United States General Accounting Office

GAO Report to Congressional Requesters

September 1996 NAVY DEPOT

MAINTENANCE

Cost and Savings

Issues Related to

Privatizing-in-Place at

the Louisville,

Kentucky, Depot

G O A

years

1921 - 1996

GAO/NSIAD-96-202

GAO United States

General Accounting Office

Washington, D.C. 20548

National Security and

International Affairs Division

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September 18, 1996

The Honorable Floyd Spence

Chairman

The Honorable Ronald Dellums

Ranking Minority Member

Committee on National Security

House of Representatives

The Honorable Norman Sisisky

House of Representatives

The Department of Defense (DOD) is planning to reallocate depot

maintenance workloads from depots recommended for closure or

realignment by the 1995 Defense Base Closure and Realignment (BRAC)

Commission. DOD is considering privatization-in-place for several of these

depots. You asked that we review plans to privatize workloads in place

rather than move the workload to remaining depots. Specifically, we are

reviewing each of the services’ privatization-in-place initiatives to

determine the (1) impact on excess depot capacity and operating costs at

the remaining industrial facilities, (2) cost-effectiveness of planned

privatization-in-place options, and (3) compliance with statutory

requirements affecting transfers of depot maintenance workloads to the

private sector. Although our work is still ongoing, you requested that we

report now on the Navy’s plans to privatize-in-place its depot workload at

Louisville, Kentucky. You needed this information because the Navy

notified Congress of its intent to award contracts for the Louisville,

Kentucky, depot workload using other than competitive procedures. We

will be reporting separately on privatization-in-place initiatives involving

Air Force and Army depots.

Background Since the early 1970s, we and others have reported on redundancies and

excess capacity in DOD depots. The excess capacity problem has been

exacerbated in recent years by reductions in military force structure and

related weapon system procurement; changes in military operational

requirements due to the end of the Cold War; and the increased reliability,

maintainability, and durability of military systems. We recently determined

that excess capacity in the DOD depot maintenance system is about

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40 percent for fiscal year 1996.1 Additionally, the private sector, which has

seen its production workload for new systems and equipment decline and

has significant excess production capacity, is seeking an increased share

of the depot maintenance workload.

The BRAC process of closing or realigning depots and transferring their

workloads either to remaining depots or to the private sector has, in the

past decade, been the most effective way of addressing DOD’s problem of

excess capacity.2

 During the 1995 BRAC process, one of DOD’s

recommendations was to close the Louisville depot and transfer its

workload to other Navy facilities—primarily the naval gun workload to the

Norfolk Naval Shipyard, Virginia; the Phalanx workload to the Naval

Surface Warfare Center, Crane, Indiana; and the engineering support

functions to the Naval Surface Warfare Center, Port Hueneme, California.

Concerned with the potential economic impact, the city of Louisville

suggested an alternative public-private partnership between the Navy, a

local community group and two private contractors. It proposed

privatizing the Navy’s operation of the Louisville facility with two private

contractors. After considering the privatization goals cited by the

Commission on Roles and Missions and the merits of the proposed

cooperative venture, the BRAC Commission urged the Navy to allow

privatization of the Louisville facility. Thus, in adopting DOD’s

recommendation to close Louisville, the Commission recommended

“transfer(ing) workload, equipment, and facilities to the private sector or local jurisdiction

as appropriate if the private sector can accommodate the workload on site; or relocate

necessary functions along with necessary personnel, equipment, and support to other naval

technical activities, primarily the Naval Shipyard, Norfolk, Virginia; Naval Surface Warfare

Center, Hueneme, California; and the Naval Surface Warfare Center, Crane, Indiana.”

The Louisville Detachment of the Naval Surface Warfare Center, Crane

Division, is located on a 142-acre site within the city limits of Louisville,

1

Capacity and workload statistics are described in direct labor hours. In computing excess capacity,

we subtracted programmed fiscal year 1996 workload from projected maximum potential capacity,

assuming a 5-day workweek, one 8-hour-per-day shift operation. Maximum potential capacity is the

assessment of the maximum number of direct labor hours that a depot can produce, given existing

equipment and facilities and no manpower constraints.

2

The Defense Base Closure and Realignment Act of 1990 (P.L. 101-510) created independent BRAC

commissions and outlined procedures, roles, and time frames for the President, Congress, DOD, GAO,

and the commissions to follow in identifying, reviewing, approving, and implementing base closures

and realignments.

