring the S-3A contract. In most re-
spects the two contracts are very much alike. Important
differences are noted in following sections of this report.

      The S-3A contract with Lockheed is a fixed-price incen-
 tive contract. The initial phase of the contract (lots I
and II) provides for design, development, and testing, and
the furnishing of weapon system data and eight S-3A research
and development aircraft at a target cost of $371.2 million,
a target profit of $44.6 million or 12 percent of target
cost, and a ceiling price of $482.6 million, or 130 percent
of target cost. These target and ceiling prices reflect the
movement of certain work from lot II to lot III and contract
changes through November 29, 1970. Under the fixed-price
incentive formula, the contractor is to receive 30 percent
of the amount by which his costs underrun target costs and
pay 30 percent of the amount by which his costs exceed the
target cost. The Government receives or pays 70 percent of
the amount of costs under or over target cost, as applicable.
In a fixed-price incentive contract, the margin between tar-
get and ceiling prices and the cost-sharing ratio are the
two most important individual factors in the contract in al-
locating risks between the contractor and the Government.

      The pricing features of the research and development
portion of the S-3A contract are similar to those of the
F-14 contract, except that the latter contract provides for
a target profit of 10 percent and a price ceiling of 125 per-
cent.

                             16
     Unlike the F-14 contract, the S-3A contract provides
for cost incentives only; that is, no provision is made for
profit incentives based on demonstrated weapon system per-
formance. The contract, however, does have a negative in-
centive against the late delivery of the four aircraft sched-
uled for the Navy's Board of Inspection and Survey tests
(the first four aircraft in lot III). The contract provides
that specified liquidated damages will be assessed against
the contractor for each day each of the four aircraft is de-
livered late up to a maximum of $3 million for all aircraft.

     The S-3A contract includes options for production air-
craft in addition to the research and development efforts
under lots I and II. These options are discussed in consid-
erable detail under a separate heading.

     Progress payments will be made at the rate of 80 per-
cent of the contractor's total costs incurred under the con-
tract; however, the aggregate amount of progress payments
may not exceed 71.5 percent of the total contract price.

     Research and development, in contrast to production,
involves the delivery of relatively little hardware which
could be billed to the Government as deliveries are made.
Therefore, the S-3A contract provides that partial payments
will be made for research and development effort (excluding
lot II effort) on the basis of satisfactory accomplishment
of specified events.

KEY CONTRACT CLAUSES

     This section of the report is devoted to evaluation of
the clauses and provisions of the S-3A contract, which ap-
pear, in our judgment, to be most noteworthy. Most of these
clauses are considered particularly important because they
seek (as do the ceiling price margin and the cost-sharing
ratio which were mentioned previously) to allocate the finan-
cial risks of unexpected events in performance of the con-
tract between the contractor and the Government.

     One clause, the Project Milestone clause, was selected
because of the importance attached to it by to, officials in
DOD. The S-3A marks the first use of this clause in a de-
fense weapon contract.

                             17
    The Restraint of Competition clause is discussed since
it represents an attempt to avoid some of the past problems
in subsequent purchases of spare parts and assemblies di-
rectly from actual manufacturers rather than through the
prime contractor. This clause is relatively new and has
been used previously in only two or three defense contracts.




                             18
Cle.a e granting options to
purchase additional quantities

     In addition to lots I and II, which cover research and
development and the furnishing of eight developmental air-
planes, the contract contains four options for production
lots of aircraft.  (See schedule below.) The option for
the first production lot must be exercised by April 1, 1972,
if the milestones have been successfully demonstrated.
(See p. 23.)

              Schedule of Production Lot Options

                                 Ceiling prices
           Range of                   for
          quantities           median rquantities       Option
Lots   Minimum Maximum      Quantity   Ceiling price     date

 III      7         26           17a   $   265,648,566 4-1-72
  IV     23         92           52a       379,221,527 2-1-73
   V     30         92           60        381,503,819 11-1-73
  VI     30         92           62        383,243,983 10-1-74

         90       302          191     $1,409,617,895

aCurrent plans indicate that four aircraft will be shifted
 from lot III to lot IV.

     Lots I and II are to be considered together for final
pricing with the ceiling prices added together for this
purpose. The price of each production lot option (lots III
through VI) will be negotiated separately on a fixed-price
or fixed-price incentive basis at the choice of the Govern-
ment.

     The ceiling prices for the production lot options are
contingent upon authorization of long-lead-time funding in
accordance with a schedule set out in the contract. Long-
lead-time funding is required to enable the contractor to
begin production of components which take exceptionally
long periods of time to produce. Failure to provide full
and timely long-lead-time funding entitles the contractor
to an adjustment in ceiling prices and delivery terms, as
may be appropriate.

                              19
     The contract provides that prices for the production
                                                 However,
lot options may not exceed the ceiling prices.
                                              as a result of
the ceiling prices may be equitably adjusted as permitted
change orders and contract modifications or       such as
under various contractual clauses or provisions,
                                                        the
the funding-delay adjustment mentioned above. Perhaps
                                                    for ad-
best example of such a clause is the one providing
                                                   p. 30.)
justments for abnormal economic escalati3n. (See

     Variable quantity option provision
                                                         lot
     The number of aircraft in each production option
                                             or  minus.   For
can be varied about 50 percent, either plus        to  order
example, on lot III the Gocszunent has the right
from seven to 26 aircraft. This is known as   the variable
                                    prices  have  been estab-
quantity option provision. Ceiling
                                                     of air-
lished in the contract for the varying quantities
                                                      The unit
craft which may be ordered under each option lot.
                                                  or  decrease
price of each aircraft in the lot will increase
                                                       quan-
depending on the quantity ordered; that is, smaller
                                                  quantities
tities will mean higher unit prices and greater
                                                  schedule is
will mean lower ones. The prescribed delivery              set
also subject to adjustment in accordance with guidance
forth in the contract.
                                                          Gov-
      The variable quantity option provision allows the
                                                     the  con-
ernment a considerable degree of flexibility  under
                                                 is not as
tract. For example, if progress in development      than the
good as desired, the Government could order  fewer
                                                    alterna-
medianquantitiesunder the option lots. The same            by
                                             are imposed
tive would be useful if funding constraints
the Secretary of Defense or by the Congress. Extracon-
                                              the apparent
tractual considerations, however, may reduce
                                                 review of the
flexibility provided by this provision. In our
                                                        indi-
F-14 aircraft program for the Subcommittee, we found
                                                         tnder
cations that, if the minimum lot quantities permitted
                                                 find   it
that contract were ordered, the contractor might      from
 necessary to seek extracontractual financial relief
 the Government.

      In connection with the S-3A program, Lockheed offi-
 cials have informed us that two of its major subcontractors
                                                       simi-
 will not accept a variable quantity option provision
                                                 the  parties
 lar to the one contained in the prime contract;
                              20
are still negotiating this matter, however. Specifically,
these subcontractors will not accept a subcontract which
allows orders for less than the median quantities of the
options as set out in the prime contract. This situation
 :onceivably could result in substantial losses to the prime
contractor if the Government chose to exercise the produc-
tion option lots in the minimum or near minimum quantities.

     Acceptance of design deficiencies

     The contract contains specific provisions concerning
production aircraft in the event that the Government chooses
not to require correction of a design deficiency following
Navy acceptance tests (Board of Inspection and Survey trials)
but, instead, desires to continue procuring the aircraft.
The applicable specifications for all aircraft to be deliv-
ered in the future will be changed to reflect the perfor-
mance attained during the tests. The price of all aircraft
on order, both delivered and undelivered, will be adjusted
in accordance with the Inspection and the Defects clauses to
reflect the design deficiency. The ceiling price of air-
craft on option but not yet ordered will not be adjusted,
the rationale apparently being that the design deficiency
will be a factor in negotiating the firm price or firm target
prices for the option lots when the options are exercised.

     On the other hand, if the Government chooses not to re-
quire correction of a deficiency in delivered aircraft but
to require its correction in all others, the specifications
will remain unchanged. The nonrecurring cost of correcting
the deficiency in all lots will be charged to lot I, and a
downward equitable adjustment will be made in the price of
those aircraft in which the correction is not required.

     The provisions discussed here concerning the treatment
of design deficiencies are of interest primarily because
they frankly suggest the possibility that the Government
may choose to accept an S-3A system with less performance
capability than that specified in the contract. The same
provisions were used in the F-14 contract. The Navy advised
us that use of such provisions in that contract was consid-
ered realistic since the Government generally had accepted
less performance capability in major weapon systems than
initially specified.

                             21
Project milestones

     The S-3A program is the first major weapon system pro-
gram to provide, by contract, strong Government remedies
for the contractor's failure to meet specified development
milestones (also variously called risk assessment milestones,
project milestones, progress milestones, etc.). This fea-
ture requires that, until the contractor demonstrates that
development of the system has passed specified technical
milestones, the Government may delay the actions it must
take, such as allotment of funds and the exercising of op-
tions for additional aircraft. No ordering date can be ex-
tended more than 6 months, however, without loss of that
option as well as future options. The development mile-
stone provision represents an attempt to avoid the adverse
situations associated with entering production before sig-
nificant problems of development are solved.

