U.S. DEPARTMENT OF ENERGY
                   OFFICE OF INSPECTOR GENERAL
                                
                                
                                
                                
                                
                                
                                
                                
                                
    SUBCONTRACTING PRACTICES AT THE NEVADA OPERATIONS OFFICE
                                
           AND ITS MANAGEMENT AND OPERATING CONTRACTOR
                                
                                
                                
                                
                                
                                
                                
                                
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Report Number:  WR-B-96-07       Western Regional Audit Office
Date of Issue:  May 10, 1996     Albuquerque, New Mexico 87185
    
    
    
    SUBCONTRACTING PRACTICES AT THE NEVADA OPERATIONS OFFICE
           AND ITS MANAGEMENT AND OPERATING CONTRACTOR
                                
                                
                                
                                
                        TABLE OF CONTENTS
                                
                                
                                                            Page
 
           SUMMARY ........................................   1
 
PART I   - APPROACH AND OVERVIEW ..........................   2
 
           Introduction ...................................   2
 
           Scope and Methodology ..........................   2
 
           Background .....................................   3
 
           Observations and Conclusions ...................   3
 
PART II  - FINDING AND RECOMMENDATIONS ....................   5
 
           Subcontracts Awarded in Support of Department
           Program Offices ................................   5
 
PART III - MANAGEMENT AND AUDITOR COMMENTS ................   9
 
                    
                    
                    U.S. DEPARTMENT OF ENERGY
                   OFFICE OF INSPECTOR GENERAL
                    OFFICE OF AUDIT SERVICES
                  WESTERN REGIONAL AUDIT OFFICE
                    
    
    
    SUBCONTRACTING PRACTICES AT THE NEVADA OPERATIONS OFFICE
           AND ITS MANAGEMENT AND OPERATING CONTRACTOR
                                
Audit Report Number:  WR-B-96-07                 May 10, 1996
 
                             SUMMARY
                                
     The Department of Energy (Department), Nevada Operations
Office (Nevada) is responsible for following established policy
in obtaining necessary support services through its Contract
Management Division.  The objective of the audit was to determine
whether Nevada and its Management and Operating (M&O) contractors
were following Federal and Department policies with regard to
directed support service subcontracts.
 
     The audit showed that program offices in Nevada and
Headquarters were directing the Nevada M&O contractor to award
subcontracts to specific companies or individuals.  The
subcontractors reported either directly to a program office or to
a national laboratory.  Furthermore, the subcontractors' work
products were delivered directly to the requesting program
office.  The M&O contractor had only administrative
responsibility for the subcontracts awarded.  This occurred
because Nevada had not established adequate internal controls
over the process of procuring support service.  As a result, the
M&O contractor was paid a higher award fee for managing the
Department's contracts and may have incurred additional costs in
staffing its procurement office.  We recommended that the
Manager, Nevada Operations Office, discontinue directed support
service subcontracts to its M&O contractor and act to strengthen
internal controls over subcontracting.
 
     Nevada management partially concurred with the
recommendations but did not believe the directed procurements
cited in the report were inappropriate.  Details of management's
comments and our responses are included in Part III.
 
 
 
 
                               ______(Signed)_____________
                               OFFICE OF INSPECTOR GENERAL
                             
                             
                             
                             PART I
                                
                      APPROACH AND OVERVIEW
                                
INTRODUCTION
 
     The Nevada Operations Office is responsible for ensuring
that its program offices follow established policy and obtain
necessary support services through Nevada's Contract Management
Division.  The objective of the audit was to determine whether
Nevada and its M&O contractor were following Federal and
Department policies with regard to directed support service
subcontracts.  More specifically, we sought to determine if
Nevada's M&O contractor was used to procure support services
outside the normal procurement process.
 
SCOPE AND METHODOLOGY
 
     The audit was conducted at Las Vegas, Nevada, from March
1995 through September 1995 and covered subcontracts in effect
during the period October 1, 1992, through April 30, 1995.  Audit
work was performed at Nevada's Contract Management Division and
at the procurement offices of EG&G Energy Measurements (EG&G/EM),
Raytheon Services Nevada (Raytheon), and Reynolds Electrical and
Engineering Company, Inc. (Reynolds).
 
     To accomplish the audit objective, we interviewed key
Department and contractor personnel and reviewed:
 
     o Federal and departmental regulations, Department memoranda,
       and M&O contractor policies and procedures for subcontracting;
     
     o prior reviews and reports issued by Nevada concerning
       contracting or subcontracting; and,
     
     o contract files regarding the scope of work, period of
       performance, dollar amount, extent of competition, 
       justifications for sole source, and modifications to the 
       original contracts or subcontracts.
     
