oversight

Armed Services Procedures for Handling Foreign Military Sales Need Improvement

Published by the Government Accountability Office on 1977-05-27.

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

                             DOCUMENT   RESUME

12156 - [A157253q]

r[rmel Services Procedures for Handling Foreign Military Sales
Need   Improvement].   LCD-77-222;   E-165731.   May   27, 1977.   5 pp.

Report to Secretary, Department of Defense; by Robert G.
Rothwell (for Fred J. Shafer, Director, Logistics and
Ccmmunications Div.).

Issue Area: International Economic and Military Programs:
    Foreign Military Sales (605); Facilities and Material
    Management (700);Military reparedness Plans: Logistic
    Support Planning for Major Equipment (801).
Contact: Logistics and Communications Div.
Budget Function: National Dfense: Department of Defense -
    Military (except procurement    contracts) (051).
Organizaticn Concerned: Dfense Logistics Agency.
Congressional Relevance: House Committee on Armed Services;
    Senate Committee on Armed Services.
Authority:- Foreign Military Sales Act, sec. 22 (22   .S.C. 2762).
         Certain procedures and practices for handling direct
foreign military sales at the Defense Logistics Agency and its
subsidiary centers have resulted in unnecessary and illegal
expenditures of appropriated funds, and may have adversel7
affected the Agency's ability to respond to the neels of U.S.
military customers. Findings/Conclusions: Defense policy
provides that cooperative sales arrangements be considered in
forecasting stock levels but that direct sales not be
considered. However, direct sales of low value replenishment
demand and numeric stockage objective type items to foreign
customers are required to be included in forecasting demand by
Agency policy. U.S. funds are used illegally according to law
governing foreign military sales. This departure from
established policy has increased stock levels significantly.
Direct foreign sales requisitions should be placed on backorder
if existing stocks are at reorder level; however, the
requisiticns are often considered to be "exceptions" and on-han
stocks are used, thus depleting stocks needed for .S. military
protection. Certain nonmaintained invelntory items are
automatically reviewed each quarter for possible
reclassification to maintained items. Many items have been
changed without meeting the maintained criteria, which is
against Defense policy. Recommendations: The Department of
Defense should insure that the changes in the foreign sales
policy proposed by the Agency are implemented on a timely basis
and that they comply with legal provisions and with Defense and
Agency policy. (Author/SMS)
     l.~.~,
     ,~                          UNITED STATES GENERAL ACCOUNTING OFFICE
                                         WASHINGTON. D.C.   20548


.OGIrICIAND     COMMUNICATIONs
              DIVISION                                                AY 22 7 977
                                                                      Y
                                                                               77

-I     B-165731


       The Honorable
       The Secretary of Defense

       Dear Mr. Secretary:

            Because foreign military sales have grown rapidly during
       recent years, we surveyed their impact on supply operations
       witnin the Department of Defense. Cur survey covered selected
       field activities in each of the military services and the De-
       fense Logistics Agency. We found that certain procedures and
       practices for handling direct foreign military sales at the
       Agency and its Defense Electronics Supply Center have resulted
       in unnecessary and illegal expenditures of appropriated funds
       and may have adversely affected the Ag icy's ability to re-
       spond to the needs of U.S. military customers.

            The Department of Defense has established specific poli-
       cies covering sales to foreign countries and the Agency has
       incorporated these policies into its material management man-
       ual. We found, however, that nct all operating procedures in-
       cluded in the Agency's supply operating manual are consistent
       with established policy.

             Contrary to Defense policy, direct foreign military sales
        issue experience is being used irn establishing stock levels
        for some categories of supply items, and direct sales requisi-
        tions are being filled without appropriate regard for stock
        balances.  In addition, supply items are moved from the nu-
        meric stockage objective type of management to the replenish-
        ment demand type of management without meeting established
        criteria. Numeric stockage objective items are not expected
        to incur sufficient demands to be managed as replenishment
        demand items, but are stocked in limited quantities as a pre-
        cautionary measure.

        INVENTORY INVESTMENT INCREASED IN
        SUPPORT OF DIRECT FOREIGN SALES

             Sales of secondary items to foreign customers are gen-
        erally either covered by cooperative logistics support
                                                                           LCD-77-222
B-165731


arrangements or are classified as direct foreign military
sales.  Cooperative arrangements nominally involve the in-
vestment of the foreign customer's funds in tne U.S. inven-
tory. Direct sales involv- no such investment in inventory.

     Defense policy as sated in Department of Defense mem-
orandums and Defense Logistics Agency's Material Management
Manual, DSAM 4140.3, provides that demand for items sold
under cooperative arrangements be accorded the same treat-
ment as U.S. customer demands in establishing stock levels.
Other foreign demands (direct sales) are not to be considered
in setting stock levels.

     Contrary to this policy, operating procedures included
in the Agency's Supply Operating Procedures Manual, DSAM4
4140.2, provide that direct sales of lo- value replenishment
demand and numeric stockage objective type items to foreign
customers be used in forecasting demands.  U.S. funds are
used to prcure the stock. We believe, and Defense offi-
cials have agreed, that in the absence of authorizing leg-
islation such expenditures of U.S. funds are illegal.

     The expenditures are illegal because section 22 of the
Fore'gn Military Sales Act, 22 U.S.C. 27C2, the authority
for procurement of defense articles or services for foreign
sale, conditions such rocurement upon the receipt of a
dependable undertaking from the foreign government to pay
the full amount of the procure-ent contract price which will
assure the U.S. Government against any loss on tile contract.
Without such an undertaking, which does not exist in this
case, there is no authority to procure specifically for for-
eign sale, hence no authority to take projected foreign
sales into account in setting inventory levels.