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Kentucky.3 The Louisville depot is responsible for providing engineering

and technical support as well as overhaul and remanufacturing capability

for naval surface ship gun and missile systems, including the 5-inch Mark

45 and Mark 75 guns, missile launchers, gun computer and fire control

systems, torpedo tubes, and the Navy’s anti-missile Phalanx

Close-In-Weapon System. Louisville has nine major production buildings

with approximately 1.4 million square feet of plant space. The facility

provides a wide range of mechanical capability, including weapon system

disassembly and assembly, gun manufacturing, machining, component

fabrication, welding, metal plating, and surface finishing. The depot has

3.8 million direct labor hours of maximum potential capacity to perform

1.3 million hours of work, leaving the facility with 2.5 million hours of

excess capacity and only 34 percent utilization.4

 At the time of the BRAC

decision, the depot employed approximately 1,600 civilian personnel.

The Navy is planning to privatize the workload in place in the Louisville

facility. On June 13, 1996, the Secretary of the Navy notified Congress that,

under the Competition in Contracting Act, the Navy intended to award

contracts restricting competition in the public interest to the two defense

contractors selected by the local redevelopment authority. The Navy

awarded contracts to Hughes Missile Systems Company and United

Defense Limited Partnership on July 19, 1996.

Results in Brief As we stated in April 1996 testimony on depot maintenance before the

Readiness Subcommittees of the House National Security Committee and

Senate Armed Services Committee, deciding the future of the DOD depot

system is difficult. Depot maintenance privatization should be approached

carefully, allowing for evaluation of economic, readiness, and statutory

requirements that surround individual workloads. Privatizing depot

maintenance activities, if not effectively managed, including the

downsizing of remaining DOD depot infrastructure, could exacerbate

existing capacity problems and the inefficiencies inherent in

underutilization of depot maintenance capacity. Privatization-in-place does

not appear to be cost-effective given the excess capacity in DOD’s depot

maintenance system and in the private sector.5

3

In April 1991, the Navy realigned the Naval Ordnance Station, Louisville, Kentucky, under the Naval

Surface Warfare Center and made it a detachment of the Naval Surface Warfare, Crane Division. The

Crane Division is located in Crane, Indiana, and is one of five divisions included as part of the Naval

Surface Warfare Center.

4

The Navy certified this figure for Louisville’s 1996 maximum potential capacity during the 1995 BRAC

process.

5

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

(GAO/T-NSIAD-96-146, Apr. 16, 1996) and (GAO/T-NSIAD-96-148, Apr. 17, 1996).

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The Navy’s plan for privatizing the workloads in place at the Louisville

depot will not reduce excess capacity in the remaining public depots or

the private sector, may prove more costly than transferring the work to

other depots, and does not appear to be consistent with an existing

statutory requirement for public-private competitions. In recommending

the Louisville closure, the Navy proposed transferring 1.5 million direct

labor hours, representing about 850 staff years, to the Norfolk Naval

Shipyard and Crane and Port Hueneme sites of the Naval Surface Warfare

Center. Norfolk and Crane have 5.4 million and 1.6 million hours of excess

capacity, respectively. Moreover, excess capacity will still persist in the

private sector, including facilities owned by the two defense contractors

selected to operate and manage the privatized Louisville depot.

The Navy’s preliminary cost analysis that privatization-in-place is

cost-effective is based on limited cost data that overstates the cost of

relocating the workloads by at least $66 million and on the general

assumption that privatizing workloads will save 20 percent. The projection

was based on conditions that are not relevant for most depot maintenance

workloads and does not reflect the cost of excess capacity in the public

sector. Moreover, we have previously reported that the goal of achieving

20-percent savings by privatizing depot maintenance workloads is not

likely to be reached. 6

On July 19, 1996, the Navy completed its cost analysis of the Louisville

privatization-in-place and awarded contracts to United Defense and

Hughes for work in process, with unpriced options for fiscal years 1997

through 2001. According to DOD officials, the estimated annual recurring

costs of performing the work at the privatized Louisville facility will be

greater than the cost of performing the work at the Navy sites. However,

the impact of factoring in a $243 million one-time cost of transferring the

workloads to these sites more than offset the annual savings during the

first 5 years. As a result, the Navy’s analysis showed a 5-year savings of

$60 million from privatization-in-place. We are in the process of reviewing

the Navy’s analysis and as agreed with your offices we will be reporting

the results of that work separately. However at this point it is clear that

the Navy’s analysis factored in the costs of transferring the workloads, but

did not factor in annual savings that would result from reduced overhead

costs per workload at the receiving locations.

