Defense Inventory: Army Needs to Evaluate Impact of Recent Actions to Improve Demand Forecasts for Spare Parts
Published: 2009-01-12T00:00:00

Fast Facts:

Highlights:
section_title: Why GAO Did This Study
paragraphs: Since 1990, GAO has designated the Department of Defense's (DOD) inventory management as a high-risk area. It is critical that the military services effectively and efficiently manage DOD's secondary inventory to ensure that the warfighter is supplied with the right items at the right time and to maintain good stewardship over the billions of dollars invested in their inventory. GAO reviewed the Army's management of secondary inventory and determined (1) the extent to which on-hand and on-order secondary inventory reflected the amount needed to support current requirements and (2) causes for the Army having secondary inventory that exceeded current requirements or, conversely, for having inventory deficits. To address these objectives, GAO analyzed Army data on secondary inventory (spare parts such as aircraft and tank engines) from fiscal years 2004 through 2007.
section_title: What GAO Found
paragraphs: For the 4-year period GAO examined, the Army had significantly more inventory than was needed to support current requirements. At the same time, the Army had substantial inventory deficits. GAO's analysis of Army data reflected an annual average of about $16.3 billion of secondary inventory for fiscal years 2004 to 2007, of which about $3.6 billion (22 percent) exceeded current requirements. On average, approximately 97 percent of the inventory value exceeding requirements was on hand and the remaining 3 percent was on order. Based on Army demand forecasts, inventory that exceeded current requirements had enough parts on hand for some items to satisfy several years, or even decades, of anticipated supply needs. Also, a large proportion of items that exceeded current requirements had no projected demand. The Army also had an annual average of about $3.5 billion of inventory deficits over this 4-year period. Army inventory did not align with current requirements over this period because of (1) a lack of cost-efficiency metrics and goals and (2) inaccurate demand forecasting. DOD's supply chain management regulation requires the military services to take a number of steps to provide for effective and efficient end-to-end materiel support. For example, the regulation directs the components to size secondary inventory to minimize DOD's investment while providing the inventory needed. Although the Army has supply support performance measures for meeting warfighter needs, it has not established metrics and goals that can measure the cost efficiency of its inventory management practices. Furthermore, the Army's demand forecasts have frequently been inaccurate. The Army uses a computer model to forecast its spare parts requirements, but when demand data are inaccurate or untimely, the result is a misalignment between inventory and current requirements. As a result, the Army has accumulated billions of dollars in excess inventory against current requirements for some items and substantial inventory deficits in other items. Without accurate and timely demand data, managers cannot ensure that their purchasing decisions will result in inventory levels that are sized to minimize DOD's investment needed to support requirements. The Army has acknowledged that challenges exist in its forecasting procedures and has begun to take steps to address shortcomings. In October 2008, the Army issued guidance directing managers to reduce the forecast period from 24 months to 12 months to better account for changes in the size of the force and the resulting changes in demands. The guidance also directs managers to update forecast models to match actual quantities of weapon systems being used in Southwest Asia; previous models were updated based on estimates that were not always timely or accurate. These two changes constitute steps toward improving the accuracy of demand forecasts, but GAO was unable to assess their effectiveness because this guidance was issued as GAO was completing its audit work. Also, the Army's recent designation of the Under Secretary of the Army as its chief management officer responsible for business transformation provides an opportunity for enhanced oversight of inventory management improvement efforts. Strengthening the Army's inventory management--while maintaining high levels of supply availability and meeting warfighter needs--could reduce support costs and free up funds for other needs.

