United States General Accounting Office

GAO Testimony

Before the Subcommittee on Government Management,

Information and Technology Committee on Government

Reform and Oversight House of Representatives

For Release on Delivery

Expected at

9:00 a.m., EDT

Monday

Sept. 29, 1997

PRIVATIZATION AND

COMPETITION

Comments on H.R. 716, The

Freedom from Government

Competition Act

Statement of

L. Nye Stevens, Director,

Federal Management and Workforce Issues,

General Government Division

GAO/T-GGD-97-185

Statement 

Privatization and Competition: Comments

on H.R. 716, the Freedom From Government

Competition Act

Mr. Chairman and Members of the Subcommittee:

I am pleased to be here today to assist the Subcommittee in its

consideration of H.R. 716, the Freedom From Government Competition

Act. The bill would require that the government procure from the private

sector, with some exceptions, the goods and services it needs to carry out

its functions. As you know, we testified in June on S. 314, the Senate

companion bill to H.R. 716, and my remarks today closely parallel our

statement before the Senate Committee on Governmental Affairs.1

Specifically, I will discuss H.R. 716 as a potential vehicle for competitive

contracting, using the results of our recent work on privatization

initiatives at the state and local government levels.

We reported in March 1997 on the major lessons learned by, and the

related experiences of, state and city governments in implementing

privatization efforts.2

 Our report, done at the request of Representative

Scott Klug, examined the privatization experiences and lessons learned by

the states of Georgia, Massachusetts, Michigan, New York, and Virginia, as

well as the city of Indianapolis. While not done across the board each of

these governments made extensive use of privatization—primarily

contracting out governmental functions—over the last several years,

tailoring their approaches to their particular political, economic, and labor

environments. On the basis of our literature review, the views of a panel of

privatization experts, and our work in the six governments, we identified

six lessons that were generally common to all six governments. In general,

the governments found that they needed to

• have committed political leaders to champion the privatization initiative;

• establish an organizational and analytical structure to implement the

initiative;

• enact legislative changes and/or reduce resources available to government

agencies in order to encourage greater use of privatization;

• develop reliable and complete cost data on government activities to assess

their performance, support informed privatization decisions, and make

these decisions easier to implement and justify to potential critics;

• develop strategies to help their workforces make the transition to a

private-sector environment; and lastly,

1

Privatization and Competition: Comments on S. 314, the Freedom From Government Competition Act

(GAO/T-GGD-97-134, June 18, 1997).

2

Privatization: Lessons Learned by State and Local Governments (GAO/GGD-97-48, Mar. 14, 1997).

Page 1 GAO/T-GGD-97-185
Statement 

Privatization and Competition: Comments

on H.R. 716, the Freedom From Government

Competition Act

• enhance monitoring and oversight to evaluate compliance with the terms

of the privatization agreement and evaluate performance in delivering

services to ensure that the government’s interests are fully protected.

Figure 1: Lessons Learned From Our Review of State and Local Privatization Efforts

Reliable cost data

Reliable cost data on

 government activities

 are needed to support

 informed privatization

 decisions and to assess

 overall performance.

Political champion 

Privatization can best be introduced

 and sustained when a political 

 leader champions it.

Implementation structure

Government leaders need to

 establish an organizational

 and analytical structure to ensure

 effective implementation.

Legislative and

resource changes

Governments may need to

 enact legislative changes

 and/or reduce governmental

 resources to encourage

 greater use of privatization.

Strategies for 

workforce transition

Governments need

 strategies to manage

 workforce transition.

Monitoring and oversight

More sophisticated

 monitoring and oversight

 are needed to protect the

 government's interests

 when its role in the delivery

 of services is reduced

 through privatization.

Implementation

Source: GAO analysis.

Page 2 GAO/T-GGD-97-185
Statement 

Privatization and Competition: Comments

on H.R. 716, the Freedom From Government

Competition Act

H.R. 716 Provides a

Tool but Not a

Substitute for a

Political Champion

The history of government reform has demonstrated that new policies,

whether based in law or in administrative directives, are not

self-implementing. In our work on state and local privatization initiatives,

we reported that reforms such as privatization are most likely to be

sustained when there is a committed political leader to champion the

initiative. In the six governments we visited, a political leader (the

governor or mayor), or in one case, several leaders working in concert

(state legislators and the governor), played a crucial role in fostering

privatization. These leaders built internal and external support for

privatization, sustained momentum for their privatization initiatives, and

adjusted implementation strategies when barriers to privatization arose.