6

Defense Depot Maintenance: Commission on Roles and Mission’s Privatization Assumptions Are

Questionable (GAO/NSIAD-96-161, July 15, 1996).

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Several statutes may affect the privatization of depot maintenance

workloads. A key provision is 10 U.S.C. 2469, which requires a competition

between public and private entities before privatizing DOD workloads

valued at not less than $3 million. We have not been able to identify any

element of the Navy’s plan for privatization of the Louisville depot that

addresses the 10 U.S.C. 2469 requirement.

Navy Plans Do Not

Reduce Excess

Capacity in the Public

or Private Sector

Because the Navy plans to privatize the Louisville depot’s current

workload in place, neither excess capacity nor associated maintenance

costs will be reduced at other DOD depots or the private sector. The 1994

Defense Science Board Task Force on Depot Maintenance Management,

which included representatives from the public and private sectors, stated

that divestiture of excess infrastructure is a key element of reducing

overall depot maintenance costs. Private industry representatives pointed

out that through consolidations, mergers, and closures, the defense

industry has attempted to address its significant excess capacity problem

and DOD needs to do the same. Privatizing-in-place transfers excess

capacity to the private sector but does not eliminate it. DOD pays for this

excess capacity, whether it is in the public or the private sector.

DOD has had little success eliminating underused industrial facilities except

through the BRAC process. In making its recommendations to the BRAC

Commission on the Louisville closure, the Navy proposed transferring

402,500 direct labor hours to the Norfolk Naval Shipyard and about

925,750 and 187,250 direct labor hours to the Crane and Port Hueneme

locations, respectively, of the Naval Surface Warfare Center. Based on an

evaluation of maximum potential capacity and programmed workload for

fiscal year 1996, naval shipyards had 35-percent excess capacity,

representing 18.5 million direct labor hours. The Norfolk Naval Shipyard

has 34-percent excess capacity, representing about 5.4 million direct labor

hours, and Crane has 69-percent excess capacity, representing about

1.7 million direct labor hours. The Navy has started to privatize these

workloads in place at Louisville. Consequently, an opportunity to reduce

excess capacity at the other Navy industrial activities is missed.

In developing its privatization-in-place plans, the Navy did not consider

consolidating the Louisville workloads with comparable workloads in

contractor facilities. United Defense Limited Partnership and Hughes

Missile Systems Company, which will operate the Louisville site, also have

extensive excess capacity in their own facilities. Although these are

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manufacturing rather than repair facilities, they have significant excess

capacity the contractors believe could be adapted for repair.

Louisville

Privatization-in-Place

May Not Be

Cost-Effective

The Navy believes that privatization of the Louisville depot will minimize

the impact of the closure on the local community and will produce

substantial savings. However, the Navy’s position on savings is not well

supported. Navy officials cited several reasons why privatization would

produce savings. First, the Commission on Roles and Missions concluded

that privatizing depot maintenance activities could lower DOD depot

maintenance costs by 20 percent.7

 Second, although Navy officials said

they would not complete their cost analysis until the day before they

expect to award contracts for the Louisville workloads, their preliminary

analysis indicates that privatization is less expensive. Third, the city of

Louisville required contractors to commit to reducing labor rates below

the current Navy rates.

Savings From Competition

Will Not Likely Be Realized

The Commission’s assumption that privatization can reduce costs by

20 percent is not well supported, as we reported in July 1996.8

 The

Commission’s assumption was based primarily on reported savings from

public-private competitions for commercial activities under Office of

Management and Budget Circular A-76. Unlike depot maintenance

activities, which require large investments in capital equipment, technical

data, and highly trained and skilled personnel, these commercial activities

involved simple, routine, and repetitive tasks. Also, public activities won

about half of these competitions. The A-76 competitions generally had

many competitors—unlike depot maintenance where most contracts are

awarded without competition. Further, reports by us and defense audit

groups indicate that projected savings from the A-76 competitions were

often not fully achieved. Lastly, there was no competition between Hughes

and United Defense and other contractors for the Louisville workloads.