section_title: Letter
paragraphs: The military services and the Defense Logistics Agency (DLA) procure and  manage large supplies of spare parts to keep military equipment operating.  With U.S. military forces and their equipment in high demand, it is critical  that the services and DLA effectively and efficiently manage the  Department of Defense’s (DOD) secondary inventory to ensure that the  warfighter is supplied with the right items at the right time. Because the  military services and DLA are competing for available resources at a time  when the nation faces an increasingly constrained fiscal environment, it is  also imperative that they exercise good stewardship over the billions of  dollars invested in their inventory. DOD reported that the total value of its  secondary inventory as of September 30, 2007, was about $82.6 billion.  Since 1990, we have identified DOD inventory management as a high-risk  area due to its ineffective and inefficient inventory management practices  and procedures, and to its excessively high levels of inventory beyond  what is needed to support current requirements. These high levels of  inventory have included both on-hand and on-order inventory. Inventory  that is in DOD’s possession is considered to be on hand. Inventory that is  not in DOD’s possession but for which contracts have been awarded or  funds have been obligated is considered to be on order.
In response to your request that we review the DOD components’  secondary inventory, this report addresses the management of the Army’s  secondary inventory. Our objectives were to (1) determine the extent to  which the Army’s on-hand and on-order secondary inventory reflects the  amount needed to support current requirements and (2) identify causes, if  applicable, for the Army having secondary inventory that exceeded  current requirements or, conversely, for having inventory deficits. We  previously reported on the management of the Air Force’s secondary  inventory and are reporting separately on the management of the Navy’s  secondary inventory.
To determine the extent to which the Army’s on-hand and on-order secondary  inventory reflects the amount of inventory needed to support current  requirements, we analyzed fiscal year 2004 to 2007 stratification data for the  Army’s Aviation and Missile Command (AMCOM) and the Tank-automotive  and Armaments Command (TACOM), including summary reports and item- specific data as of September 30 for each fiscal year. However, we did not  include the Army’s Communication and Electronics Command (CECOM) in  our analysis because the information system used to manage secondary  inventory was not able to provide item-specific data for the period of our  review. We determined the total number of items that had more or less than  enough inventory to satisfy current requirements, and for each of these items  we also determined the number and value of parts that were more or less  than needed to satisfy current requirements. In presenting the value of  inventory in this report, we converted then-year dollars to constant fiscal year  2007 dollars using DOD Operations and Maintenance price deflators. To  determine the primary causes for the Army having inventory that exceeded  current requirements or having inventory deficits, we selected a random  probability sample of inventory items that met these conditions and sent  questionnaires to Army inventory personnel who are responsible for item  management. Because we used a random probability sample, the results of  our analysis can be projected to all Army items that met our selection criteria.  To gain additional understanding about the management of secondary  inventory, we interviewed Army inventory personnel to discuss some items in  more detail. Appendix I provides further information on our scope and  methodology. We conducted this performance audit from February 2008  through January 2009 in accordance with generally accepted government  auditing standards. Those standards require that we plan and perform the  audit to obtain sufficient, appropriate evidence to provide a reasonable basis  for our findings and conclusions based on our audit objectives. We believe  that the evidence obtained provides a reasonable basis for our findings and  conclusions based on our audit objectives. “For wholesale stock replenishment, the maximum authorized quantity of stock for  an item. It consists of the sum of stock represented by the economic order quantity,  the safety level, the repair-cycle level, and the authorized additive levels.”
We used the requirements objective as our baseline because, as the  definition states, it reflects the maximum authorized quantity of stock for  an item. In other words, if the Army had enough parts to meet the  requirements objective, it would not purchase new parts. We use the term  “inventory deficit” to describe items that have an amount of on-hand and  on-order inventory that falls below the baseline established in the  requirements objective. The categories DOD and the Army use to  characterize and manage inventory are discussed further in the  background section of this report.
subsections: section_title: Background
paragraphs: Under DOD’s supply chain materiel management policy, the secondary item  inventory is to be sized to minimize DOD’s investment while providing the  inventory needed to support both peacetime and wartime requirements.  Management and oversight of Army inventory is a responsibility shared  between the Offices of the Secretary of Defense and the Secretary of the  Army. The Under Secretary of Defense for Acquisition, Technology, and  Logistics is responsible for the uniform implementation of DOD inventory  management policies throughout the department, while the Secretary of the  Army is responsible for implementing DOD inventory policies and  procedures. Army inventory management is primarily the responsibility of the  Army Materiel Command, and inventory management functions are  performed at subordinate commands, namely TACOM, AMCOM, and  CECOM. The Army prescribes guidance and procedural instructions for  computing requirements for its secondary inventory. Army managers are  responsible for developing inventory management plans for their assigned  items, to include coordinating all purchase and repair decisions.