     The development milestone feature subsequently has
been included, in one form or another, in the following de-
fense contracts for major weapon systems: Airborne Warning
and Control System (AWACS), the F-15, the B-l, the
AN/TPQ-27 ground-directed bombing system, and the AN/TPN-19
landing control system.

     Top officials of DOD have indicated that milestones
will be included in all future major weapon system develop-
ment contracts in which substantial degrees of development
risk are present. A special study group established by the
Deputy Assistant Secretary of Defense (Procurement) recently
completed a review of development milestones as related to
defense contracting. The group's recommendations for Armed
Services Procurement Regulation (ASPR) coverage of mile-
stones was communicated to the ASPR Committee. TLe proposed
coverage is confined mainly to broad, policy-type discus-
sion and provides flexibility to Government procurement of-
ficials in devising milestones for particular contracts.

     We believe that the milestone provision, in appropriate
cases, should be a useful device in helping the Government
avoid committing large sums of money to production before
major development problems are solved. The success of this
new feature, in those cases where it has been used, can


                              22
 only be determined by experience. Sufficient time has not
-yet elapsed to permit such a determination.

     Top officials of DOD have recently announced changes
in procedures for acquiring major weapon systems which, in
our opinion, will greatly reduce the need for development
milestone provisions in contracts. The important changes
in this regard involve acquisition of a weapon system under
separate development and production contracts and using a
cost-type rather than a fixed-price-type contract for de-
velopment where significant development risk is present.
The most recent major aircraft weapon system to go into en-
gineering development, the B-1 bomber, reflected these
changes.

     The best application of the milestone concept in con-
tracts appears to be where both development and production
are covered under one contractual effort (i.e., total pack-
age procurements). In contracts of this type, exercise
of production options can be made dependent upon meeting
the milestone development events. Development milestones
are established by the B-1 contract; however, the contrac-
tor's failure to meet these milestones results only in a
lessened award fee.

     The use of a milestone provision in a contract for de-
velopment only, seems even less useful if the contract is on
a cost-type basis. This is because the Government bears
essentially all financial risks under a cost-type contract,
thus no strong penalties can be put into such a contract to
motivate the contractor to meet the designated milestones.

     Milestones in the S-3A contract

     Five development milestones are provided for in the
S-3A contract. The first two milestones, 1 and 2, are re-
quired to be demonstrated on or before March 15, 1972, as a
prerequisite to ordering production lot III by April 1,
1972. The critical antisubmarine warfare avionics data
processing, control, and displays nrust be successfully in-
tegrated in the laboratory for milestone 1. This means
that critical avionic subsystems must be able to intercon-
nect and to "talk to one another." It means also that,
with a given laboratory signal input, the proper computer

                             23
actions must take place, data must properly interchange be-
tween the various pieces of avionic equipment, and the
proper information must be displayed on the televisionlike
screens. Although this is an important demonstration, it
does not guarantee that these critical avionic units will
perform in the same manner outside the carefully con-
trolled laboratory environment. Milestone 2 is a 30-minute
first flight of the S-3A (the airframe and engines without
avionics) to demonstrate the aircraft's ability to fly.

     The significance of these milestones is that the most
risky elements of the avionic system will have been con-,
figured and integrated to the point where they successfully
meet mission requirements at least in the laboratory and
that the engine and airframe have progressed to a point
where all preflight requirements have been met and safe
operation of the airframe and engine together are possible.

     The second two milestones, 3 and 4, are required to be
demonstrated on or before January 15, 1973, as a prerequi-
site to ordering production lot IV by February 1, 1973.
Milestone 3 is an evaluation of the flying qualities and
performance and a demonstration that the airframe and engine
will fly within the design flight envelope; i.e., speed,
altitude, loiter capability, fuel consumption, maneuver-
ability, etc. Milestone 4 is an assessment of the avionics
performance during the flight test program which utilizes
a P-3 aircraft as a flying laboratory. It should be noted
that these milestone events separately assess the flying
qualities of the S-3A as an air vehicle and the performance
of its avionics in the detection of submarines and in with-
standing a typical flight environment.

     The fifth and final milestone is the delivery of S-3A
aircraft configured for the Board of Inspection and Survey.
This delivery is scheduled on or before October 15, 1973, as
the prerequisite to the Navy's exercise of the option for
60 additional S-3A aircraft in lot V by November 1, 1973.
It should be noted that this delivery is only the start of
a series of Navy tests and evaluations culminating in the
formal acceptance of the S-3A. This apparent concurrency
risk should be tempered by the fact that, prior to Octo-
ber 15, 1973, the Navy is planning to conduct a series of
five preliminary evaluations to monitor and verify the

                            24
progress of Lockheed's flight test program on the original
eight developmental S-3A aircraft.

     The purpose of these Navy preliminary evaluations is
to provide assurance that the first four production air-
craft are indeed ready for Board of Inspection and Survey
trials. In recent years, the Navy has been modifying its
development approach to place additional emphasis on the
preliminary evaluations. The Board of Inspection and Sur-
vey testing, which in itself requires the existence of pro-
duction aircraft, is not a high-risk element in the complete
evaluation sequence.




                            25
Ordering-Date Extension
                                                       S-3A
     In addition to the Project Milestone clauise the
                                                          sim-
contract contains another new clause which is somewhat
                                                  Exercising
ilar in that it permits the Government to delay
production options. This clause, called  the  Ordering-Date
                                              may unilaterally
Extension clause, states that the Government
                                                 aircraft for
extend the ordering date for an optional lot of
a reason other than one which would entitle  it to such an
                                      clause.   The maximum
extension under the Project Milestone
                                             this  clause is
amount of time a date may be extended under
                                                    to the
4 months. Little, if any, financial risk accrues
                                                     must con-
contractor due to this clause since the Government
                                                the  option
tinue to fund the contractor's progress during
                                                         are
slip. Contract prices or other terms of the contract under
                                                    date
not affected as a result of extending an ordering
this clause.
                                                      us that
     A DOD official acquainted with this clause told
                                                    against
it was included in the S-3A contract as protection
                                                    The
delay in the passage of a DOD appropriation bill.
                                                for funds to
clause would serve to allow 4 additional months     A similar
become available to permit exercise of an option.
                                                      That
clause is included in the Air Force AWACS contract.4, months
clause, however, allows a slip of 14, rather than
                                                lot.
and applies only to the first production option

Defects
                                                           is
     The Defects clause contained in the S-3A contract in  the
                                            the  Navy
essentially the same as the clause used by
                                                      liability
F-14 contract and is designed to extend contractor
                                       or  for  failure   to
for defects in workmanship or material
                                                    acceptance.
meet specifications beyond the time of Government
                                                    tied to the
Because the exercise of production options is not
                                                    trials,
completion of Navy Board of Irspection and Survey
                                                 will be ac-
the likelihood exists that production aircraft
                                                   these
cepted before these trials are completed. Since
                                                        correc-
trials can be expected to pinpoint defects requiringright to
tion, the Defects clause extends the Government's
                                                 last aircraft
correction for either 1 year from the date the
                                                    the date
is accepted for Navy Board trials or 2 years from
                                                 is  earlier.
the first such aircraft is accepted, whichever
                                                  equitable
Alternatively, the clause provides for downward

                               26
adjustment in contract price should the Government elect to
accept defective or nonconforming supplies without correc-
tion, during the warranty period.

     The clause disclaims any implied warranties of merchant-
ability or fitness for a particular purpose and, in a de-
parture from the standard ASPR Inspection clause, limits the
Government's right to correction of latent defects (those
not evident upon proper inspection), with regard to all but
the first six research and development aircraft, to the
same periods stated above for patent, or obvious, defects.

     Finally, the Defects clause states that the contrac-
tor's liability, "for the destruction of or damage to an
aircraft resulting from an accident proximately caused by a
breach of the warranty," shall be limited to $100,000 for
each occurrence. In return, the contractor warrants that no
charge for insurance is included in the contract price for
such damage.

     Although costs incurred for correction of defects are
allowable for purposes of determining final contract price,
no adjustments for correction of defects are permitted by
the clause in target cost, target fee, or ceiling price nor
is any adjustment permitted for defect correction after a
final contract price is established.

     The purpose of the Defects clause is to provide the
Government with time beyond acceptance to discover and re-
quire the correction of defects and, at the same time, to
provide assurance to the contractor that his liability will
not extend beyond that explicitly set out in the contract.

     The limitation of potential contractor liability under
warranty is an important consideration from the Government's
viewpoint because it is designed to eliminate the inclusion
of contingency amounts, either hidden or identified as such,
in contractor proposals, particularly in areas where there
is little likelihood that the Government would or could en-
force contractual rights to correction or replacement.