H.R. 716 does not, and probably cannot, provide for effective political

leadership. It has been executive branch policy for more than 30 years to

encourage competition between the federal workforce and the private

sector for providing commercial goods and services. However, this policy

has been embodied only in an administrative directive, Office of

Management and Budget (OMB) Circular A-76. While we have consistently

endorsed the concept of encouraging such competition, its effectiveness in

practice has been questioned both in the executive branch and in dozens

of congressional hearings.

H.R. 716 would give the force of law to general reliance on the private

sector for commercial goods and services, and thus would provide a

stronger foundation, but not a substitute, for political leadership.

H.R. 716 Would

Establish a Flexible

Implementation

Structure

To implement their privatization initiatives, the governments we visited

reported the need to establish an organizational and analytical structure. A

key aspect of this structure is an office to guide and support the

privatization initiative and provide the analytical framework to evaluate

the costs, benefits, and risks of privatizing a particular activity. Many of

the frameworks established by the six governments shared common

elements, such as criteria for selecting activities to privatize, methods for

cost comparisons, and procedures for monitoring the performance of

privatized activities.

Responding to the need for such a centralized structure, H.R. 716 requires

OMB to issue regulations and to establish a new “Center for Commercial

Activities,” which is given responsibility for

• implementing the requirements of the legislation;

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Privatization and Competition: Comments

on H.R. 716, the Freedom From Government

Competition Act

• ensuring compliance by agencies; and

• providing guidance, information, and assistance to both private and public

sectors.

OMB is given wide latitude as to what regulations it will issue and what they

will contain. This grant of broad authority affords OMB flexibility in

implementing the legislation. However, given the wide latitude that OMB is

afforded by the bill, issues will inevitably arise during implementation that

will have to be dealt with by OMB. These issues could include such

questions as

• Whether government corporations, federally funded research and

development centers, state governments, or even the U.S. Postal Service

should be included within the definition of “private sector sources” and

thus eligible to compete for the government’s contracts.

• Whether public buildings would need to be sold to the private sector in

order to house federal employees.

• How OMB will incorporate congressional views when significant or highly

sensitive conversions are proposed.

Given concerns such as these, Congress will need to oversee OMB’s

performance of its responsibilities. The strategic and annual performance

plans and annual report that OMB is to produce under the Government

Performance and Results Act, provide a mechanism for such

accountability. OMB could include in its strategic plan an objective and

strategy for implementing the bill’s requirements.3

 The strategy could be

developed in consultation with Congress and could describe major

priorities as well as specific milestones for implementing the bill’s

provisions. In addition, OMB through its annual performance plan could

provide a schedule for changing current policies and systems that would

be necessary to accomplish the bill’s purposes. Such a schedule would

provide greater direction for agencies as they go through the process of

identifying potential activities to be included in their annual performance

plans. It could also provide a firm basis for Congress to assess OMB and

agency activities as they relate to the bill’s requirements.

To effectively carry out the role envisioned for it under the bill, OMB will

require additional resources or will need to reallocate existing resources

from other mandated responsibilities. We reported in 1995 that we were

concerned about OMB’s capacity to carry out its already numerous

3

The Results Act: Observations on the Office of Management and Budget’s July 1997 Draft Strategic

Plan (GAO/AIMD/GGD-97-169R, Aug. 21, 1997).

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Privatization and Competition: Comments

on H.R. 716, the Freedom From Government

Competition Act

management responsibilities, which have been expanded significantly in

recent years.4

 Such a plan might be an appropriate vehicle for addressing

such resource issues.