subsections: section_title: Value of Army’s Secondary Inventory Increased Since 2004
paragraphs: DOD annual stratification reports show that for the 4 years covered in our  review, the value of the Army’s secondary inventory increased both in total  dollars and as a percentage of DOD’s overall secondary inventory (see table 1).
While the total reported value of DOD’s secondary inventory decreased by  almost $2 billion from fiscal year 2004 to fiscal year 2007, the reported  value of the Army’s inventory increased by more than $5 billion. Based on  our analysis of AMCOM and TACOM inventories from fiscal year 2004  through fiscal year 2007, the Army’s on-hand inventory increased by about  $4 billion, while the Army’s on-order inventory decreased by $1 billion (see  table 2). The number of unique items managed by AMCOM and TACOM  also increased over that time period, from 59,443 unique items in fiscal  year 2004 to 63,504 items in fiscal year 2007.
section_title: Army’s Process for Determining Needed Amount of Secondary Inventory
paragraphs: The Army uses a process called requirements determination to calculate  the amount of inventory that is needed to be held in storage (on hand) and  the amount that should be purchased (on order). This information is used  to develop the Army’s budget stratification report showing the amount of  inventory allocated to meet specific requirements, including operating and  acquisition lead time requirements.
Operating requirements include the war reserves authorized for purchase;  customer-requisitioned materiel that has not yet been shipped (also known  as due-outs); a safety level of reserve to be kept on hand in case of minor  interruptions in the resupply process or unpredictable fluctuations in  demand; minimum quantities of essential items for which demand cannot  normally be predicted (also referred to as numeric stockage objective or  insurance items); and inventory reserve sufficient to satisfy demand while  broken items are being repaired (also referred to as repair cycle stock).
Acquisition lead time requirements include administrative lead time  requirements, which refer to inventory reserves sufficient to satisfy  demand from the time that the need for replenishment of an item is  identified to the time when a contract is awarded for its purchase or an  order is placed; and production lead time requirements, which refer to  inventory reserves sufficient to satisfy demand from the time when a  contract is let or an order is placed for inventory to the time when the item  is received.
When the combined total of on-hand and on-order inventory for an item  drops to a threshold level—called the reorder point—the item manager  may place an order for additional inventory of that item, to avoid the risk  of the item going out of stock in the Army’s inventory. The reorder point  includes both operating requirements and acquisition lead time  requirements. An economic order quantity—the amount of inventory that  will result in the lowest total costs for ordering and holding inventory—is  automatically calculated by a computer program and is added to the order.  The reorder point factors in both the demand for inventory items during  the reordering period, so that the Army managers can replace items before  they go out of stock, and a safety level, to ensure a supply of stock during  interruptions in production or repair. A purchase request can be  terminated or modified if requirements change.
These requirements collectively constitute the requirements objective,  which we refer to as the Army’s current requirements in this report. An  assessment of the Army’s requirements or requirements determination  process falls outside the scope of our review. In accounting for its  inventory, the Army uses the stratification process to allocate, or apply,  inventory to each requirement category. On-hand inventory in serviceable  condition is applied first, followed by on-hand inventory in unserviceable  condition. On-order inventory is applied when on-hand inventory is  unavailable to be applied to requirements. We refer to situations in which  on-hand and on-order inventory are insufficient to satisfy current  requirements as inventory deficits.
section_title: Army Secondary Inventory Exceeded Amount Needed to Satisfy Current Requirements
paragraphs: Our analysis of Army secondary inventory data for the 4-year period we  examined showed that about $3.6 billion (22 percent) of the average  annual total inventory value of $16.3 billion was not needed to meet  current requirements. During this time period, the value of on-hand  inventory exceeding current requirements increased, whereas the value of  on-order inventory that exceeded requirements decreased. During this  same time period, the value of Army inventory deficits decreased but  remained substantial—an average value of $3.5 billion over the 4-year  period.