     For example, in its request to the ASPR Committee for a
blanket deviation from the ASPR requirement of unlimited


                             27
liability for latent defects, the Navy pointed out that, al-
though contractors could justifiably be expected to include
"substantial price increases" to cover unlimited latent de-
fect liability, little likelihood existed that the Govern-
ment would derive any benefit from such extended liability
because of the probability that most latent defects would be
discovered before the expiration of the warranty period and
therefore be correctable and because of the difficulty of
establishing that a defect discovered after the warranty pe-
riod is, in fact, latent.

     Contractors have stated that in the past it has not
been the practice of the Government to require contractor
liability for poximate damages and that as a result contrac-
tors have generally not insured against such liability nor
have they included contingency amounts in their contract
prices to cover such potential loss. However, the question
of whether the Government should enforce proximate damage
liability has been raised recently and has been brought to a
head by a pending lawsuit in which it is contended that a
Government prime contractor and a subcontractor are jointly
liable for the value of an aircraft lost as a result of the
malfunction of an inexpensive component part.

     The consensus of both Government and industry opinion
seems to be that contractors--particularly relatively small
subcontractors--should not be exposed to the potentially cat-
astrophic financial loss which the loss of an aircraft or
other proximate damage would impose on them and that such
potential loss cannot be economically insured against. They
feel that the Government should, therefore, be a self-
insurer in this area. While the subject was being considered
by the ASPR Committee, no regulation had been issued and the
$100,000 limitation in the S-3A Defects clause appears to be
a fair resolution of the problem.

     Although the warranty rights reserved to the Government
by the Defects clause confer a potentially valuable benefit
upon the Government, some question exists as to the extent
to which the exercise of such rights is feasible. The prob-
lems of identifying and correcting defects after field de-
ployment could well result in the failure to correct defects
for which correction would be required by the clause. One
of the most significant of these problems is the one of

                             28
proving that an apparent defect in
                                   an
the hands of the Government for some item which has been in
                                      time is an actual de-
fect; that is, proving that the defect
contractor rather than the Government. is the fault of the

       We understand
 S-3A contract at thethat the Defects clause was used in the
                       insistence of the  contractor. Presum-
ably, the contractor prefers the treatmennt
defects and proximate damages by the           accorded latent
                                       Defects clause since,
in other respects, the Defects clause
to the Government than the Inspection seems more favorable
                                         clause. This is sig-
nificant since it would indicate the
more financial risk attached to latentcontractor believed
                                          defects and proximate
damages than it did to the possibility
                                          of losses due to the
additional time provided by the Defects
covery and correction of patent defects clause for the dis-
sion).                                     (the warranty provi-




                             29
Economic Escalation

     The Economic Escalation clause provides, in effect,
that, if future economic inflation varies significantly from
that estimated for the purpose of pricing the contract, the
contract ceiling price will be adjusted upward or downward,
accordingly. This clause, however, is only applicable to
the last two lots provided for by the contract--lots V and
VI. The options for these lots are to be exercised in cal-
endar years 1973 and 1974, respectively.

     The escalation clause provides protection to the con-
tractor for only so-called abnormal inflation. Protection
against ordinary or anticipated inflation is provided for
in the prices negotiated for each contract lot. In prepar-
ing its price proposal, Lockheed included a factor for in-
flation based on a price rate increase of 4 percent per
year for material and 3 and 3.5 percent per year for labor
(depending on the type labor).

     In essence, the escalation clause provides for adjust-
ments to the ceiling price of lot V if actual price levels
at March 31, 1973, vary more than specified amounts from
the levels predicted for this date. The option for lot V
is to be exercised by November 1, 1973, some 7 months la-
ter. The ceiling price for lot VI is similarly adjusted
for actual price levels at March 31, 1974. The option for
this lot must be exercised by October 1, 1974, or 6 months
later. The significance of these dates is discussed in a
subsequent paragraph. The predicted levels are based on
rates slightly higher than those used by the contractor in
preparing his propo.al,  Price levels will be determined by
reference to certain Bureau of Labor Statistics indexes.

     As calculated by Lockheed using the indexes specified
in the escalation clause, inflation has been increasing at
an annual rate of 6.22 percent for material and 6.35 per-
cent for labor. These rates contrast sharply with the
4-percent rate for material and the 3- and 3.5-percent
rates for labor which were used in establishing the option
ceiling prices. The Lockheed calculation was based on ex-
perience for the 3-year period ending September 1970 for
material and for the 3-year period ending July 1970 for la-
bor.

                             30
     As noted above, the escalation clause is applicable
only to the last two production lots. Based on median
quantities, the ceiling prices of 69 production aircraft,
or more than one third of the total production aircraft un-
der option, are thus unprotected from abnormal inflation as
are the prices for the two research and developme.. lots.
If rates of economic inflation continue at present levels,
the lack of abnormal inflation protection until lot V could
place a heavy eccr'mic burden on the prime contractor.

     The contractor originally proposed inflation coverage
on all lots, including lot I, applicable retroactively to
actual costs. When the Government stated that this ar-
rangement would not be accepted, Lockheed revised its pro-
posal by raising its proposed profit rate in lot I from 10
percent to 12 percent (but with no increase in ceiling
price). One of the Government negotiators of the S-3A con-
tract advised us that the Government felt the 130-percent
ceiling prices, together with the other pricing provisions
in the contract, provided sufficient protection to the con-
tractor in connection with work up to lot V. He explained
that, in early 1969 when the contract was negotiated, no
one anticipated that inflation would reach and stay at the
level it has. He further stated, in retrospect, that ab-
normal inflation coverage of the early lots should have
been allowed.

     The abnormal inflation coverage for lots V and VI is
incomplete. As noted on the previous page, these lots are
required to be ordered 7 and 6 months, respectively, subse-
quent to the dates on which any economic escalation adjust-
ment to their prices will be determined. Production effort
relative to each lot (except for relatively minor long-
lead-time effort) occurs over an approximate 2-year period
following option exercise. This means, assuming the op-
tions are exercised at the latest dates possible, that work
in connection with lots V and VI will not be completed un-
til approximately 2% years after their prices have been
adjusted for abnormal inflation and that no further adjust-
ment will be made for any abnormal inflation occurring dur-
ing these periods. Furthermore, the escalation clause does
not allow slipping the dates which determine the escalation
price adjustments in the event the option ordering dates
are slipped under the Project Milestone or Ordering-Date

                             31
Extension clauses. This incomplete coverage of abnormal
economic escalation on lots V and VI could also place a
heavy economic burden on the prime contractor.




                             32
 Pricing of Changes

       The Pricing of Changes clause was devised to
 age vast numbers of contractor-initiated engineering discour-
                                                         change
 proposals and to provide stronger Government
                                               controls over
 technical changes deemed desirable or necessary.
                                                     On many
 prior major weapon system programs, large numbers
                                                     of tech-
 nical changes were made. The resulting contract
                                                    changes
 were usually authorized by the Government before
                                                   they were
 priced or, in many cases, even before formal
                                               estimates of
 their costs were rec ived.   It was felt in many Goverrment
 quarters that contract changes were being used
                                                 by major
 weapon system contractors to "get well" under
                                                contracts
 (eventually make a profit) which they had "bought
                                                     into";
 i.e. had accepted at unreasonably low prices.

      In the 16 months between the signing of the
                                                  S-3A con-
tract and November 29, 1970, only 18 contract
                                               modifications
affecting price were made. These changes in
creased the combined target price of lots I   total de-
                                             and II by some
$8 million. (Work valued at another $8 million
ferred from lot II to lot III.)                  was trans-
                                  This is considered a very
small number of changes in comparison with
                                            prior aircraft
contracts which did not contain such a clause.
                                                 The S-3A
contracting officer attributes the relatively
                                               small number
of changes to the Pricing of Changes clause
                                             and to the
tightness of the S-3A program budget.

      This clause seeks to control engineering change
                                                      pro-
posals in four major respects. First, it provides
                                                    that
changes valued at $35,000 or less be made at
                                              no change in
contract price and that changes valued between
                                                $35,000 and
1 percent of the original cost of the production
                                                  lots af-
fected by the change be negotiated at a lesser
                                                profit rate
than would normally be expected. This feature
                                                was appar-
ently designed to discourage an excessive number
                                                  of small
contractor-initiated engineering change proposals
                                                   and also
to reduce the administrative costs of processing
                                                  such small
changes.

     The second controlling feature of the clause
                                                  stipu-
lates that the price negotiated for each change
                                                shall not
exceed the target price or ceiling originally
                                              proposed by
the contractor for the change. In the case
                                            of changes

                             33
which would result in reduced rather than increased costs,
the clause states that the price reduction negotiated for
the change shall not be less than the price reduction pro-
posed by the contractor.