In its June 13, 1996, letter to Congress, the Navy stated its awards are in

the public interest since the Louisville redevelopment authority had

already competitively selected the two contractors. However, our review

7

The report, entitled Directions for Defense (May 24, 1995), by the Commission on Roles and Missions,

was forwarded to Congress on August 24, 1995. The Commission recommended that because of the

potential savings, DOD should privatize essentially all existing depot-level maintenance. It reported

that these savings would result from “meaningful competition,” which was defined as a competitive

market that included significant numbers of both buyers and sellers.

8

Defense Depot Maintenance: Commission on Roles and Mission’s Privatization Assumptions Are

Questionable (GAO/NSIAD-96-161, July 15, 1996).

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does not support the Navy’s position that a competition occurred. In

June 1995, prior to the completion of the BRAC process, the city of

Louisville entered into an agreement with Hughes and United Defense to

operate the Louisville depot maintenance facility in the event of a BRAC

decision.9 On July 1, 1995, the BRAC Commission forwarded its closure and

realignment recommendations to the President, who forwarded the report

to Congress on July 13, 1995. Congress completed its review and accepted

the Commission’s recommendations in September 1995.

In a December 1, 1995, letter, the Navy asked the Louisville redevelopment

authority to reaffirm that it was finalizing its agreements with Hughes and

United Defense. In February 1996, another contractor submitted an

unsolicited business concept offering to the city of Louisville for the

management and operation of the Louisville facility. In a February 24,

1996, letter to the local redevelopment authority, the Navy expressed

concern that the community might open its selection process to

competition. The Navy letter stated that the “introduction of a competitor

in Louisville will complicate the interface between the [Navy] depot and

the original equipment manufacturers.” On March 5, 1996, the Navy wrote

the redevelopment authority urging it to make its decision no later than

March 7, 1996. According to redevelopment authority officials, on March 7,

1996, they advised the three contractors that the redevelopment authority

board had decided not to hold a competition and the workloads would be

awarded to Hughes and United Defense.

Navy’s Preliminary Cost

Analysis Is Inaccurate and

Incomplete

As of July 10, 1996, Navy officials said they had not fully developed a cost

model for evaluating the two options planned for consideration and had

not determined what cost elements would be evaluated. However, they

expected to complete their final analysis prior to contract award, which

was expected on July 15, 1996. Under the first option, which the Navy

indicated in its June 13, 1996, congressional notification letter, the Navy

planned to award contracts for the Louisville workloads, assuming it

determines that privatization is the more cost-effective alternative. The

second option was to transfer workloads to Navy facilities the 1995 BRAC

process identified as candidates to receive the Louisville workload. Navy

officials expected the first option to be more cost-effective based on a

preliminary comparison of the estimated one-time transition costs and

their assumption that a contractor will have lower recurring costs.

9

The two contractors are the original equipment manufacturers for much of the ordnance currently

maintained or repaired at the Louisville depot.

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However, the data used in this comparison were inaccurate and

incomplete.

In June 1995, the Navy estimated that transferring the workload to other

naval facilities would cost about $302 million. In March 1996, the Navy

estimated that it would cost $132 million, or $170 million less, to

privatize-in-place and retain a small Navy engineering support activity at

Louisville. Based on these preliminary estimates, the Navy concluded that

privatization-in-place was more cost-effective. This analysis did not

consider all recurring costs and savings.

Transition Cost Estimates Are

Inaccurate

Some factors in the Navy’s June 1995 one-time cost estimates for

transferring the workload to other Navy sites are overstated. For example:

• The average cost factor used for permanent change-of-station moves was

higher for the transfer option than the privatization-in-place option. Under

the March 1996 privatization option cost estimate, the Navy estimated it

would cost an average of $26,400 to move each of the 409 employees

projected to take government jobs, which was about $3,000 lower than the

figure developed by the Navy for the BRAC 1995 process. In contrast, the

June 1995 estimate for transferring the workload included an average cost

of $48,145 to move 819 employees. The two estimates have a difference of

$21,745 per person. We could find no reason why the Navy used higher

costs for the depot transfer option. However, assuming that $26,400 is the

accurate cost factor, the transfer option is overstated by about $17 million.

• The overstatement of the permanent change-of-station costs also

overstated the estimate for DOD’s relocation income tax allowance

program. The program, which compensates individuals for federal income

taxes incurred on permanent change-of-station payments, is based on a

percentage of the payments received. The Navy’s estimate overstated the

program’s cost estimate by $2.4 million.