subsections: section_title: About $3.6 Billion, or 22 Percent, of the Army’s On- Hand and On-Order Inventory Value Exceeded Current Requirements Each Year
paragraphs: Our analysis of Army secondary inventory data showed that, on average,  about $12.7 billion (78 percent) of the total annual inventory value was  needed to meet current requirements, whereas $3.6 billion (22 percent)  exceeded current requirements. Measured by number of parts, these  percentages were similar: 81 percent of the parts applied to current  requirements on average each year, and the remaining 19 percent  exceeded current requirements. The value of the inventory that exceeded  current requirements increased over the period of our review, from $2.9  billion in fiscal year 2004 to $4.4 billion in fiscal year 2007, as did the  number of parts that exceeded current requirements, from 5.2 million  parts to 10.2 million parts (see table 3).
The Army’s total inventory levels increased from fiscal year 2004 to fiscal  year 2007, with the greatest increase occurring from fiscal year 2004 to  fiscal year 2005. Additionally, the overall proportion of inventory  exceeding requirements increased when compared with inventory meeting  current requirements (see fig. 1).
section_title: Army On-Hand Inventory Exceeding Current Requirements Increased
paragraphs: Both the total value of the Army’s on-hand inventory and the total value of  on-hand inventory exceeding current requirements increased. Over the   4-year period, the value of the Army’s on-hand inventory exceeding current  requirements averaged $3.5 billion, or 31 percent of total on-hand  inventory (see table 4).
The Army’s forecasts for items with a recurring demand in fiscal years  2005 through 2007 showed that supplies for some of the on-hand inventory  that exceeded current requirements were sufficient to meet many years  and sometimes decades of demand. In addition, a substantial amount of  the Army’s on-hand inventory showed no projected demand. The results of  this analysis are shown in figure 2.
As shown in figure 2, about $900 million (22 percent) of the on-hand  inventory exceeding current requirements in fiscal year 2007 would be  sufficient to satisfy 2 years of demand, $1.1 billion (26 percent) would be  sufficient to meet demands for 2 to 10 years, $750 million (18 percent)  would be sufficient to meet demands for 10 to 50 years, and $600 million  (14 percent) would be sufficient to meet demands for 50 years or more. In  addition, the Army in fiscal year 2007 had nearly $900 million (20 percent)  of on-hand inventory exceeding current requirements for which there were  no forecasted demands.
section_title: Army On-Order Inventory Exceeding Current Requirements Decreased
paragraphs: For the 4-year period we reviewed, the value of the Army’s on-order  inventory that exceeded current requirements decreased from $150 million  in fiscal year 2004 to $110 million in fiscal year 2007. However, because the  value of the Army’s on-order inventory also decreased from $5.3 billion in  fiscal year 2004 to $4.2 billion in fiscal year 2007, the proportion of Army  on-order inventory that exceeded current requirements remained  relatively constant (see table 5).
For all 4 years, the Army also had some on-order inventory that was  designated as potential excess for disposal or reutilization. For example,  according to the Army’s fiscal year 2007 stratification report, about $56  million of on-order inventory items were designated as potential excess,  meaning that they could be disposed of or reutilized as soon as they were  delivered (see table 6).
section_title: Army Inventory Deficits Decreased, but Remained Substantial
paragraphs: The Army had substantial inventory deficits for some items—that is, an  insufficient level of inventory on hand or on order to meet the current  requirements. For the 4-year period we reviewed, the Army’s inventory  deficits had an average value of $3.5 billion. However, the value of the  deficits decreased by 17 percent from $4.1 billion in fiscal year 2004 to  approximately $3.4 billion in fiscal year 2007 (see table 7).