     The third controlling feature of the clause provides
that the binding price ceiling or minimum price reduction
accompany the engineering change proposal when it is sub-
mitted to the Government. The fourth feature is not ex-
plicitly included in the clause. We were told by a Navy
attorney, however, that it is implicitly included. This
feature provides that the prices of proposed changes iden-
tify the impact of the change not only on the authorized
portions of the contract but on the options as well. The
last three features discussed are designed to ensure that
the Government will have available realistic, timely, and
complete cost estimates when it makes its decision as to
whether a contractor-proposed change should be adopted.

     The scope of the Pricing of Changes clause is narrowed
by the fact that certain types of engineering change pro-
posals are excluded from coverage. One of the most signif-
icant exclusions has to do with proposals submitted by the
contractor in connection with the value engineering pro-
gram established by the contract. Value engineering pro-
grams are established to encourage elimination of "nice to
have" but unessential technical features. The clause does
not apply to certain other types of engineering change pro-
posals. Among these exclusions are proposals resulting
from requirements for improvements in the S-3A aircraft
which would overcome deficiencies in Government-furnished
equipment and proposals which would change the basic mission
of the S-3A system.

     Lockheed officials indicated to us that this clause,
together with the current economic climate, makes it haz-
ardous for the contractor to propose changes.  These offi-
cials stated that the provisions requiring binding price
proposals at the time a change was proposed had already re-
sulted in some losses to the company. They indicated that
their course in regard to future change proposals would be
(1) to not bother with smaller changes, (2) to make no
change proposals at all unless they were relatively sure


                             34
the change would "sell" (a change proposal costs from
$3,000 to $4,000 to prepare), and (3) to include a contin-
gency factor of from 5 to 50 percent as a separate line
item in all proposals in order to overcome the potential
loss represented by the binding ceiling estimate.

     Government control over contract changes is further
strengthened by the requirement that all engineering change
proposals and all requests for deviations from or waivers
of specifications must be prepared in accordance with
MIL-STD-480 (Military Standard, Configuration Control-
Engineering Changes, Deviations and Waivers) dated Octo-
ber 30, 1968. We were advised that this military standard
provides tighter Government control over contract changes
than did the Navy document which it replaced.

     It seems likely that an undesirable side effect of the
Pricing of Changes clause, and perhaps of MIL-STD-480 also,
will be to discourage the contractor from proposing im-
provements in the S-3A weapon system which the Navy would
want and would approve if proposed. Another possibility is
that the binding ceiling price provision may cause the con-
tractor to propose inflated ceiling prices for changes,
which could result in Navy disapproval.




                            35
Installment Funding

     This clause is designed to limit the Government's fi-
nancial obligation to the contractor at any given time to
predetermined amounts. Another purpose is to impose cost
discipline on the contractor. The clause is limited to the
research and development portion of the contract (lot I)
since research and development is incrementally funded,
whereas production if fully funded.

     This clause establishes a funding schedule by which
the Government is required to obligate money to the contract
for lot I. The schedule, as amended, shows the dates by
which each of 18 funding installments will be made and the
amounts of each. The total of these installments is the
target price of lot I. The contractor may request that the
Government provide funds at a more rapid rate than required
by the schedule, but the Government is not obligated to
satisfy such a request. Change orders affecting contract
price similarly affect the funding schedule.

      This clause has the effect of limiting payments to the
contractor in connection with lot I effort by limiting obli-
gations in accordance with the schedule. Further, and most
importantly, the clause specifically provides that, in the
event of contract termination, the Government's termination
liability to the contractor for lot I be limited to the
total funds then obligated as provided in the schedule. As
noted previously, the installment funding schedule is based
on target price. This would indicate that, although the
contract is on a fixed-price incentive basis and thus has a
ceiling price higher than the target price, the contractor's
reimbursement, in the event of termination, would be limited
to target price. It seems unlikely, however, that the con-
tractor would allow his funding protection, as provided by
the Installment Funding clause, to lag significantly behind
experienced costs before he would request the Navy to in-
crease the amounts set forth in that clause. This stimulus
to the contractor is beneficial to the Government in that
 it encourages the contractor to bring cost growth situa-
tions to the Government's attention at an early date.

     The clause states that, if the Government fails to ob-
ligate an instt'lment by the date specified, such action

                             36
shall have the effect of the contracting officer's ordering
the contractor to stop all work under the contract pursuant
to the Stop-Work-Order clause. Stop-work. orders can result
in additional costs to the Government and to adjustments in
the delivery schedule, as can other provisions of the con-
tract.

     A similar clause is contained in the F-14 contract, A
closely related clause known as the Limitation of Govern-
ment Obligations clause has been used in recent Air Force
contracts, including the F-15 and the AWACS contracts. The
chief difference between the clauses used by the two ser-
vices is that the Air Force clause requires that the con-
tractor request adjustments in the specified funding several
months (generally 17) in advance of the period in which the
additional funding is required. Because of this feature
the Air Force clause seems even more restrictive on the con-
tractor than the Navy clause.




                            37
Performance responsibility--
prime and associate contractor relationships

     Under the terms of its prime contract, Lockheed is
charged with responsibility for total system performance.
The significance of a contractual provision placing perfor-
mance responsibility on the prime contractor is governed by
the amount of Government-furnished aeronautical equipment
called for by the contract. The provision in the S-3A con-
tract is of some significance because Government-furnished
aeronautical equipment accounts for approximately 19 percent
of the total program price. Engines and accessories, elec-
tronics and communications, armament and support are all
furnished by the Government.

     The prime contractor's responsibility for total system
performance, however, is contingent on the Government's fur-
nishing it with subsystems which are "suitable for intended
use," which the contract states

     "shall be deemed to require that the Government-
     Furnished Aeronautical Equipment conform to the
     specifications and acceptance tests therefor cited
     in said detail specification."

     We were advised by an attorney in the Office of the
General Counsel, Naval Air Systems Command, that the lan-
guage contained in the S-3A contract was designeQ to over-
come a jet engine integration problem encountered in the
F-lll aircraft, in which a dispute arose as to whether the
Government or the prime contractor was responsible for an
engine problem which developed during flight testing. The
intent of the language, in the eyes of its authors, is to
clearly impose liability for later failure of Government-
furnished aeronautical equipment on the prime contractor
once the equipment has passed prescribed acceptance tests
and has been accepted by the Government. Thus in the case
of a jet engine, if acceptance testing is prescribed by the
Government-furnished aeronautical equipment contract speci-
fications to take place on the ground, failure to meet the
requirements of the prime system specification for in-flight
performance after delivery of the tested equipment to the
prime contractor would be the prime contractor's responsi-
bility.

                             38
     However, the position taken by the Navy's contract ne-
gotiator in discussions with us, which position is also sub-
scribed to by the contractor, is that, if it can be shown
that a subsystem--though meeting the specification and tests
required by the subsystem contract--does not permit the
system prime contractor to meet the prime system specifica-
tion, then the prime contractor will be relieved of perfor-
mance responsibility until the defect in design or workman-
ship is corrected and the Government will bear the cost of
correction.

     The Government has traditionally had problems in fur-
nishing suitable equipment to contractors. Should a prob-
lem occur in Government-furnished aeronautical equipment
after delivery to Lockheed and should the stricter interpre-
tation of prime contractor responsibility be advanced by
the Government, a dispute almost certainly will arise as to
whether the Government or Lockheed must bear the cost of
correction.

     The approach taken by the Air Force in recent major
system contracts accords with the strict interpretation
placed on the Navy provision in that the Air Force places
complete responsibility for the integrated performance of
Government-furnished equipment on the prime contractor once
the Government-furnished equipment has been formally ac-
cepted by the prime contractor. Protection is provided the
prime contractor, however, in that he is not required to
accept Government-furnished equipment until he has agreed
in writing as to the design and/or performance characteris-
tics of the Government-furnished equipment; the inspection
and acceptance test procedures specified; and the confor-
mance of the Government-furnished equipment to such design,
performance, and test requirements. No similar "sign off"
protection is contained in the S-3A performance responsi-
bility provision.

     To escape as many potential problems connected with
this requirement as possible--particularly integration
problems--the S-3A contract provides that Lockheed enter
into written agreements with major Government-furnished
aeronautical equipment suppliers (termed "associate con-
tractors"), which are designed to encourage and/or require
exchange of data and coordination between the prime and

                            39
associate contractors with respect to integration of
Government-furnished aeronautical equipment with the prime
weapon system; proposed specification changes, deviations,
or waivers; and failure of Government-furnished aeronautical
equipment to comply with specifications. Costs associated
with the agreements between prime and associate contractors
are allowable costs under the respective contracts.

     These agreements are implemented by the establishment
of formal boards composed of representatives from the prime
and associate contractors (but not from the Government),
which monitor problems as they arise so that those problems
can be resolved expeditiously. The requirement for a formal
agreement was first used in the F-14 contract, although we
were advised at the time our F-14 report was prepared that
contractors have typically set up informal arrangements to
accomplish the same purposes.