     The total number of subcontracts in the universe was 2,066,
valued at approximately $221 million.  We selected a judgmental
sample of 47 subcontracts valued at $22.7 million.  The sample of
47 subcontracts included 19 subcontracts over $500,000 (19 of 63
or 30 percent) and 28 subcontracts under $500,000.
 
     The audit was conducted in accordance with generally
accepted Government auditing standards for performance audits and
included tests of internal controls and compliance with laws and
regulations, to the extent necessary, to satisfy the objective of
the audit.  Accordingly, we assessed the significant internal
controls with respect to the subcontracting process, including
identification and review of internal controls in the selection
and administration of subcontracts.  We did not rely extensively
on computer-processed data and, therefore, did not fully examine
the reliability of that data.  Because our review was limited, it
would not necessarily have disclosed all internal control
deficiencies that may have existed at the time of our audit.
Exit conferences were held on November 15, 1995, and March 12,
1996, with the Chief Financial Officer and the Director, Contract
Management Division.
 
BACKGROUND
 
     Recently, the Office of Inspector General (OIG) initiated a
number of audits on aspects of subcontracting at various M&O
contractors.  A June 1995 audit report titled Consultant
Subcontracting at the Idaho National Engineering Laboratory
(WR-B-95-07), for example, discussed subcontracting practices
that were neither competitive nor objective and that were
directed support service subcontracts.  In February 1996, the OIG
issued a second report titled Consultant Agreements at Los Alamos
National Laboratory (WR-B-96-06), which questioned the adequacy
of sole source justifications used by the M&O contractor at Los
Alamos.
 
     Prior to January 1, 1994, each of Nevada's three M&O
contractors had its own procurement office, and each administered
its own contracts.  In January 1994, Reynolds and EG&G/EM
consolidated procurement functions under one director in order to
reduce overhead costs.  In March 1995, Raytheon's procurement
office joined the consolidated procurement function.  As a
result, one procurement office now provides services for all
three contractors.  Since the period covered by the audit,
October 1, 1992, through April 30, 1995, crossed the
consolidation period, we have used the term "M&O contractor" to
refer to all participants in the joint procurement office.
 
OBSERVATIONS AND CONCLUSIONS
 
     During the audit, we noted that the number of directed
support service subcontracts was decreasing.  The M&O contractor
also strengthened its internal controls by requiring program
managers to assure that the procurement requests were within the
scope of the M&O's mission.
 
     Despite these improvements, however, the audit showed that
Nevada's M&O contractor obtained support services for both Nevada
and Headquarters program offices.  Directed support service
subcontracts continued to occur because internal controls at
Nevada and at the M&O contractor were inadequate.  We recommended
strengthening these controls to ensure that program offices
cannot go directly to the M&O contractor to obtain support
services.  We also recommended that the program offices be
instructed to obtain support services through Nevada's Contract
Management Division.  Nevada partially concurred with the
recommendations, but did not concur with the facts and
conclusions as presented.
 
     Procurement officials at Department Headquarters, on the
other hand, expressed concern about the continuing practice of
directing M&O contractors to procure support services on behalf
of the Department.  According to these officials, with whom we
discussed the specific cases cited in this report, circumventing
Department procurement policy could jeopardize the Department's
credibility with oversight organizations and expose the
Department to criticism.
 
     We consider the inadequacy of controls over directed support
service subcontracts an internal control weakness that Nevada
should consider in preparing its yearend assurance memorandum.
                             
                             
                             PART II
                                
                   FINDING AND RECOMMENDATIONS
                                
          Subcontracts Awarded in Support of Department
                         Program Offices
 
FINDING
 
     Department and Federal policies state that it is
inappropriate for program offices to use M&O contractors to
obtain direct contract support for their programs.  When direct
contract support is necessary, program offices are required to
use the Department's -- not the M&O contractor's -- procurement
procedures and personnel.  Nevada's M&O contractor, however,
awarded $2.5 million from October 1, 1992, through April 30,
1995, in subcontracts that provided direct support to Nevada and
Headquarters program offices.  This occurred because Nevada and
its M&O contractor had inadequate internal controls to ensure
that Department policy was carried out.  As a result, the
Department paid more in M&O contractor award fees than was
necessary.  Furthermore, the M&O contractor was procuring
services unrelated to its mission.
 
RECOMMENDATIONS
 
     We recommend that the Manager, Nevada Operations Office,
strengthen internal controls by:
  
     1. strengthening existing procedures that require program
        offices to submit procurement requests through Nevada's 
        Contract Management Division;
     
     2. discontinuing the use of the M&O contractor to acquire
        services that directly support program offices; and
     
     3. instructing the M&O contractor to augment, if necessary,
        and enforce its procedures aimed at ensuring that only
        procurement requests within the contractors mission are
        accepted.
     