• The workload transfer cost estimate included $36 million to overhaul

larger numbers of spares than normally required to satisfy demands. This

was included because the Navy believed extra stock would be needed as a

cushion during the transition period. However, normal customer sales

would generate about $32 million; therefore, this figure should not have

been included in the transfer option. The appropriate cost estimate was an

additional $4 million that will not be recovered through customer sales.

• The workload transfer cost estimate included $37.6 million for military

construction at the Norfolk Naval Shipyard. During its fiscal year 1997

budget review, the Navy later determined this estimate was overstated by

$11.2 million.

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• The workload transfer estimate included about $2.2 million for DOD’s

homeowners assistance program, under which DOD offers to buy an

employee’s house if it cannot be sold and provides compensation for some

property value losses. According to Navy officials, since this program will

not be available for Louisville depot employees, their initial cost estimate

should not have included this cost for the transfer option.

The one-time cost estimate of $302 million for transferring the Louisville

workload is overstated by about $66 million, as summarized in table 1. We

attempted to analyze other cost factors used in the depot transfer option

and noted other costs were potentially overstated, such as those for the

employee assistance program and equipment shipment and reinstallation.

However, we have not yet developed a more realistic cost for these

factors. Nonetheless, because the Navy used preliminary estimates

developed for budget purposes, further evaluation is needed.

Table 1: GAO and Navy Estimates of

One-Time Transition Costs

Costs of transferring workload

Dollars in thousands

GAO Navy

Military construction $32,790 $43,990

Environmental 11,204 11,204

Civilian personnel 69,609a 89,860

Equipment relocation 43,386a 43,386

Operations and maintenance (other than

civilian personnel, equipment relocation, and

other operations and maintenance)

34,477 34,477

Other operations and maintenance 41,882 74,282

Homeowner Assistance program 0 2,162

Other nonoperations and maintenance 2,759 2,759

Total $236,107a $302,120

aThis figure could be lower because other transfer option cost elements, such as employee

assistance programs and equipment shipment and reinstallation costs, were potentially

overstated.

Privatization-in-Place Estimate

Appears to Be Understated

In March 1996, the Navy estimated it would cost $132 million to privatize

the Louisville depot in place, but this estimate appears to be understated.

Based on our preliminary analysis, understated costs include

(1) consolidation of equipment to reduce the facility’s size and more

efficiently use capacity, (2) incentives paid to contractors for hiring

displaced Navy employees, and (3) separation incentives. On July 15, 1996,

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when we provided a draft of this report to DOD for comment, the Navy was

revising its estimates for the costs of privatization-in-place. Subsequently,

in a July 19,1996, letter to the House Committee on National Security and

the Senate Committee on Armed Services, the Navy reported that its

updated cost analysis showed that privatizing the Louisville workload

rather than transferring it to other Navy depots should save $60 million—a

reduction of about $110 million in savings from its earlier estimate. Our

preliminary analysis of the initial cost estimates are presented below. As

you requested we are in the process of reviewing the Navy’s updated cost

analysis and will report the results of that work later this year.

Transferring Workload to Other

Navy Sites Appears to Be

Cost-Effective

Our previous BRAC work shows that consolidating depot maintenance

workloads can significantly reduce recurring costs for all workloads in the

remaining facilities. However, choosing the best option requires assessing

both one-time transition costs and recurring costs of operation after the

transition period.

As of July 10, 1996, Navy officials had not yet determined the impact of

transferring the Louisville workload on recurring maintenance costs for all

workloads at other Navy activities. At that time, they noted that, although

they may consider this factor in their final cost analysis, no decision had

yet been made to do so. We estimated the potential savings if the Louisville

workloads were consolidated at other Navy facilities by (1) using labor

rate data from the three potential receiving locations and (2) revising it to

reflect the overhead costs that would be reduced by spreading fixed

overhead costs over a larger workload base. Using hour and rate

information from contractor proposals, we also calculated the estimated

annual costs for the privatization option. Based on these estimates, we

projected that the Navy could achieve recurring annual savings of about

$47.8 million through workload transfers to the Navy activities originally

identified to receive these workloads.

Our calculations are based primarily on lower rates for workloads

currently at Norfolk and Crane, which occurred by increasing the use of

these facilities. This projection does not include the $31 million the

Commission estimated would be saved by eliminating personnel and

operating costs at Louisville. Combining these savings with the

$47.8 million resulting from transferring workloads results in an annual

savings of about $78.8 million. Therefore, even with one-time transfer

costs of $236 million (see table 1), the Navy could recoup the transition

costs within 3 years and begin to save $394 million over 5 years. Given this

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opportunity for savings, privatization-in-place does not appear to be the

most cost-effective approach.