                             40
Stop-Work Order

     The Stop-Work-Order clause of the S-3A differs from the
norm in that, while the ASPR-specified clause precludes ter-
mination for default following a stop-work order, the S-3A
clause confers on the Government the right to terminate the
contract for either default or convenience at the expiration
of a stipulated period. The ASPR stop-work-order clause
states that the Government may stop work for up to 90 days,
while reimbursing standby costs. At the end of that time,
the Government must either cancel the stop-work order or
terminate the contract for convenience. The S-3A clause, on
the other hand, sets a 30-day limit on the stop-work order
itself but provides an additional 60 days if termination is
to be effected so that the Government may determine whether
such termination should be for convenience or default.

       In its request to the ASPR Committee for a deviation
from the prohibition against default termination following
a work stoppage, the Navy stated that, upon determination
that a program of the magnitude of S-3A should be canceled,
additional time as allowed by the 60-day provision is ap-
propriate for completion of the "formidable task" of assess-
ing the feasibility of default as opposed to convenience
terminat:t,.rn in order to save the extra expense which would
be incurree if work were allowed to continue pending such
assessment. Representatives of Lockheed, however, ex-
pressed the apprehension that the 60-day provision could
provide an incentive to the Government to strain to convert
what would otherwise be a convenience termination to one for
default by searching out technical '. not necessarily im-
portant deviations from contractual requirements.

     Records show that the 60-day feature of the Stop-Work-
Order clause was designed to come into play only in a situa-
tion where termination is deemed necessary and that the
60 days provided by the provision was to be used for an
analysis, in good faith, of whether the termination should
be for convenience or default.

Restraint of Competition

     The so-called Restraint of Competition clause requires
that all data, including limited rights data (that which a

                            41
contractor furnishes to the Government or a subcontractor
for explicitly limited purposes) furnished by the contrac-
tor to vendors or subcontractors for use with regard to the
S-3A contract, be furnished to the subcontractors and kept
up to date without payment. This clause is included in
order that the Government may purchase directly from the
subcontractors and vendors additional supplies and/or ser-
vices to be used in connection with the S-3A without paying
fees or royalties to the prime contractor.

      Although this clause does not permit the general dis-
semination of limited rights data, it does require the con-
tractor to give up rights in the affected data for purposes
of present or future buys of spare or replacement parts re-
lated to the S-3A airplane. The clause has application to
the present contract as well as to any follow-on contracts.
This represents a departure from usual practice and requires
the contractor to relinquish a right without any compensa-
tion.

     The purpose of the clause is to grant the Government
the right to make later purchases of spare or replacement
parts for the S-3A from subcontractors or vendors where
there is no contribution, other than the data, by the prime
contractor. Also, the clause helps overcome the problem, at
least with respect to subcontractor-furnished parts, of the
wholesale marking by prime contractors of component part
data as "proprietary" thereby placing on the Government the
burden of challenging any markings considered to be inap-
propriate through a rather cumbersome ASPR-required process
if sole-source repurchase from the prime contractor is to be
avoided.

     The Restraint of Competition clause is in the contract
because it was demanded by the Government, and the Govern-
ment's strong bargaining position resulted in its acceptance
by Lockheed. A possible side effect of using the Restraint
of Competition clause in prime contracts could be to en-
courage the prime contractors to perform work in-house which
otherwise would have been economically subcontracted. This
incentive would be due to the prime contractor's desire to
retain its data rights. Such an effect could work to the
disadvantage of the Government in some cases and could have
implications for the small business community.

                             42
                          CHAPTER 3

                     MANAGEMENT CONTROLS

 ?ROJECT MANAGEMENT ORGANIZATION

     As in other major weapons system acquisitions, manage-
ment of the S-3A aircraft program is vested in a project
manager. In accordance with usual Navy practices, the
                                                        S-3A
project is "horizontally" rather than "vertically" struc-
tured. Accordingly, the S-3A Project Manager draws
                                                    most of
his support from other, organizationally independent,
                                                       ele-
ments within the Naval Air Systems Command rather than
                                                        from
a large staff which reports directly to him.

     Lockheed's S-3A project office has complete authority
to direct and control its functional organizations.

PERFORMANCE MEASUREMENT

     DOD Instruction 7000.2 provides for the application of
uniform DOD criteria to contractor management systems
                                                       under
major weapons contracts. The instruction requires
                                                    the use
of cost/schedule control systems criteria by the contrac-
tor's internal management to provide an adequate basis
                                                        for
responsible decisiornmaking by both contractor management
and DOD components.

     The contractor management systems must provide data
which (1) indicate work progress, (2) properly relate
                                                       cost,
schedule, and technical performance, (3) are valid,
                                                     timely,
and auditable, and (4) supply DOD managers with a practi-
cable level of summarization. Subcontracts, excluding
                                                        those
that are firm fixed price, are selected for application
                                                          of
these criteria by mutual agreement between prime contrac-
tors and the contracting DOD component, according to
                                                      the
criticality of the subcontract to the program.

     Addendum 6 to the S-3A prime contract embodies the re-
quirement of Instruction 7000.2. Lockheed developed
                                                      its
planning and control system to comply with Instruction
7000.2. A demonstration review was held in March 1970
                                                        at
Lockheed, and the Navy's validation team stated that
                                                      the
system met the criteria; however, the Office of Naval

                            43
Material questioned whether the Navy should continue to re-
quire instruction 7000.2 or accept the system being utilized
by Lockheed on its commercial L-1011 system. We were in-
formed that the Office of Naval Material accepted Lockheed's
planning and control system on October 20, 1970, but wanted
the requirements reduced. The Navy has not yet formally
approved (validated) the Lockheed system as being in accor-
dance with the requirements of Instruction 7000.2.

     Addendum 6 was originally expected to be applied to the
two major subcontractors, Univac and Vought; but the require-
ment concerning Vought was removed before Addendum 6 could
be applied, and a modification to Addendum 6 to reflect
that deletion had resulted in a decrease in the contract of
approximately $1.5 million. A modification of the require-
ment is now being considered which would eliminate Univac.

      Lockheed initially asserted that strict compliance
with Addendum 6 represents added work amounting to approxi-
mately $4 million at the target cost level for the S-3A
development program. Lockheed has not been able to sub-
stantiate this estimate. Lockheed feels that its planning
and control system does employ timely approaches for mea-
.suring the impact of such significant program influences as
inflation, technical problems, and subcontractor pricing;
however, the system does not ensure that decisions regard-
ing resolution of problems will recognize the impacts on
cost, schedule, and technical performance in other parts of
the management system. Such information is available but
the system does not ensure its use. The planning and con-
 trol system provides the potential to furnish a wide vari-
ety of additional reports which the Government might con-
 sider beneficial.

     The S-3A project manager stated that, in his opinion,
DOD Instruction 7000.2 was a good idea, philosophically, but
that he was against the strict interpretation being attempted
by the Air Force. He believed that, as presently consti-
tuted, Addendum 6 produced more data than was needed and
that a proposed modification would delete some of the re-
quirements. The data contained in the formal reports gen-
erated by Instruction 7000.2 are, on the average, 45 days
old and, therefore,the reports are not as dependable as the


                             44
other management tools applied. GAO intends to perform a
separate review concerning Instruction 7000.2.1

OTHER MANAGEMENT TOOLS

     The S-3A project manager informed us that, in addition
to using formal reports generated by Lockheed's planning
and control system, he applies day-to-day management tools
to ensure effective control of the project. Among these
tools are (1) the weekly action and "re-action" reports
which point out specific problem areas and their resolution,
(2) monthly meetings with Lockheed project management,
(3) direct-line-telephone and data-transmission hookup with
the Lockheed project office, and (4) "hot line" reports in-
dicating significant problem areas. The project office has
not yet received any hot-line reports. It is the project
manager's opinion that, if the first indication of a signif-
icant problem must be reported via hot line, management is
not doing its job.

DEVELOPMENT CONCEPT PAPER

     The Development Concept Paper is considered by the
project manager to be his "contract" with the Office of the
Secretary of Defense to develop and produce a total S-3A
weapon system within definable cost, schedule, and perfor-
mance parameters. Other sections of the Development Con-
cept Paper evaluate enemy threat, need for the weapon sys-
tem, development risks, program management, etc. The De-
velopment Concept Paper was signed by the Secretary of De-
fense in November 1967 wh;n the system was approved for con-
tract definition.

     As directed by the Secretary of Defense, the Develop-
ment Concept Paper is being revised to include an updated
justification for the system. This justification apparently


1 Thereport will include data developed at   several contrac-
 tors' plants to evaluate the potential of   7000.2 for dis-
 closing early problems and their ultimate   impact on cost,
 schedule, and performance to industry and   DOD management.



