Use of Legislative Incentive for Performance-Based Contracting Unknown

Published by the Government Accountability Office on 2003-05-22.

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

United States General Accounting Office
Washington, DC 20548

          May 22, 2003

          Congressional Committees

          Subject: Use of Legislative Incentive for Performance-Based Contracting Unknown

          The Department of Defense (DOD) spent about $93 billion in fiscal year 2002 to
          acquire various types of services, such as base operations, logistical support, and
          information technology. To achieve greater cost savings and better outcomes when
          agencies acquire these and other services, Congress and the executive branch have
          encouraged greater use of performance-based contracting. Performance-based
          contracts specify the desired outcomes and allow the contractors to determine how
          best to achieve those outcomes, rather than prescribe the methods contractors
          should use.

          In October 2000, Congress sought to provide an incentive for the use of performance-
          based contracts through legislation1 giving DOD temporary authority to treat certain
          performance-based service contracts as contracts for commercial items. Contracts
          for commercial items may be awarded using streamlined procedures under Part 12 of
          the Federal Acquisition Regulation (FAR). This authority is scheduled to expire in
          October 2003.

          As required by the October 2000 legislation, we reviewed DOD’s implementation of
          the temporary authority, including the interim and final implementing regulations,
          public comments on the interim regulation, and other DOD documents. We also
          discussed with DOD officials the extent to which the authority had been used. We
          conducted our review from September 2002 through February 2003 in accordance
          with generally accepted government auditing standards.

          Results in Brief

          DOD issued regulations to implement the legislative authority, but because there is
          no tracking mechanism, DOD does not know the extent to which the authority has been

           Section 821(b) of the Defense Authorization Act for Fiscal Year 2001, Pub. L. 106-398, Oct. 30, 2000.
           The term “commercial item” is defined as any item that is of a type customarily used for
          nongovernmental purposes that has been sold, leased, or licensed or offered for sale, lease, or license
          to the general public. 41 U.S.C. 403 (12). With respect to services, the statute includes “services
          offered and sold competitively, in substantial quantities, in the commercial marketplace based on
          established catalog or market prices for specific tasks performed and under standard commercial
          terms and conditions.” Id.

          Page 1                                                              GAO-03-674R Contract Management
used. DOD officials believe, however, that use of the authority has been limited, at
best. Although a January 2002 DOD policy memorandum indicated that additional
guidance on reporting use of the authority would be forthcoming, no additional
guidance has been issued to date.


In October 2000, Congress passed section 821(b) of the National Defense
Authorization Act for Fiscal Year 2001, which allows DOD to treat performance-based
service contracts or task orders as contracts for the procurement of commercial
items under specified conditions. The conditions are that the contract or task order
must: (1) be valued at $5 million or less; (2) define the work in measurable, mission-
related terms; (3) identify a specific end product or output; (4) contain a firm, fixed
price; and (4) be awarded to a contractor that provides similar services to the general
public under terms and conditions similar to those offered to the federal

The use of performance-based contracts to acquire services offers a number of
potential benefits. Performance-based contracts can encourage contractors to be
innovative and to find cost-effective ways of delivering services. By shifting the focus
from process to results, they hold the promise of better outcomes and reduced costs.
In view of the potential benefits, Congress has been encouraging greater use of
performance-based contracting, and the administration has set a general goal that 20
percent of eligible service contracts should be performance based. DOD has a goal
that 50 percent of its service contracts will be performance based by 2005.

Congress and the administration also have been encouraging agencies to acquire
commercial items to the maximum extent practicable to satisfy agency needs for
goods and services. The objectives are to reduce the government’s reliance on
government specifications and to take advantage of technical innovations available in
the commercial marketplace. Special rules designed to facilitate the acquisition of
commercial items are contained in Part 12 of the FAR. These rules permit greater
flexibility in negotiating contract terms and conditions. In addition, certain
enumerated laws do not apply to commercial item acquisitions, such as the
requirement that the contractor submit cost or pricing data. In general, to be
acquired using the commercial item procedures of FAR Part 12, services must be of a
type that are sold competitively in substantial quantities in the commercial
marketplace based on established catalog or market prices for specific tasks
performed. Under the authority of section 821(b), a service could be acquired as a
commercial item even though it would not otherwise meet the commercial item

  In addition, the legislation provided that special simplified procedures previously authorized for
acquiring commercial items valued up to $5 million would not apply to acquisitions of services deemed
to be commercial items under section 821(b).
  For additional information, see Contract Management: Guidance Needed for Using Performance-
Based Service Contracting, GAO-02-1049 (Washington, D.C. Sept. 23, 2002).

Page 2                                                           GAO-03-674R Contract Management
DOD Issued Regulations to Implement Section 821

On December 6, 2001, DOD issued an interim rule amending the Defense Federal
Acquisition Regulation Supplement to implement section 821(b). The rule listed the
legislative conditions for use of the new authority, as well as additional conditions
that apply generally to the use of performance-based contracts. For example, the rule
required the use of quality assurance surveillance plans. Although there is no
mention of these plans in section 821(b), other sections of the FAR require them
whenever performance-based service contracting is used.