Potential for Future Reductions

in Contractor Rates Uncertain

The Navy expects Hughes and United Defense to lower hourly rates as

they gain experience and add comparable commercial work to their

Louisville operations. Accomplishing this goal is uncertain because,

although the contractors have already agreed with the Louisville reuse

authority to reduce labor costs, they also agreed to retain a certain level of

the existing workforce and to guarantee current pay and benefits. The

Navy did not incorporate these agreements into its contract solicitations.

It opted for cost-type contracts.10 Further, the contractors might also have

trouble attracting commercial workload to the Louisville facility,

particularly in light of the age and condition of the equipment and

facilities. One contractor official told us the Louisville facility is in worse

condition than any other owned or operated by his company. Thus, it is

questionable whether the expected efficiency gains will be achieved.

Navy Has Not

Assessed Risk of

Contracting Core

Louisville Workload

Title 10 U.S.C. 2464 provides that DOD activities should maintain a core

logistics capability sufficient to provide the technical competence and

resources necessary for effective and timely response to a mobilization or

other national defense emergency. Navy data submitted during the 1995

BRAC process indicated that about 95 percent of the Louisville workload

was mission essential, needed to support contingency requirements, and

considered necessary to sustain core capabilities. In an April 1996 report

to Congress on depot maintenance policy, DOD required the military

services to conduct a risk assessment before privatizing mission-essential

workloads.11 DOD officials stated that qualitative factors have been

established for conducting a risk assessment and that privatization is

determined to be an acceptable risk when an adequate number of private

sector sources exist, and those sources are economical, possess the

capability and capacity to do the work, and have demonstrated proven

past performance. According to Navy officials, they did not perform a risk

assessment for the Louisville depot maintenance workloads.

10In the past we have reported that this type of contract often experiences cost growth, resulting in

program costs being higher than projected.

11Report on Policy Regarding Performance of Depot-Level Maintenance and Repair, Department of

Defense (Apr. 4, 1996).

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Statutes Affect Efforts

to Privatize

Workloads

As we previously reported, various statutory restrictions may affect how

much DOD depot-level workloads can be converted to private-sector

performance, including 10 U.S.C. 2464, 10 U.S.C. 2466, and 10 U.S.C. 2469.

Title 10 U.S.C. 2464 provides that the Secretary of Defense must identify a

“core” logistics capability and DOD must maintain it unless the Secretary

waives DOD performance as not required for national defense.

Titles 10 U.S.C. 2466 and 10 U.S.C. 2469 limit the extent to which

depot-level workloads can be converted to private-sector performance.

Title 10 U.S.C. 2466 specifies that not more than 40 percent of the funds

allocated in a fiscal year for depot-level maintenance or repair can be

spent on private sector performance—the so-called “60/40” rule. Title 10

U.S.C. 2469 prohibits DOD from transferring in-house maintenance and

repair workloads valued at not less than $3 million to another DOD activity

without using “merit-based selection procedures for competitions” among

all DOD depots or to contractor performance without the use of

“competitive procedures for competitions among private and public sector

entities.”

Although each statute affects the allocation of DOD’s depot-level workload,

10 U.S.C. 2469 is the primary impediment to privatization without a

public-private competition. The current competition requirements of 

10 U.S.C. 2469 were enacted in 1994 and apply to all changes to depot-level

workload valued at not less than $3 million currently performed at DOD

installations, including the Navy depot at Louisville. The statute does not

provide any exemptions from its competition requirements and, unlike

most of the other laws governing depot maintenance, does not contain a

waiver provision. Further, there is nothing in the Defense Base Closure

and Realignment Act of 1990—the authority for the BRAC

recommendations—that, in our view, would permit the implementation of

a recommendation involving privatization outside the competition

requirements of 10 U.S.C. 2469.

As noted earlier, the BRAC recommended that the Louisville depot be

closed and that the “workload, equipment and facilities” be transferred

“to the private sector or local jurisdiction as appropriate if the private sector can

accommodate the workload on site; or relocate necessary functions along with necessary

personnel, equipment and support to other technical activities, primarily the Naval

Shipyard, Norfolk, Virginia; Naval Surface Warfare Center, Hueneme, California; and the

Naval Surface Warfare Center, Crane, Indiana.”