Implementation of H.R. 716

Would Be Helped by

Integrating It With

Agencies’ Strategic and

Performance Planning

Activities

The experiences of other governments as well as of major private firms

indicate that, when the outsourcing of functions is contemplated, answers

to fundamental questions about the purpose and mission of an

organization should precede any major outsourcing activities. The bill has

significant implications for the ongoing implementation of the Results Act;

the Act focuses on what activities the government should or should not be

performing from the perspective of overall contributions to missions and

goals, while the bill addresses how and by whom those activites should be

performed. Under the provisions of the Results Act, agencies are required

to set their strategic direction through multiyear strategic plans, develop

annual goals, and report on performance against those goals. Agency

strategic plans and performance measures are intended to provide

Congress with a vehicle for asking fundamental questions about federal

functions and their performance. In our recent reports on the

implementation of the act, we have found that many agencies are not yet

well positioned to specify their plans and strategies in terms of tangible

results.5

If enacted, the bill’s implementation will occur as agencies are going

through their first cycle of planning, measuring, and reporting on program

performance, as called for under the Results Act. The bill would amend

the Results Act by requiring, among other things, that agencies include in

the annual performance plans and reports that they submit to Congress

(1) inventories of functions that are and are not subject to the Freedom

From Government Competition Act’s provisions and (2) a schedule for

converting to private sector performance those functions capable of, but

not currently, being performed by the private sector. Requiring agencies to

specify the activities they would perform directly, and those they would

convert to private sector performance, is consistent with the Result Act’s

strategic planning requirements.

If Congress chooses to enact H.R. 716, an opportunity exists to further

integrate implementation of the bill’s provisions with the Results Act. A

4

Office of Management and Budget: Changes Resulting From the OMB 2000 Reorganization

(GAO/GGD/AIMD-96-50, Dec. 29, 1995).

5

Managing For Results: Critical Issues for Improving Federal Agencies’ Strategic Plans

(GAO/GGD-97-180, Sept. 16, 1997); The Government Performance and Results Act: 1997

Governmentwide Implementation Will Be Uneven (GAO/GGD-97-109, Jun. 2, 1997).

Page 5 GAO/T-GGD-97-185
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Privatization and Competition: Comments

on H.R. 716, the Freedom From Government

Competition Act

key provision of H.R. 716 requires OMB to create a methodology for making

determinations on what types of activities should and should not remain in

government. This provision, if integrated with the strategic planning and

annual performance planning requirements of the Results Act, could avoid

the potential situation of agencies inadvertently replacing unneeded

federal functions with unneeded private sector contractors—a concern we

have expressed regarding Department of Defense depots.6

 By making clear

that, as part of their strategic planning and performance measurement

activities, agencies should review potential outsourcing candidates in light

of their contribution to mission accomplishment, the bill could reduce the

possibility of such an outcome.

Incentives May Be Needed

for Implementing Change

Encouraging the magnitude of change that this bill contemplates will

require incentives if it is to be effective. We believe that integrating the

bill’s requirements with those of the Results Act is one of the best

incentives Congress could use to ensure successful implementation. The

Act should, if successfully implemented, expand opportunities for

congressional oversight of agency performance, including, for example,

closer scrutiny of agency budget requests for specific activities in the

context of expectations about program performance. Another incentive

could be to allow government agencies to use savings gained from

eliminating duplication and unnecessary non-core functions to further

improve operations or satisfy other priorities such as modernization.7

However, such proposals need to be carefully examined as they raise

questions of congressional oversight and the allocation of scarce financial

resources.

State and local governments that we reviewed used incentives to

accomplish their goals. In Virginia, officials said department managers

were allowed to retain savings garnered through privatization and

restructuring for use in productivity and technology improvements.8

 This

practice, according to the Director of Virginia’s Commonwealth

Competition Council, provided the incentive needed and helped solve the

question often asked by managers of “what’s in it for me”? In Indianapolis’

managed competition process, if the public sector won a competition and

6

Defense Depot Maintenance: Privatization and the Debate Over the Public-Private Mix

(GAO/NSIAD-96-148, Apr. 17, 1996).

7

See for example: DOD High-Risk Areas: Eliminating Underlying Causes Will Avoid Billions of Dollars

in Waste (GAO/T-NSIAD/AIMD-97-143).

8

S. 959, Workforce Transition Act of 1995, Chapter 811 of the Acts of Assembly, Commonwealth of

Virginia.