     According to June 30. 1976, stratification reports, 90
percent of tne 518,700 items stocked by the Supply Center,
and 67 percent of the procurement actions involved low value
replenishment demand or numeric stocKage oobjective items.
Our analysis of a random sample of foreign military sales
requisitions revealec that 49 percent of the direct sales
were for such items. For some of the stocked items included
in our sample, the only issue activity over the 14-month
period ending August 31, 1976, was direct foreign sales.
This indicates that the items may have been retained in
stock solely to support direct sales customers.
     Supply Center officials informed us that their opeca-
tions conformed to the Agency's operating procedures manual.



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B-165731.


They were aware of the conflict with Defense policy but said
they were required to follow the manual.

     Inasmuch as the Agency's direct foreign military sales
totaled over $78 million during fiscal year 1975, we believe
its departure from established policy has increased stock
levels significantly and constitutes unnecessary and illegal
expenditures of U.S, funds.

D:'RECT FOREIGN SALES REQUISITIONS FILLED
WHEN ASSETS ARE BELOW THE REORDER POINT

     Consistent with the policy of not establishing supply
levels in support of direct foreign military sales, Mte-
rial Management Manual 4140.3 prohibits filling direct sales
requisitions from stock when assets are at or below the re-
order point. However, our analysis of 94 direct sales requi-
sitions filled during July 1976 disclosed that 25 were filled
when the stocks were either below the reorder point or were
drawn below the reorder point by the requisition.

     Direct foreign sales requisitions, under the Agency's
Standard Automated Material Management System, were to be
automatically placed on backorder if the filling of the
requisitions would cause issuable stock to fall below the
reorder point. Such orders should not be filled until the
stock levels are again above the reorder point.  However,
the system was not functioning as intended. Stock type
items were nt automatically backordered, but were referred
to the item managers for consideration as exceptions.   We
found that in many cases the item managers filled the re-
quisitions from stock on hand.

     Defense Logistic Agency auditors have reported this
breakdown in the system on two different occasions--Audit
Report 7-113, dated February 4, 1975, and Audit Report
77-18, dated August 16, 1976.  In the earlier report the
auditors estimated it was costing the Agency $221,200 a
year in labor and material to process the exceptions at
four Supply Centers operating under the Standard Automated
Material Management System.

     Although headquarters officials had approved two auto-
mated system changes--one in June 1974 and the other in
February 1975--which would correct the problem, the changes
had not been implemented at the time of our survey.

     Furthermore, irrespective of the breakdown in the au-
tomated system, item managers should not fill direct sales


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B-165731


requisitions when assets go below the reorder point. Such
a practice complicates inventory management and may jeopard-
ize support of U.S. forces.

NUMERIC STOCKAGE OJECTIVE ITEMS
   FMPRPERLRY     EASS Ir ID
                kCS

     Under the Standard Automated Material Management System,
certain n,?meric stockage objective items are automatically
reviewed each quarter for reclassification to replenishment
demand stocK. The Agency's established criteria for reclas-
sifying a numeric item is that the item have had three or
more demands during the previous four quarters.   In addition,
'hese demands ust total 12 or more units and have an extended
value of more than $20.

     We found that many items had been reclassified to re-
plenishment demand stcck without meeting this criteria. We
tested 110 of the 2,494 items reclassified during the Septem-
ber 30, 1976, quarterly review.   In all cases, two of the
three reclassification criteria--three demands totaling 12
or more units---were met. However, in 15 cases items were
reclassified even though the extended demand value was less
than $20.

     Furthermore, in 13 cases items were reclassified to re-
plenishment demand stock based exclusizely, or in part, on
direct foreign military sales. As pointed out earlier, this
is contrary to Defense policy which states that stock levels
will not be established for such sales.

     Supply Center officials agreed that the automated system
was reclassifying numeric stockage objective items without
meeting the reclassification criteria.  The Supply Center
forwarded this information to Defense Logistic Agency head-
quarters and recommended that the system be reprogramed to
assure that all classifications meet the program criteria.

     Since the replenishment demand method of management
usually requires a greater investment in stock than the
numeric stockage method, its use should e limited to the
conditions specified by Agency policy.

CONCLUSIONS AND RECOMMENDATIONS

     Department of Defense policy on the establishment of
stock levels and the handling of direct foreign military
sales requisitions was desijned to comply with the legal
provisions governing foreign military sales and protect


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B-165731


the interests of U.S. customers.  The Defense Logistic Agency's
failure to follow this policy has resulted in the unnecessary
and illegal expenditure of supply funds and has jeopardized its
ability to respond to the needs of U.S. military customers.

     At the completion of our survey, we met with Agency head-
quarters officials who agreed with our findings and conclu-
sions. They told us of a number of changes which had been made
or were being made to correct the weaknesses we have cited.
These changes, when implemented, should assure that direct
foreign military sales are not considered in establishing
stock levels, that direct sales requisitions are not filled
when stock levels are so low that responsiveness to U.S. cus-
tomers is impaired, and that numeric stockage objective items
are reclassified according to established criteria.

     We recommend that the Secretary of Defense follow up to
insure that the changes proposed by the Agency are implemented
on a timely basis and that they comply with legal provisions
and with Defense and Agency policy.

     As you know, section 236 of the Legislative Reorganiza-
tion Act of 1970 requires the head of a Federal agency to
submit a written statement on actions taken on our recommen-
dations to the House Committee on Government Operations and to
the Senate Committee on Governmental Affairs not later than 60
days after the date of the report and to the House and Senate
Committees on Appropriations with the agency's first request
for appropriations made more than 60 days after the date of
the report.

     We are sending copies of this report to the Dector,
Office of Management and Budget, nd the Director, Defense
Logistics Agency.

                                  Sincerely yours,

                           Sew&, O·R c
                                  Fred J. Shafer
                                  Director




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