MANAGEMENT REACTION
 
     Nevada management concurred with the first recommendation,
partially concurred with the second, and did not concur with the
third recommendation.  Management comments and our responses are
summarized in Part III.
 
                       DETAILS OF FINDING
 
     In August 1981, the Assistant Secretary for Management and
Administration issued a memorandum entitled "Directed
Subcontracts for Support Services."  This memorandum stated that
the only support service contracts which should be placed by M&O
contractors are contracts to meet their own support service
requirements.  This memorandum re-emphasized the Federal policy
that M&O contractors do not buy for Federal agencies.  In June
1993, the Acting Assistant Secretary for Human Resources and
Administration issued a memorandum with the same title which
re-emphasized the need to be careful when dealing with M&O
procurement offices.  This memorandum stated that using M&O
contractors to acquire support service for the Department places
the contractor into the role of a mere procurement office and
avoids the safeguards provided by the normal Department
procurement process.  Further, in January 1996, the Deputy
Assistant Secretary for Procurement and Assistance Management
once again re-emphasized the fact that DOE program offices should
not use M&O contractors to acquire needed support services.  In
addition, the Deputy Assistant Secretary warned M&O contractors'
purchasing managers that acquisitions that do not support the
mission of their contract are unacceptable and that the
purchasing managers will be held accountable for any such
purchases.
 
DIRECTED SUPPORT SERVICE SUBCONTRACTS
 
     Department guidance on this issue has been consistent since
1981, with the January 1996 memorandum serving as the latest
re-emphasis from Department Headquarters.  The audit disclosed,
however, that in spite of long-standing Departmental policy,
14 of 47 subcontracts (30 percent) awarded by Nevada's M&O
contractors were directed by the Department.  The total value of
these directed subcontracts was $2.5 million.
 
     In each of the 14 cases, the M&O contractor had only
administrative responsibilities -- such as awarding the
subcontract and paying vouchers -- and had no substantive
involvement in technical matters.  Instead, the subcontractors
directly supported the program offices (Nevada and Headquarters)
or a national laboratory.  Subcontractors, moreover, received
their work assignments and directions from Department or
laboratory officials.  The subcontractors' work products were
provided directly to the Department or the laboratory.
 
     For example, the M&O contractor awarded 4 subcontracts, for
a total of $2.3 million, involving the preparation of threat
assessments.  The subcontractors received directions for the work
from either the Office of Non-Proliferation and National Security
(a Headquarters program office) or a national laboratory.  The
M&O contractor had only subcontract administrative
responsibilities, such as awarding the subcontract, paying the
vouchers, and reviewing security plans and procedures provided on
the subcontractors' building and telephone systems.  The M&O
contractor did not direct any of the subcontractors' work nor was
it the main recipient of any of the subcontractors' work
products.  The threat assessment reports went directly to the
Department.
 
     In addition, the M&O contractor also issued 9 subcontracts,
totaling $143,000, to individuals to participate on a panel on
behalf of a Department program office.  The M&O contractor's only
responsibility in these subcontracts was awarding the subcontract
and paying the vouchers.  The panel's reports were forwarded to
the Department, not to the M&O contractor.
 
APPROVALS AND INTERNAL CONTROLS OVER SUBCONTRACTING
 
     The directed support service subcontracts occurred because
Nevada had not established an adequate system of internal
controls over the process of procuring support services; in
addition, the M&O contractor's internal controls were not
sufficient to identify the support service requests for program
offices.  Although Department policy on directed subcontracts for
support service is clear in not allowing program offices to use
the M&O contractors to acquire support service, the program
offices continued acquiring those services through the M&O
contractors.
 
     Department officials stated that the major reason for using
the M&O contractor's procurement office was that the contractor's
processes were quicker and easier.  Further, program managers
told us they have obtained direct support in this manner since
the early 1980s.  However, both the contractors and Nevada
program officials acknowledged that directed support service
subcontracts of this nature were inconsistent with Department
policy.
 
     Similarly, the M&O contractor did not have sufficient
controls in place to ensure that only procurement requests within
its scope of work were allowed to proceed through the procurement
process.  Instead, the M&O contractor accepted procurement
requests from program offices at Nevada and Headquarters without
comparing the requested service to its contractor's mission.
Although some controls were implemented during our audit,
directed support service subcontracts still occurred.
 