Although inventory deficits exist, they do not always translate directly into  an operational impact. Army officials told us that, in the past, inventories  have fallen below current requirements because of unforeseen demands.  In those cases, managers were able to use parts that were designated for  safety-level requirements in order to minimize the operational impact of  the inventory deficit. However, we could not determine the criticality of  the Army’s inventory deficits because this information is not available in  stratification reporting.
section_title: Factors Contributing to the Consistent Misalignment Between Army Inventory Levels and Current Requirements
paragraphs: Our review of the Army’s secondary inventory identified two factors  contributing to the consistent misalignment between inventory levels and  current requirements. First, while the Army strives to provide effective  supply support to the warfighter and uses metrics such as supply  availability to measure performance, it lacks corresponding metrics and  goals for assessing and tracking the cost efficiency of its inventory  management practices. Inaccurate demand forecasting for spare parts also  contributed to the Army having inventory that was in excess of current  requirements as well as having inventory deficits. After evaluating its  demand forecasting procedures, the Army has issued guidance that the  Army expects will improve the accuracy of its forecasts. Because the  guidance was issued as we were completing our audit work, we were  unable to assess whether the changes to forecasting procedures would be  sufficient to address deficiencies. However, these actions are consistent  with some of our past recommendations related to inventory management.
In addition, we noted during our review that the Army has an opportunity  to enhance oversight of inventory management as it develops the roles and  responsibilities for the newly designated chief management officer.
subsections: section_title: Army Lacks Metrics and Goals to Assess and Track the Cost Efficiency of Inventory Management
paragraphs: Although the Army uses a number of methods to manage its secondary  inventory, it lacks metrics and goals for assessing and tracking the cost  efficiency of its inventory management practices. DOD’s supply chain  management regulation requires the military services to take a number of  steps to provide for effective and efficient end-to-end materiel support.  The regulation also sets out a number of management goals, including  sizing secondary item inventories to minimize the DOD investment while  providing the inventory needed; considering all costs associated with  materiel management in making best-value logistics decisions; balancing  the use of all available logistics resources to accomplish timely and quality  delivery at the lowest cost; and measuring total supply chain performance  based on timely and cost-effective delivery. To ensure efficient and  effective supply chain management, the regulation also calls for the use of  metrics to evaluate the performance and cost of supply chain operations.  These metrics should, among other things, monitor the efficient use of  DOD resources and provide a means to assess costs versus benefits of  supply chain operations. However, the regulation does not prescribe  specific cost metrics and goals that the services should or must use to  track and assess the efficiency of their inventory management practices.
According to Army officials, the Army has processes and controls for  efficiently managing secondary inventory and fulfilling the DOD  regulation. First, Army officials stated that they use a number of metrics to  determine whether the Army provides the inventory needed, including  customer wait time, back orders, stock availability, and the not- mission- capable supply rate, which counts the number of vehicles or aircraft that  cannot perform the Army’s mission due to a lack of parts. Second, the  Army uses a cost differential model to determine the appropriate level of  inventory to maintain in order to achieve a desired performance goal. The  model is based on a number of variables, including procurement costs,  holding costs, frequency of demand, implied stockage cost, and the  probability of future demand. Army officials also stated that cost  minimization is integral in the formulas used to compute requirements.  Third, the Army assesses the effectiveness of inventory by evaluating the  Army Working Capital Fund. Specifically, if sales from the fund to  customers match the values of inventory purchased, then inventory  purchases have been cost effective.
While these methods may be effective management tools, we found that  the Army has not established metrics and goals for measuring the cost  efficiency of its inventory management. In the absence of such metrics and  goals, Army officials lack an effective means for assessing whether  inventory is being managed as efficiently as possible and for tracking  trends and the impact of any corrective actions. As discussed in this  report, we determined that the Army had substantial amounts of inventory  that exceeded requirements for all 4 years of our review. However, the  consistent misalignment between inventory levels and current  requirements are not readily revealed by the Army’s current methods for  measuring inventory management. The overall secondary inventory data  we analyzed show that the Army carried about $1.29 in inventory for every  $1 in requirements to meet its goals during the 4-year period of fiscal years  2004 through 2007. Such a metric, in combination with other cost metrics  and established goals, could provide the Army with a capability to track  trends and assess progress toward achieving greater cost efficiency.