                            45
will include a discussion if the P-3C and the proper mix of
the two aircraft for antisubmarine warfare. The original
submission date for this revision was September 1, 1970;
.1owever, the submission date is now unknown  The Develop-
ment Concept Paper is required to be revised before April
1972 when the Defense Systems Acquisition Review Council
meets to consider whether or not the S-3A should be released
for production.

THRESHOLDS

     One section of the Development Concept Paper sets forth
program thresholds for cost, schedule, and performance. As
long as the program stays within these thresholds, program
management is left to the procuring service. Crossing a
threshold may initiate a review of the program at the Office
of the Secretary of Defense level.

     Thresholds are set by the Office of Defense Research
and Engineering to indicate when a program might be out of
control; that is, considerable degradation from performance
guarantees, extreme schedule slippage, and substantial cost
overruns.

     In light of the previous discussion of known ctimism
in contract pricing and the fact that Lockheed is performing
at 112 percent of target cost, the development cost thresh-
old may be crossed as the program advances into the criti-
Lal avionics integration phase.

     As is the practice of DOD, the cost threshold for the
production aircraft is quoted at :he total program 3mount.
The S_3A production cost threshold was set at ceiling price
rather than between target and ceiling as was the threshold
of the AWACS program.

      Assuming that the production options are exercised,
 the total production cost will not be known until substan-
 tial aircraft deliveries have been made. The selected ac-
 quisition report prepared by the project manager will, of
 course, reflect estimates to complete, at various points
 throughout the program cycle, and could presumably reveal
 an estimated overceii.ng situation; however, estimates in
 past programs have tended to be optimistic. if the total

                              46
production threshold is broken, it may occur late in the
program, and any review will, by its nature, be made near
the completion of the program.

     Thus, as a management tool, a total program cost thresh-
old is largely ineffective during most of the production
cycle. It would seem reasonable instead to break out the
production threshold into a yearly, or similar, period con-
sistent with economic production runs to provide a manage-
ment gauge of production costs as the program proceeds.

     The -zhedulethresholds are set at 6 months beyond the
contractual milestone dates. The performance thresholds
involve four overall characteristics of the aircraft related
to weight, approach speed (carrier landing), range, and en-
durance. If these guarantees are exceeded by 10 percent for
the first two or reduced by 15 percent for the last two, a
review at the Secretary of Defense level is made. Two
other performance thresholds apply to the avionics charac-
teristics of signal recognition and search bearing accuracy.

     If these performance thresholds are reached but not
crossed, the Navy will have an S-3A whose performance is
less than anticipated under the contract. The performance
thresholds, however, do represent an increase over present
antisubmarine warfare effectiveness. Officials at the Na-
val Air Development Center, Warminster, Pennsylvania, have
stated that these thresholds were fair and offered reason-
able management control at the Secretary of Defense level.




                            47
DEFENSE SYSTEMS ACQUISITION REVIEW C(CJNCIL

     The vehicle for program review at the Secretary of De-
fense level is the Defense Systems Acquisition Review Coun-
cil. Unless a program threshold has been crossed, as dis-
cussed previously, or some other special circumstance de-
mands, the Council reviews a program three times during its
life, that is (1) prior to entering contract definition,
(2) prior to initiating engineering development, and (3)
prior to a production decision.

     The Council is scheduled to meet in February or March
1972 relative to a production decision on the S-3A.  The
contract calls for lot III to be exercised on or before
April 1, 1972. If the contractually required development
milestone provisions are met prior to this production de-
cision, Lockheed (1) will have made a first flight of 30-
minute duration without avionics and (2) will have substan-
tially completed integration of the S-3A's complex avionics
in a bench test under laboratory conditions. In addition,
6 to 8 months of airborne avionics testing utilizing a
P-3 aircraft (test bed) will have occurred. The first full
systems flight of the S-3A is scheduled to take place 3-1/2
months after the production option date.

     The first four aircraft in lot III will be used for
various research, development, testing, and Board of Inspec-
tion and Survey trials. However, because the Navy plans to
recycle these aircraft for ultimate delivery to the fleet,
these four aircraft are being considered as production air-
craft and, thus, a production decision is demanded by the
Defense Systems Acquisition Review Council.

      One of the contractual milestones, avionics integra-
tion, will demonstrate only that the units will work to-
gether and respond to laboratory-generated inputs and will
not demonstrate whether the system has the capability to
fully perform its intended antisubmarine warfare mission.
First flight, the other milestone is concerned only with
the basic flying qualities of the airplane. It should be
noted that the flying avionics test bed mentioned above
will undergo a Navy preliminary -. essment which is sched-
tuled for completion only 2 months after the option date for
lot III.

                              48
     The results of the Navy preliminary assessment of the
flying avionics test bed and the results of tracking expe-
rience against friendly submarines as well as the knowledge
gained from the initial full-system flights of the S-3A
would offer a better basis for a production decision by the
Defense Systems Acquisition Review Council.

     The project manager advised us that he and the prime
contractor were of the opinion that to delay the production
decision and consider additional test results would distract
the prime contractor's attention from the laboratory avionics
integration which they believed to be of primary importance.

     In our report to the Subcommittee on the F-14 aircraft
program dated August 17, 1970 (B-168664), we disclosed an
analogous situation where it appeared that the Defense
Systems Acquisition Review Council was being called upon to
make a premature production decision. Subsequent to our
report it was decided at the Secretary of Defense level that
the F-14 program wou'i be given only a preliminary, or in-
terim, production dec .sion and that a full production go-
ahead would be given only after considerable experience and
flight testing had been accomplished.

INDEPENDENT ASSESSMENT NEEDED BY THE
DEFENSE SYSTEMS ACQUISITION REVIEW
COUNCIL FOR PRODUCTION DECISION

     When the Defense Systems Acquisition Review Council
convenes to pass on the production phase of the S-3A pro-
gram, the status of the program will be presented by the
S-3A Project Office. We have noted in connection with other
weapon system programs that these submissions tended to be
very optimistic and indicated that potential pro' lems could
be readily overcome. No assessment independent of program
management is given at this critical stage in the program.

     Various study groups, as well as our office, have rec-
ommended in the past that DOD utilize independent oper-
ational testing and evaluation groups to monitor the prog-
ress of various weapon system programs thus neutralizing
to some extent the climate of advocacy. The blue Ribbon
Defense Panel, in its July 1970 report, recommended that
DOD establish independent operational testing and


                            49
evaluation groups reporting directly to the Deputy Secretary
of Defense. These groups would represent both the devel-
oper and user but would remain organizationally independent
of both. These groups could contribute significantly to
decisionmaking at all levels and could participate in the
production decisions which theretofore had been a forum
for optimistic program advocacy.

     Both the S-3A Project Manager and an official of the
Directorate, Defense Research and Engineering, believed the
idea of an independent assessment to be impracticable due
to a lack of individuals or organizations that are techni-
cally qualified as well as unbiased. They believed that,
at present, those organizations having a great deal of ex-
pertise generally had a biased point of view and that those
that were unbiased generally lacked in-depth knowledge of
the technical aspects of a given program. Furthermore, the
S-3A Project Manager expressed his opinion that an assess-
ment independent of his office would conflict with the con-
cept of project manager responsibility.

     We still believe that consideration should be given
to establishing an independent means of determining the
progress of development prior to entering production.




                             50
                           CHAPTER 4

                    EXTENT OF CONCURRENCY
      To illustrate the level of planned
                                         concurrency between
 development and production in the S-3A,
 cerpts from the program master schedule we have taken ex-
 in figure 2 on the following page of    and presented them
                                      this report.
       In terms of calendar months, the period
 concurrency starts in May 1972, one             of significant
 cise of the production option for lotmonth  after  the exer-
                                         III, and ends in Oc-
 tober 1973 witb the delivery of four
                                       aircraft configured
 for the Navy's test and evaluations
                                      via its Board of Inspec-
 tion and Survey trials. The ending
                                      date
for purposes of concurrency measurement, of October 1973,
Navy's contention that delivery of          is based on the
                                     four Board of Inspection
and Survey aircraft marks the completion
                                            of the development
phase and that all significant development
pleted by that date. In terms of productionshould be com-
will be, according to Lockheed's estimate,      aircraft, there
                                              10 S-3A produc-
tion aircraft through the start of the
                                         final assembly pro-
cess at the beginning of Board trials
                                        as shown below:
    4 completed and delivered to the Navy
                                          for Board trials,
    4 completed and in Lockheed's production
                                             flight test
      phase, and

    2 in final assembly.