DOD also requested comments on the interim rule and received four sets of
comments from various sources. In some cases DOD agreed with the points raised
and revised the final rule. Other comments dealt with conditions imposed by the
legislation. For example, one comment pointed out that the requirement that a
contract under the section 821(b) authority be with an entity that provides similar
services to the general public precludes use of the authority to contract with an entity
whose only business activity consists of contracts with the government under section
8(a) of the Small Business Act or other federal preference programs. DOD agreed
with this conclusion, but noted that the requirement was contained in the legislation
and could not be changed through regulation. DOD published the final rule in the
Federal Register on October 25, 2002.

DOD Does Not Know the Extent to Which Section 821(b) Has Been Used

Department of Defense officials are not aware of the extent to which the new
authority contained in section 821(b) has been used to acquire services because DOD
does not have a reporting system to track the use of this authority. At our request,
however, DOD officials asked each of the military services to query some of their
buying commands about possible instances of the use of section 821(b) authority.
Officials from each of the services confirmed that data on the possible use of this
authority are not collected. In addition, Air Force and Navy officials told us that they
were unaware of instances in which contracting personnel used the authority. Army
officials, however, said they believed a minimal number of contracting personnel in
the Army had used the authority to treat certain services as commercial items, such
as plumbing and electrical motor repair services. Army officials were unable to
identify the specific contracts on which the authority had been used.

DOD officials suggested two possible explanations for why the authority provided by
section 821(b) may have seen little, if any, use. First, the officials cited a perception
among some contracting personnel that the section provided no new authority. In
fact, in our discussions with some DOD personnel it was apparent that they believed
section 821(b) could only be used to acquire services that already met the definition
of commercial item. As indicated by DOD, however, the implementing regulation
“provides additional authority for use of FAR Part 12 to acquire services that do not
meet the definition of commercial item.” Second, numerous DOD officials cited the
requirement for a firm, fixed-price contract as an impediment to use of the authority.
In this regard, the existing regulatory definition of commercial item expressly
excludes services sold in the commercial marketplace at hourly rates without an

    67 Fed. Reg. 65,512 at 65,513 (Oct. 25, 2002). (Emphasis in original.)

Page 3                                                                       GAO-03-674R Contract Management
established catalog or market price for a specific service performed. Although
services priced on an hourly basis--and thus by definition not considered to be
commercial items--might be good candidates for use of the new authority, the
requirement of section 821(b) for a fixed-price contract reportedly made the authority
less attractive.

In January 2002, the Under Secretary of Defense, Acquisition and Technology issued
a policy memorandum reemphasizing the department’s commitment to performance-
based contracting and highlighting the temporary authority provided in section
821(b). The memorandum said it was “important that we thoroughly test this
authority during the pilot period to demonstrate its value.” In addition, the
memorandum said that DOD would provide additional direction on the reporting
requirements applicable to the pilot authority. To date, DOD has not provided any
additional direction. According to one DOD official, a reporting system would have
been an unnecessary burden on contracting personnel because they anticipated only
limited use of the temporary authority.

We requested comments from DOD on a draft of this report. On May 16, 2003, a
representative of the Office of the Director of Defense Procurement and Acquisition
Policy stated that the draft report was technically accurate and that no other
comments were needed.


We are sending copies of this report to the Secretary of Defense; Director, Office of
Management and Budget; and interested congressional committees. We will also
make copies available to others on request. In addition, this report will be available
at no charge on the GAO Web site at http://www.gao.gov.

If there are any questions concerning this report, please call me at (202)-512-8214.
The major contributors to this report were Odi Cuero, Chris Galvin, Gary Middleton,
and Ralph White.

William T. Woods
Acquisition and Sourcing Management

Page 4                                                   GAO-03-674R Contract Management
                       List of Congressional Committees

The Honorable John Warner
Committee on Armed Services
United States Senate

The Honorable Carl Levin
Ranking Minority Member
Committee on Armed Services
United States Senate

The Honorable Ted Stevens
Subcommittee on Defense
Committee on Appropriations
United States Senate

The Honorable Daniel Inouye
Ranking Minority Member
Subcommittee on Defense
Committee on Appropriations
Unites States Senate

The Honorable John Ensign
Subcommittee on Readiness & Management Support
Committee on Armed Services
United States Senate

The Honorable Daniel Akaka
Ranking Minority Member
Subcommittee on Readiness & Management Support
Committee on Armed Services
United States Senate

The Honorable Duncan Hunter
Committee on Armed Services
House of Representatives

The Honorable Ike Skelton
Ranking Minority Member
Committee on Armed Services
House of Representatives

Page 5                                               GAO-03-674R Contract Management
The Honorable Jerry Lewis
Subcommittee on Defense
Committee on Appropriations
House of Representatives

The Honorable John Murtha
Ranking Minority Member
Subcommittee on Defense
Committee on Appropriations
House of Representatives

The Honorable Joel Hefley
Subcommittee on Readiness
Committee on Armed Services
House of Representatives

The Honorable Solomon Ortiz
Ranking Minority Member
Subcommittee on Readiness
Committee on Armed Services
House of Representatives


Page 6                        GAO-03-674R Contract Management
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