INCREASE OF NEVADAS COST FOR THE M&O CONTRACTOR
 
     The Department annually calculates an award fee for each of
the M&O contractors.  This award fee is based on performance and
the total expenditures for the fiscal year involved.  Since the
Department required the M&O contractor to acquire subcontract
services which were not a part of its mission, the M&O contractor
actually received award fees that were greater than necessary.
We discussed this matter with Nevada staff members from the Chief
Financial Officer Division and the Program Management Division to
determine what award fee could be attributed to subcontract
administration.  The personnel responded that it was impossible
to segregate the percentage of award fee that could be attributed
to contract administration because contract administration was a
part of the administration award pool.
 
     A number of other effects could also occur.  As described
earlier, for example, the M&O contractor was awarding
subcontracts for work that was outside its mission
responsibilities.  Moreover, the contractor's procurement
function was established to assist the contractor in the timely
completion of its mission, not to obtain support services for
Headquarters or Nevada program offices.  Such activity could
result in the M&O contractor requesting additional staffing or
maintaining staff beyond its actual needs.
 
                            PART III
                                
                 MANAGEMENT AND AUDITOR COMMENTS
                                
     In responding to the Official Draft Report, management
concurred with the first recommendation, partially concurred with
the second, and did not concur with the third.  In addition,
management provided supplemental information regarding its
position on directed procurements.
 
Recommendation 1
 
     Management Comments:  Management concurred with the
recommendation to strengthen existing procedures that required
program offices to submit procurement requests through Nevada's
Contract Management Division.  Management further stated that the
Director of the Contract Management Division would send a
memorandum to all program offices re-emphasizing the requirement
to send all procurement requests to the Contract Management
Division.
 
     Auditor Comments:  Management's proposed corrective action
is responsive to the recommendation.
 
Recommendation 2
 
     Management Comments:  Management partially concurred with
the recommendation to discontinue the use of the M&O contractor
to acquire services that directly support program offices.  To
the extent that Department Headquarters program offices request
support, Nevada agrees with the recommendation.  However, Nevada
believes that procurements directed by its own program officials
can be appropriate, so long as they are consistent with DOE Order
4200.1C, Competition In Contracting.
 
     Management stated that the contractor's scope of work
included the specific areas that were the purposes of the
subcontracts discussed in this report.  Management contends that
Nevada's Contract Management Division may go to the contractor
when the procurement is related to the contractor's mission and
usual procedures are insufficient.  Further, management did not
agree that the 14 directed procurements cited in the report were
inappropriate.  Management contends that sole-source
justifications in the contract files were sufficient evidence
that the directed procurements were appropriate.  Management
supplied supplemental information that explained its position
that the 14 subcontracts cited in the report were appropriately
awarded.
 
     Auditor Comments:  Although Nevada concurred with part of
this recommendation, it did not address corrective actions to
eliminate future Headquarters-directed procurements.  Further,
DOE Order 4200.1C does not supersede Department guidance cited in
this report respecting directed procurements.  Rather, it appears
Nevada is misinterpreting this order which allows sole-source
procurements under certain circumstances that have been fully
justified.  According to Headquarters procurement officials, such
justifications apply to work the M&O contractor would actually
perform for the Department.  They would not apply to cases such
as the 14 cited in the report, where the M&O contractor had only
administrative responsibilities and no substantive or technical
participation.  Although the contractor's scope of work included
the specific areas that were the purposes of the 14 subcontracts,
the contractor must have technical responsibilities and have
substantive involvement for the subcontracts they issue.  Lack of
such participation is, in fact, strong evidence that the services
contracted for were not necessary to the contractors mission.
Further, sole-source justifications in the contract files tell
only why a certain contractor was chosen.  They do not explain
why the M&O contractor, and not Nevada, had to procure the
service.  The supplemental data did not explain why the M&O
contractor should award these 14 subcontracts.
 
Recommendation 3
 
     Management Comments:  Nevada did not concur with the
recommendation to instruct the M&O contractor to augment, if
necessary, and enforce its procedures aimed at ensuring that only
procurement requests within the contractor's mission are
accepted.  Management cited DOE Order 4200.1C, Competition in
Contracting, as the reason for not concurring.  Further,
Management contends that what we have suggested would undermine
the contracting officer's authority, by allowing the M&O
contractor to decide what services they will procure.
 
     Auditor Comments:    The audit report did not focus on
competition in contracting.  In contrast, it focused on Nevada's
use of the M&O contractor's procurement office to obtain directed
support service subcontracts for which the M&O contractor had no
technical or substantive involvement.
 
     The Deputy Assistant Secretary of Procurement and Assistance
Management informed M&O contractor purchasing managers that they
will be held accountable for issuing subcontracts which are not
within the company's mission.  This was documented to the
Operations Offices in a January 30, 1996, memorandum.
 
                                     Report No. WR-B-96-07
 
 
                                
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