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The Navy is privatizing Louisville’s depot-level workload in place by

awarding two contracts to private firms selected by the local

redevelopment authority. The Navy concluded that privatizing Louisville’s

workload will be more cost-effective than transferring it to the naval

facilities identified in the BRAC recommendation.

In reviewing the Navy’s privatization-in-place plan, we asked Navy officials

to explain how the plan complied with existing statutory restrictions. They

said they were “seeking to execute” the first alternative of the BRAC

recommendation and would not award a contract until they evaluated the

relative cost of the two alternatives. They did not provide details to

support their position that the privatization plan conformed to existing

statutory restrictions, and we were not able to identify any element of the

plan that addressed the 10 U.S.C. 2469 requirement for a public-private

competition.

Recommendations We recommend that the Secretary of Defense direct the Secretary of the

Navy, before exercising any contract options for the Louisville depot

maintenance workloads, to

• ensure military depots have the required capability needed to sustain core

depot repair and maintenance capability and adequately document a risk

assessment for privatizing mission-essential work being considered for

privatization;

• at a minimum, revise the Navy’s cost analysis to reflect the annual cost

savings from workload transfers on the workloads currently performed at

those locations by spreading the fixed costs over the increased workload;

and

• use competitive procedures, where applicable, to ensure the

cost-effectiveness of the Louisville privatization-in-place initiative.

Agency Comments

and Our Evaluation

DOD provided oral comments on our draft report. DOD disagreed with our

conclusion that privatization transfers excess capacity to the private

sector rather than eliminates it. DOD officials stated that

privatization-in-place allows private industry to rightsize the facility and

workforce, eliminating the excess capacity that may have existed in the

government-run facility. We agree that privatizing-in-place allows private

industry to eliminate excess capacity at that facility. Our concern is that

substantial excess capacity exists in both DOD’s depot system and in

existing private sector industrial facilities. Privatization-in-place does not

Page 13 GAO/NSIAD-96-202 Navy Depot Maintenance
B-272569 

reduce this excess capacity. For example, closing the Louisville facility

and transferring the workloads to other underutilized public or private

facilities would result in a greater reduction in total system excess

capacity than privatizing-in-place.

DOD also disagreed with our conclusion that the Navy’s privatization plan

did not address the requirement, as specified in 10 U.S.C. 2469, that the

Navy hold a public-private competition to determine the most

cost-effective method of workload allocation. In its July 19,1996, letter to

the House Committee on National Security and the Senate Committee on

Armed Services, the Navy asserted that its plan is consistent with 10 U.S.C.

2469 because (1) 10 U.S.C. 2469 does not generally apply to actions

implementing a BRAC recommendation and (2) it already complied with

this requirement in its cost analysis.

We have found nothing in the Closure Act or in its legislative history that

would support the Navy’s view that it may implement a BRAC

recommendation involving privatization without complying with 10 U.S.C.

2469. While the Navy suggests that support for its position can be found in

the legislative history of 10 U.S.C. 2469, the report language it cites deals

only with the separate statutory requirement that DOD use merit-based

selection procedures when transferring depot workloads between DOD

facilities.12

Furthermore, we do not believe that the Navy’s cost analysis constituted a

public-private competition under 10 U.S.C. 2469. As previously mentioned,

10 U.S.C. 2469 requires that “competitive procedures for competitions

among public and private sector entities” be used. The statute does not

prescribe the elements that make up a competition, and we believe that, in

any given case, the extent of competition may be affected by the legitimate

mission-related needs of DOD. However, in our view, a “competition”

fundamentally entails a process that provides public depots with a

reasonable opportunity to offer their services and facilities and uses

established criteria to compare their proposed performance with that of

private firms. In this case, we are not aware of any attempt by the Navy to

provide existing depots with an opportunity to offer their services to

12See H.R. Conf. Rep. No. 103-701, 103d Cong., 2d Sess. (1994), accompanying the National Defense

Authorization Act for Fiscal Year 1995, Public Law 103-337. The fiscal year 1995 authorization act

amended 10 U.S.C. 2469 to provide that workload changes within DOD are to be governed by

“merit-based selection procedures” while proposed conversions to contractor performance must be

based on “competitive procedures for competitions among private and public sector entities.” The

portion of the conference report cited by the Navy states that the “merit-based selection procedures”

for transferring workload “between DOD depots should not affect the orderly transfer of workload as a

result of base closure decisions.” H.R. Conf. Rep. No. 103-701 at 681.