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Privatization and Competition: Comments

on H.R. 716, the Freedom From Government

Competition Act

the union-management team performed the activity at the desired level of

performance for less than it had bid, the team would receive a share of the

savings at the end of the year. The city, after tracking performance over a

period of years, could place a moratorium on bidding for areas for which

city employees had demonstrated performance excellence and in which

they had consistently outbid private competitors. In addition, Indianapolis

built community support by taking some cost savings achieved through

outsourcing and managed competitions and allocated it to hiring

additional police, lowering tax rates, and increasing infrastructure

projects. According to the Deputy Mayor, this approach built community

support and provided further incentives for managed competition and

outsourcing.

In contrast, Georgia’s Governor instituted a budget redirection program

that required all agencies to prioritize their current programs and activities

and identify those programs that could be eliminated or streamlined. The

agencies were required to make at least 5 percent of their total

state-funded budgets available for redirection to higher priorities.

According to a Georgia Privatization Commission official, agencies were

given a 6-month notice that their budgets would be cut by 5 percent. State

officials said these budget cuts required managers to rethink how they

could perform the same activities for a lower cost. This action provided

the incentive for agencies to contract out more activities, such as vehicle

maintenance and management services for a war veterans facility.

The Relationship of

H.R. 716 to Other

Relevant Laws Is

Unclear

In our state and local work, we found that all five states and the city of

Indianapolis used some combination of legislative changes and resource

cuts as part of their privatization initiatives. These actions were taken to

encourage greater use of privatization. Georgia, for example, enacted

legislation to reform the state’s civil service and to reduce the operating

funds of state agencies. Virginia reduced the size of the state’s workforce

and enacted legislation to establish an independent state council to foster

privatization efforts. These actions, officials told us, reduced obstacles to

privatization and sent a signal to managers and employees that political

leaders were serious about implementing it.

While providing a statutory basis for competitively contracting out

government functions, H.R. 716 has implications for certain existing laws.

As currently drafted, the bill is broad in its application, and how it will

relate to existing laws and policies is not entirely clear. For example, H.R.

716 prohibits agencies from beginning or carrying out any activity to

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Privatization and Competition: Comments

on H.R. 716, the Freedom From Government

Competition Act

provide any products or services that can be provided by the private

sector, and it prohibits agencies from providing any goods or services to

any other governmental entity. This could conflict with the “Economy Act

of 1932” (31 U.S. 1535-1536), which authorizes interagency orders for

goods and services, as well as with the General Services Administration’s

(GSA) authority to provide agencies with goods and services. GSA was

created, and still exists, to provide goods and services to agencies, such as

office space, consolidated purchasing, air fare contracts, and excess

property disposal. Its role under H.R. 716 is unclear.

In addition, the bill does not contain language limiting judicial review of

management actions taken under its provisions. The possibly unintended

effect of subjecting management decisions to judicial review could slow

implementation and increase costs due to litigation.

Reliable and

Complete Cost

Information Needed

for Privatization

Decisions

In the governments we visited, reliable and complete cost data on

government activities were deemed essential in assessing the overall

performance of activities targeted for privatization, in supporting informed

privatization decisions, and in making these decisions easier to implement

and justify to potential critics. Most of the governments we surveyed used

estimated cost data because obtaining complete cost and performance

data, by activity, from their accounting systems was difficult. However,

Indianapolis, and more recently Virginia have used activity based costing

(ABC)9

 to obtain more precise and complete data on the cost of each

separate program activity.

H.R. 716 Requires Cost and

Past Performance

Information in Making

Privatization Decisions

A notable feature of the draft legislation is the provision describing the

criteria that are to be used in contracting for goods and services. The

legislation requires OMB to prescribe standards and procedures that are to

include the analyses of all direct and indirect costs, and to be performed in

a manner consistent with generally accepted cost accounting principles as

well as with past performance of sources. We have found in the past that

the widespread absence of this type of information has compromised

effective public-private comparisons. This provision of the bill is

9

ABC is a methodology that assigns costs to products or services based on the resources they

consume. It assigns functional costs, direct and indirect, to the activities of an organization and then

traces activities to the product or service that caused the activity to be performed. ABC gives visibility

to how effectively resources are being used and how all relevant activities contribute to the cost of a

product or service. Such information may be key to making decisions about whether to restructure or

privatize an activity. See Glossary: Terms Related to Privatization Activities and Processes

(GAO/GGD-97-121, July, 1997).