The significance of the start of final
                                       assembly is that ex-
perience has shown that there is a
                                   dramatic increase in the
cost of applying changes beyond this
with any other point where changes   point in comparison
                                   might be incorporated.
     In addition to the above 10 production
are the eight development aircraft an!i      aircraft, there
                                       two
(static and fatigue) airframes purchased    nonflying test
of the S-3A program.                     under  lots I and II

     In terms of the total numbers of aircraft
planned to be ordered by the time Board        that are
                                        trials are started,

                             51
                                                                                                                                                 1972                                                   1973                                  1974
       1969                          1970                                                 1971
                                                                                                                                                  J                       N
                                                                                                                                                                          oI D        JAFFJ M    I|A   J         A       S     O NDJ        |FMA
                                               |S|oIN       D    J      F|M         M    J J     A| S   ON     D J      F M         |M                           S ! O
 AS|     O    NIODJ    FIiMAIU       J    J                                   IA   I             I                              A                            A




                                                                                                                                         FIRST FULL                                                          DELIVERY OF
                                                                                          FIRST FLT-                                                                                                          IS CONFIGURED
                                                                                          AVIONICFLYING        FIR ST FLT-               SYS FL T.
                                                                                                                                         S-3A                                                                AIRCRAFr
                                                                                          TEST BED I           S-3 I

                                                                                                 V                ~7                                  V                                                                      TV
                                                                                                 8-31               1-14                              7.17




                                                        CRITICL COMPONENTS

     ORDERCRITICL                                       AVAIL S T NO. I
T7   EQUIP.                                                          7
                                                                    2.1

                       AVIONIC EQUIP. DEVELOP.                                SET NO.2



                                                                                BENCN TEST       LAB INTEGRATION

                                                                RECEIVE                     SET N.HP                                             Y                                         COMPLETE
                                                                                                                                                                                           FTB         RAM
                                    STARTFTB
                                                                R IVR    7-1E5J,31          T
                                                                                           7T     i                          NPA-I               5-31                11       1.1 5
        AVIONIC
        FLYING
        TEST BED                               DESION-FAB                      ACMOD
                                                                                                                                                                              NPA I


                                               AIRCRAFTNUMB RS

                                                         U B STEM.INSTATIC 12999)



                                                                                         3001

                                                                                                        ,ooe
                                                                                                          FATIGUE I 30001



                      PROJECTMILESTONES
                       FOR
                         LOT III OPTION                                                                 |1*..............|...-..
                                                                                                                                             .        -.                                                                             BIS TRIALS
                                     CONTROL, &
                       AR ASWPROCESSING        DISPLAY
                                           QUALPRIORTIES
                       SUBSYSTEM.INTEGRATIONG

                       TO 3-   72         PRIOR TO                                                                                                                                         33009
                                                                                                                    |                    |              X        .        t      .t 053
               V       FIR i TO
                       FLIGHTPROR
                             PRIO
                                3R
                                   , BED
                              DEMONSTR
                                3-15 72
                                  15TO
                                     72
                                         AVTIONICS
                                                73                                                                                                                                                                   .

                       FOR LOT IV OP ION
                V"'    EVA) UATIONOF FLYINGQUALITIES &
                       PERFORMANCE -PRIOR TO 1.13573


                       FLYING TEST BED AVIONICS
                       ASSESSMENTPRIOR TO 1-15-73

                       FOR LOT V OPTION

                  V    DELIVERY OF RIS CONFIGURED
                       AIRCRAFT-PRIOR TO 10-15-73
                                                                                                                                                                                                             I               [~W~~~~~100    3050




                                                                                                                               4.1                                                    2-1                                   11-1
                                                                                                                           LOT Il 13 AC                                         LOT IV 56A C                             LOT V 60 A C
                                LE3;END

                        OP I:ON DATE (CONTRACT DATE)I
                                                   1y                                                                                        I

                                                                                                                                             I                                                                                   I
                                     DEVELOPMENT(FAS OF TEST A C)
                                                                                                                                                                               CONCURRENCY                       M               I




                                     TESTING



                                     PRODUCTION




                                                                                   EXTENT OF CONCURRENCY
                                                                                        S-3A PROGRAM
                                                                                        Figure 2


                                                                                                               52
the estimated number is 137, or about 68 percent of the
total planned quantity of 199. The start of Board trials
is scheduled for October 1, 1973, which is only 30 days
prior to the order date of lot V. We have included lot V
in the number of aircraft ordered prior to these trials
because lot V is scheduled to be ordered when the four air-
craft are delivered for the trials. The delivery of these
four aircraft is the fifth and final contractual milestone.
The following table presents the details of the planned
program showing the numbers of aircraft that are planned
to be ordered.

                           Number
                             of
    Date           Lot    aircraft    Note        Purpose

Aug.   1,   1969     I         6       (a)      Development
Oct.   1,   1970    II         2                Development
Apr.   1,   1972   III        13       (b)      Production
Feb.   1,   1973    IV        56       (c)      Production
Nov.   1,   1973     V        60       (c)      Production

   Total                     137

Oct. 1, 1974        VI        62       (c)      Production

   Total                     199


aThis does not include the two static and fatigue test air-
 frames.

bThe original baseline quantity was 17, plus or minus
 50 percent; however, the more recent estimate is 13. (See
 p. 19.)

CThese are baseline quantities and can be varied plus or
 minus about 50 percent by the terms of the contract. (See
 p. 19.)

AREAS OF PRIMARY TECHNICAL RISK

     The S-3A program is somewhat unique, as compared with
other contemporary weapon system development efforts, in
                             53
that the technical risks are primarily centered within one
major technological area; namely, avionics. Actually, the
risks are concentrated even further within certain limited
areas of avionics. By comparison to the C-5A, F-1ll, F-14,
and F-15, this situation is somewhat nontypical. In these
other programs, consequential structural, materials, aero-
dynamic, tooling and manufacturing, and aircraft subsystem
developments in engine and airframe were involved. In the
S-3A program, these factors are not as risky since the Navy
considers the engine and airframe to be low-risk items.
This is particularly important because the lead time and
cost impact for correcting avionic problems is generally
less than that of major airframe components involving heavy
tooling and manufacturing facilities.

     Many of the avionic problems can be addressed on the
ground or in avionic flying test beds, neither of which is
subject to grounding or intermittent operations which can
occur when new airframes and engines are also being tested.
This means that problem solution can continue in the avion-
ics area to a considerable degree irrespective of other
problem areas, particularly if the program provides for
both adequate laboratory and flying test bed tools.

     With regard to the S-3A avionics, no special problems
or difficulties are anticipated in some areas. For example,
communication, navigation, and weapon/armament control
equipment are considered to be within the current state of
the art or to be repackaged or off-the-shelf items. The
principal risks in the S-3A avionic system lie in six spe-
cific areas, as follows:

    1. The acoustic data processor.

    2. The central data processor.

    3. The sonobuoy reference system.

    4. Total avionic system integration and software.

    5. Degree of success in the man/machine integration and
       automation design.

    6. Impact of the rugged carrier environment on all so-
       phisticated avionic equipment.
                              54
                          CHAPTER 5

              POTENTIAL PROBLEMS TO BE MONITORED

     As requested, potential problem areas are described
below.

POSSIBILITY OF NEED FOR
EXTRACONTRACTUAL RELIEF

     We believe there is a possibility that the conserva-
tive pricing and tight structuring of the contract in com-
bination with certain occurrences might force the contrac-
tor to seek extracontractual relief from the Government to
continue work under the contract. (See pp. 8 to 15.) We
believe also that the following potential events could pre-
cipitate the need for extracontractual relief and thus
should be monitored by the Subcommittee:

     1. An increase in the rate of economic inflation or
        even a continuance of the present rate for a pro-
        longed period. (See p. 30.)

     2. The occurrence of major development problems.   (See
        p.   11.)

     3. Ordering the minimum or near minimum quantities
        permitted under the production options. (See
        p. 20.) Our opinion on this point is bolstered by
        the fact that two of the prime contractor's major
        subcontractors have refused to accept clauses with
        a variable quantity option provision similar to the
        one contained in the prime contract. Specifically,
        these subcontractors will not allow orders for less
        than the median option lot quantities set out in
        the prime contract. This situation conceivably
        could result in substantial losses to the prime
        contractor should the Government choose to exercise
        the production option lots in the minimum or near
        minimum quantities.




                              55
UPCOMING PRODUCTION DECISION

     A decision on whether the S-3A aircraft will go into
production is scheduled to be made in February or March
1972. We believe that a decision by this date may be pre-
mature. Further, it appears that this decision, in accor-
dance with customary procedures of DOD for making important
decisions relative to major weapon systems, will be made in
an atmosphere wherein the program advocates will be overly
influential.

     In our opinion, the risk of entering the production
phase could be appreciably reduced if the production deci-
sion were delayed 3 or 4 months beyond the presently sched-
uled date for this decision.  The contract would permit
such a delay since it allows slipping the date for exercis-
ing the first production option for up to 4 months, at no
increase in contract price.

     If the production decision were delayed 4 months, ad-
ditional technical data resulting from certain tests would
become available to the decisionmakers. We noted that the
first Navy preliminary assessment is scheduled for comple-
tion some 3 months after the production decision and that
the first flight of the full S-3A system will come about
4 or 5 months after the production decision. The delay
would also permit more information resulting from the ongo-
ing avionics laboratory integration tests and the avionics
flying test bed to become available.