Page 14 GAO/NSIAD-96-202 Navy Depot Maintenance
B-272569 

perform the Louisville workload, and there were no established criteria for

comparing contractor and depot performance.

Our draft report included a recommendation for the Navy to complete a

cost analysis considering the savings potential from consolidating the

Louisville workload at other DOD depots and defense contractor facilities.

Subsequently, DOD provided us a copy of its cost analysis, which we are

currently reviewing in detail. While our analysis is still in process, it is

clear that the Navy’s final analysis did not factor in the savings that could

be achieved annually for the workload currently performed at potential

receiving locations by spreading fixed costs over the increased workload.

The Navy also awarded contracts that privatized-in-place the work at

Louisville. Therefore we revised our recommendations to address Navy

actions prior to exercising any contract options, to include revising its cost

analysis to reflect the workload transfer savings impact on existing

workloads.

DOD made other technical comments on this report, and we incorporated

them where appropriate. Appendix I provides our scope and methodology.

We are sending copies of this letter to the Secretaries of Defense and the

Navy; the Director, Office of Management and Budget; and interested

congressional committees. Copies will be made available to others upon

request. If you would like to discuss this matter, please contact me at

(202) 512-8412. Major contributors to this report are listed in appendix II.

David R. Warren

Director, Defense Management Issues

Page 15 GAO/NSIAD-96-202 Navy Depot Maintenance
Appendix I 

Scope and Methodology

We obtained documents and interviewed officials from the Offices of the

Secretary of Defense and the Secretary of the Navy in Washington, D.C.;

the Naval Sea Systems Command and Naval Surface Warfare Center

headquarters, Arlington, Virginia; Naval Surface Warfare Center field

locations at Louisville, Kentucky; Port Hueneme, California; and Crane,

Indiana; and the Norfolk Naval Shipyard, Virginia. Whenever possible, we

relied on information previously gathered as part of our overall review of

the Department of Defense’s (DOD) depot maintenance operations.

To evaluate the impact on excess capacity, we compared maximum

potential capacity and programmed workload forecast data, as certified to

the Joint Cross Service Group for Depot Maintenance prior to the 1995

Commission on Base Closure and Realignment. We determined current

excess capacity percentages by comparing maximum potential capacity

and workload forecasts for fiscal year 1996. To determine the impact of

workload reallocation plans on recurring operating costs at remaining

Navy facilities, we obtained direct labor hour rates for the Navy’s Norfolk,

Port Hueneme, and Crane sites recalculated based on the total workload

transfers of 1.3 million direct labor hours from the Louisville site.

To determine the cost-effectiveness of the Navy’s planned privatization in

Louisville, we held discussions with local redevelopment representatives,

responsible Navy management and contracting officials, and contractor

representatives. Although we reviewed available documentation from the

Naval Surface Warfare Center, we could not fully evaluate this analysis

because the Navy had not completed its cost model at the time our field

work was completed. Therefore, we reviewed historical documents and

based our analysis and conclusions on available data. Since our review of

the Navy’s analysis is ongoing and was constrained by the preliminary

nature of some cost estimates and the absence of some cost data, our

analysis is based on assumptions that may change as better data becomes

available. Subsequent to the completion of our field work, we were

provided the Navy’s updated cost analysis. As agreed with the requesters,

our review of that analysis will be reported on separately.

To evaluate compliance with statutory requirements, we identified the

applicable requirements and how they could affect the Navy’s plans to

privatize depot-level maintenance workloads. We also obtained a letter

from the Naval Sea Systems Command General Counsel explaining how

the Navy intends to comply with applicable statutes.

Page 16 GAO/NSIAD-96-202 Navy Depot Maintenance
Appendix I 

Scope and Methodology

We conducted our review from May 1996 through July 1996 in accordance

with generally accepted government auditing standards.

Page 17 GAO/NSIAD-96-202 Navy Depot Maintenance
Appendix II 

Major Contributors to This Report

National Security and

International Affairs

Division, Washington,

D.C.

James F. Wiggins, Associate Director

Julia C. Denman, Assistant Director

Jacqueline E. Snead, Evaluator

Office of General

Counsel, Washington,

D.C.

John Brosnan, Assistant General Counsel

Dallas Field Office Larry J. Junek, Evaluator-in-Charge

John D. Strong, Senior Evaluator

Atlanta Field Office Bobby R. Worrell, Senior Evaluator

(709202) Page 18 GAO/NSIAD-96-202 Navy Depot Maintenance
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