Page 8 GAO/T-GGD-97-185
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Privatization and Competition: Comments

on H.R. 716, the Freedom From Government

Competition Act

consistent with current efforts aimed at improving federal financial

management.

In the past, when competitive contracting has been done at the federal

level under the provisions of Circular A-76, the absence of workload data

and adequate cost accounting systems has made the task all the more

difficult. Given that most agencies do not have cost accounting systems in

place at this point, the bill’s requirement to use past performance and cost

data will be difficult for many federal activities to meet.

Efforts are under way to develop the type of cost and performance data

that would be necessary to compare public versus private proposals, as

could occur under the provisions of H.R. 716. The Federal Accounting

Standards Advisory Board (FASAB) has developed standards that are

designed to provide information on the costs, management, and

effectiveness of federal agencies. These standards require agencies to

develop measures of the full costs of carrying out a mission or of

producing products and services. Such information, when available, would

allow for comparing the costs of various programs and activities with their

performance outputs and results. To help agencies meet these standards,

the Joint Financial Management Improvement Program (JFMIP) plans to

issue guidance to facilitate the acquisition and development of managerial

cost accounting systems needed to accumulate and assign cost data

consistent with governmentwide data.10

H.R. 716 Recognizes

Federal Workforce

Transition Needs

We found that governments we visited needed to develop strategies to

help their workforces make the transition to a private-sector environment.

Such strategies, for example, might seek to involve employees in the

privatization process, provide training to help prepare them for

privatization, and create a safety net for displaced employees. Among the

six governments we visited, four permitted at least some employee groups

to submit bids along with private-sector bidders to provide public services.

All six governments developed programs or policies to address employee

concerns with privatization, such as the possibility of job loss and the need

for retraining.

10The JFMIP is a joint cooperative undertaking of the Office of Management and Budget, the General

Accounting Office, the Department of the Treasury, and the Office of Personnel Management, working

in cooperation with each other and with operating agencies to improve financial management

practices throughout the government. An exposure draft of the system requirement was issued in

April 1997, and final issuance is projected for later this calendar year.

Page 9 GAO/T-GGD-97-185
Statement 

Privatization and Competition: Comments

on H.R. 716, the Freedom From Government

Competition Act

The bill’s findings section states that it is in the public interest for the

private sector to utilize government employees who are adversely affected

by conversions of functions to the private sector. The legislation does not

create any new benefit or competitive job right that does not already exist.

It does, however, assign to the Director of OMB the function of providing

information on available benefits and assistance directly to federal

employees. This would be a new and possibly burdensome function for

OMB—a function that probably could be better handled by the Office of

Personnel Management, which already has responsibility and experience

in this area.

Competitive Contracting

Helped Attain Employee

Cooperation

Involving employees in the privatization process by letting them compete

for the right to provide the service was a strategy used by state and local

governments to gain employee cooperation during the privatization

process. H.R. 716 neither encourages nor prohibits public-private

competitions. However, it does give implicit authority to OMB to implement

such a program, by requiring that the implementing regulations include

standards and procedures for determining whether it is a private sector

source or an agency that provides certain goods or services for the best

value. While the question of how such determinations would be made is

left up to OMB, competitive contracting has been the traditional method for

making such determinations both at the federal level and the state and

local level.11

Effective Monitoring

and Oversight of

Contractor

Performance Are

Essential

When a government’s direct role in the delivery of services is reduced

through privatization, we found that, at least among the state and local

governments we visited, the need for aggressive monitoring and oversight

grew. Oversight was needed not only to evaluate compliance with the

terms of the privatization agreement, but also to evaluate performance in

delivering goods and services in order to ensure that the government’s

interests were fully protected. Indianapolis officials said their efforts to

develop performance measures for activities enhanced their monitoring

efforts. However, officials from most governments said that monitoring

contractors’ performance was the weakest link in their privatization

processes.