      The Navy's project manager and the prime contractor do
not agree. They believe that to delay the production deci-
sion and consider additional test results would distract
at% .. tion from the laboratory avionics integration (mile-
stone 1) which they consider to be of primary importance.

     In the past, major weapon system decisions have been
made in an atmosphere dominated by advocates of the programs
involved. We believe that an assessment independent of the
program management should be made of the S-3A program prior
to the production decision. The results of this assessment
should be made available to the officials charged with mak-
ing the decision. (See pp. 49 and 50.)


                               56
 CONCURRENCY OF DEVELOPMENT AND PRODUCTION

      There would be an appreciable degree of development
 and production concurrency in the S-3A program
                                                 even if the
 production decision were delayed as we suggested
                                                   in point 2
 above. If development, testing, and evaluation
                                                  show that
 the S-3A system will perform as intended and
                                              that signifi-
cant changes are not required, this concurrency
                                                  should re-
 sult in the system's becoming operational qvicker
                                                    than it
would have otherwise. On the other hand, if
evaluations disclose that significant changes the  tests  and
                                               must be made
to ensure an operationally effective weapon system,
problems of making the changes will be compounded. the
                                                      The
changes must be made not only to the developmental
                                                     units
but to all production units which have been
                                             manufactured or
which are in the process of manufacture. This
                                                could require
substantial amounts of additional time and money.
                                                     (See
ch. 4.)

COST THRESHOLD FOR PRODUCTION AIRCRAFT

     The Development Concept Paper sets forth program
thresholds for cost, schedule, and performance.
                                                 As long as
the S-3A program stays within these thresholds,
                                                program
management is left to the Navy. Crossing a threshold
tiates a review of the program by the Office          ini-
                                             of the Secre-
tary of Defense.

      As is the practice of DOD, the S-3A cost threshold
 production aircraft is set at the total program           for
                                                  amount. To-
 tal program production cost will not be known
                                                until a sub-
 stantial number of aircraft have been made.
                                               Reports pre-
pared by the S-3A Project Manager will, of
                                             course, reflect
estimates to complete and presumably could reveal
mated cost exceeding the threshold; however,        an esti-
                                               estimates in
past programs have tended to be optimistic.
                                               Thus, as a
management tool, a total program cost threshold
very effective during most of the production      may not be
                                               cycle. It
would seem preferable to break down the planned
by production lot or by some other subdivision program cost
                                                 of the total
production effort and have a separate cost threshold
                                                       for
each. (See p. 47.)



                              57
LESS THAN TOTAL SYSTEM PERFORMANCE RESPONSIBILITY

     Despite the fact that there is a provision in the con-
tract which purports to impose total performance responsi-
bility for the integrated weapon system, including
Government-furnished equipment, on the system prime con-
tractor, there is some question as to whether its responsi-
bility for system performance is, in fact, total. (See
p. 38.) UnDer some circumstances it is the position of the
Navy negotiator, and concurred in by the contractor, that
the Government must bear the cost of modifying Government-
furnished equipment so that it will be suitable for use in
the S-3A system. Further, it is the Navy negotiator's posi-
tion that the system prime contractor is relieved of the af-
fected system performance requirements until the Government-
furnished equipment is corrected.

     On the other hand, we were advised by an attorney in
the Office of the General Counsel, Naval Air Systems Com-
mand, that the provision does, in fact, place total respon-
sibility on the contractor. We mention this area because
the Government has traditionally had problems in furnishing
suitable equipment to contractors and because the variarce
in interpretation of that contractual provision indicates
that, should a problem with Government-furnished equipment
arise and the performance responsibility provision be
strictly interpreted, it will probably generate a dispute
as to who is required to bear the cost of its resolution.

POSSIBLE SIDE EFFECTS FROM
THE PRICING OF CHANGES CLAUSE

     The Pricing of Changes clause was designed to ensure
that the Government would have timely, complete, and realis-
tic cost proposals for contractor-proposed engineering
changes before they would be approved. (See p. 35.) There
is a possibility that this clause may discourage the con-
tractor from suggesting improvements in the S-3A weapon sys-
tem which the Navy would want and would approve if suggested.
Another possibility is that this clause may cause the con-
tractor to propose inflated ceiling prices for changes which
could result in Navy disapproval.


                                58
POSSIBLE SIDE EFFECTS FROM THE
RESTRAINT OF COMPETITION CLAUSE

      The Restraint of Competition clause requires the sys-
tem prime contractor to give up many of its data rights
relative to items it obtains from subcontractors using the
prime contractor's design. (See p. 42.) This could have
the effect of encouraging the prime contractor to perform
work in-house which it otherwise would have subcontracted.
Such an effect could work to the disadvantage of the Gov-
ernment in some cases and could have implications for the
small business community. On the other hand, there is a
possibility that the Restraint of Competition clause may
not be effective in permitting the Government to reorder
supply parts directly from the subcontractors. Information
we have received indicates that, except for major items
such as wings or engines, which are generally not repur-
chased, direct procurement of spare or replacement parts
may not be feasible because of the possession by the prime
contractor of information and expertise other than the data
covered by the clause necessary for intelligent parts pro-
curement.




                             59
                         CHAPTER 6

                     SCOPE OF ANALYSIS

      In performing our analysis, we reviewed the S-3A con-
tract N00019-69-C-0385 and other pertinent documentation
and held discussions with key management personnel of the
S-3A Systems Project Management Office and with contract
negotiation, technical, and legal personnel of the Naval
Air Systems Command. We also held discussions with per-
sonnel. representing the prime contractor and selected sub-
contractors of major S-3A subsystems.

     We discussed and researched kE;y contractual clauses
from such sources as the ASPR Cormmittee. We attempted to
gain an insight from other defense contractors on their
prior experience with selected contr ctual clauses.

     We probed technical aspects of the S-3A with represen-
tatives of the Office of the Director of Defense Research
and Engineering and the U.S. Naval Air Developme-nt Center;
however, our review did not include an in-depth analysis of
development progress and technical risk.

     Our fieldwork was performed during the period August
through December 1970, and therefore this report generally
reflects the status of the S-3A program about 1 year after
contract award.




                             60
APPENDIX




   61
                                                                                                         APPENDIX I


             JOH   C. STr.Ni.   MIss..   cI4ISN
sInU   S. m  LL    .            MARNANITCASI ST,
                                              IM           MAIN
0JINT SIVUINH1GTO.
                Mo.             STROMTU   ON.    C.


14WAND W. CA     o. nV.           OA  MUt y   .   I
S         M.
           MT OUNG.cHIo
  IANIL N. IN"UTE. HAWAII
THOMAS J. MCIYRE, ".H.
                                EOWAR W. St.
                                GASSy OLOWAT
                                RIC
                                             "     ASS
                                                   I
                                     D S. CHWEIK[S. PA.
                                                                       i      c     a fes ,e
HARRYF.    TYRO.
               JR.. VA.                                            COMMlITTE       ON ARMEDO   ERVICES

            T.SORIANOD
                     IMIAiW.L. J'A...CHin,
                                        EFO       TA~nyP                   WASHINGTON. D.C.    20510


                                                   July 9, 1970
            Honorable Elmer B. Staats
            Comptroller General of the United States
            General Accounting Office
            441 G Street, N.W.
            Washington, D. C.

            Dear Mv.             Staats:

                    This letter is to request your office to provide assistance to the
            Preparedness Investigating Subcommittee in performing an analysis and
            interpretation of the contractual features of the contracts entered into for
            the S-3A and AWACS aircraft programs.

                   The Preparedness Investigating Subcommittee has for some time
           been monitoring the status of the major weapon programs of the Department
           of Defense. In this regard, one segment of the Subcommittee's continued
           review has been to evaluate the contractual aspects of these programs. The
           Subcommittee is particularly interested in the progress being made in this
           area in the newer programs.

                   As you are aware, your office has been assisting the Subcommittee in
           performing these contractual analyses on the F-14 and F-15 aircraft programs
           and providing the Subcommittee with opinions and viewpoints regarding these
           contractual matters. I am very pleased with the results that we have seen to
           date in this work and believe this to be an important area in our review program.

                   We are again interested in your opinions on the merits of the manage-
           ment and contractual aspects of these programs and any potential problem
           areas that should be monitored. Your analyses should also include the areas
           of management controls, contractual structure and definiteness, cost and
           pricing provisions, and the extent of concurrency probable within the program
           structure.

                 Your continued early response will provide great asslstatx-tortre
           Subcommittee's efforts in this area.

                                                                  S'       ely,                _


                                                                  ~hn C. Stennis
                                                                   hairman, Preparedness
                                                                  Investigating Subcommittee


     U..     3AO Wagh., D.C.

                                                                              63