11Under competitive contracting, also referred to as managed competition, a public-sector agency

competes with private-sector firms to provide public-sector functions or services under a controlled or

managed process. This process clearly defines the steps to be taken by government employees in

preparing their own approach to performing an activity. The agency’s proposal, which includes a

proposal for cost-estimation purposes, is useful in competing directly with private-sector offers.

Page 10 GAO/T-GGD-97-185
Statement 

Privatization and Competition: Comments

on H.R. 716, the Freedom From Government

Competition Act

The essential foundation for effective oversight is good cost and

performance data. H.R. 716’s analytical requirements call for the

consideration of all direct and indirect costs, qualifications, and past

performance as well as other technical considerations. These

requirements, along with the authority and flexibility given to OMB in

implementing the legislation, provide the necessary foundation for

effective performance monitoring and oversight, but they do not resolve

capacity problems.

Converting government activities to private-sector performance will

increase the contracting workload on federal agencies. Conversion to

contract performance requires considerable contract management

capability. An agency must have adequate capacity and expertise to

successfully carry out the solicitation process and effectively administer,

monitor, and audit contracts once they are awarded. In past reports on

governmentwide contract management, we identified major problem

areas, such as ineffective contract administration, insufficient oversight of

contract auditing, and lack of high-level management attention to and

accountability for contract management.12 Some federal agencies have

recognized the problem and have taken actions intended to improve their

contract management capacity. The Department of Energy (DOE) and The

National Aeronautics and Space Administration (NASA) provide examples

of the challenges agencies face in overseeing contractors.

DOE—the largest civilian contracting agency in the federal

government—contracted out about 91 percent of its $19.2 billion in fiscal

year 1995 obligations. We designated DOE contracting in 1990 as a high-risk

area, vulnerable to waste, fraud, abuse, and mismanagement, because

DOE’s missions rely heavily on contractors and DOE has a history of weak

contractor oversight; however, it has been working to improve its contract

management practices. As we recently reported in our high-risk report on

DOE,

13 changing the way DOE does business has not come easily or quickly.

DOE has taken various actions in the past to improve its contracting, and a

recent contract reform effort that has received high priority and visibility

appears promising; however, much remains to be done to ensure effective

oversight of contractors.

12Government Earns Low Marks on Proper Use of Consultants (GAO/FPCD 80-48, June 16, 1980);

Civilian Agency Procurement: Improvements Needed in Contracting and Contract Administration

(GAO/GGD-89-109, Sept. 5, 1989); and Federal Contracting: Cost-Effective Contract Management

Requires Sustained Commitment (GAO/T-RCED-93-2, Dec. 3, 1992).

13Department of Energy Contract Management (GAO/HR-97-13 Feb. 1997).

Page 11 GAO/T-GGD-97-185
Statement 

Privatization and Competition: Comments

on H.R. 716, the Freedom From Government

Competition Act

NASA’s contracting reforms demonstrate what can be accomplished when

an agency places high priority on contractor oversight. NASA spends about

90 percent of its budget on contracts with businesses and other

organizations. NASA’s procurement budget is one of the largest among

federal civilian agencies, totaling about $13 billion annually in recent

years. NASA first identified its contract management as vulnerable to waste

and mismanagement in the late 1980s. Since then, it has grappled with a

variety of contract management problems. NASA has made considerable

progress in developing ways to better influence contractors’ performance

and to improve oversight of field centers’ procurement activities. It has,

for example, established a process for collecting cost, schedule, and

technical information for all major NASA contracts to assist management in

the tracking of contractor performance, and it also has restructured its

policy on award fees to emphasize contract cost control and the

performance of contractors’ end products.

In conclusion, Mr. Chairman, striking a proper balance between the publicand private-sector provision of goods and services to the American people

is among the most enduring issues in American politics and public policy.

The Freedom From Government Competition Act would redirect current

policy, which does not now have the weight of legislative authority and

significantly affect the operation and management of the federal

government. We believe that Congress is the proper forum to address such

fundamental questions, and we hope that our testimony today has been

helpful by raising some issues for the Subcommittee to consider in its

deliberations on the proposed act.

That concludes my prepared statement. I would be pleased to answer any

questions the Subcommittee may have.

(410189) Page 12 GAO/T-GGD-97-185
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