section_title: Demand Forecasting Has Been Inaccurate
paragraphs: Our review showed that demand forecasting for spare parts has been  inaccurate. According to the Army regulation on centralized management of  the Army supply system, the Army uses a computer model to forecast its  spare parts requirements. The model uses the average monthly demand over  the previous 24 months as a baseline, and it allows the demand forecast to be  modified to account for expected future usage. Army officials stated that  when demand data does not accurately reflect usage or forecasts for future  usage are incorrect, the result is a misalignment between inventory and  current requirements. For example, Army officials stated that at the beginning  of the global war on terrorism, the average monthly demand was based on a  peacetime operations tempo, which did not accurately reflect a wartime  usage of items. They also stated that they did not always have complete or  accurate information on the amounts or types of weapon systems to be used  in the global war on terrorism, so they modified the demand forecast to  account for expected future usage based on speculation. As a result,  inventory did not always align with requirements.
Army managers who responded to our survey most frequently cited changes  in demand as the reason inventory did not align with current requirements.  Demand may decrease, fluctuate, or not materialize at all, resulting in  inventory exceeding current requirements; conversely, it may increase,  resulting in inventory deficits. Table 8 shows the results of our representative  survey of items with inventory excesses (160 items), and table 9 shows the  results of our survey for items with inventory deficits (56 items).
Responses categorized as “other” varied but included issues related to lack of  data, obsolescence, or other explanations of demand changes. For example,  Army managers stated that the 2005 Base Realignment and Closure (BRAC)  Commission recommended a supply transfer of consumable items from the  Army to DLA that was under way during the time of our review. Army  managers who participated in the survey could not provide information on  some of these items because prior data was not retained.
Our discussions with Army managers provided examples that illustrate the  challenges they face in predicting demands for items due to changes in  plans, policy, or repair schedules:  In anticipation of higher usage, the Army purchased an additional 95  parts of a calibration tool that supports the UH-60 Black Hawk  Helicopter. However, because the increased usage did not occur, in  fiscal year 2007, the Army had 130 parts that exceeded current  requirements, valued at $7.4 million.
Conversely, an unanticipated increase in operational demand led to an  inventory deficit of an item that supports the OH-58D Kiowa Warrior  helicopter. This helicopter had higher-than-expected usage, which  increased the need for repairs and replacements through procurement.  In fiscal year 2007, the Army had an inventory deficit of 128 parts,  valued at $1.2 million.
A change in an overhaul repair program for a shipping and storage  container used to store and transport the drive shaft for the M1 Abrams  Tank resulted in excess inventory. As stated by an Army manager with  whom we spoke and according to Army records, in fiscal year 2007, the  Army had 272 on-hand units, valued at over $0.4 million, that exceeded  current requirements because the Army’s delay of the overhaul repair  program for the Abrams Tank caused demands not to materialize.
Having identified a defect in some of the batteries used on the Patriot  Missile System, the Army procured 350 new batteries. While awaiting  production, however, the Army developed a repair for the defective  batteries. The Army could not cancel the procurement order, resulting  in an on-hand excess of 619 items, valued at about $0.6 million.
Another example of multiple supply sources resulting in excess inventory  concerns the corner actuator used to support the hydraulic suspension  and steering for the M9 Armored Combat Earthmover vehicle. The Army  made an emergency purchase from a sole source contractor to ensure that  sufficient parts would be available while it concurrently developed a  repair program. The purchases and repaired assets increased on-hand  inventory beyond current requirements, resulting in an excess quantity of  836 parts, valued at $7.7 million.
Army officials stated that forecasts rely heavily on accurate demand rates  and relatively stable demand data. They stated in June that, since demand  rates had achieved some stability, forecasts had improved. In the future,  however—particularly as operations in Southwest Asia decrease—-they  indicated that they expect to see more difficulties in accurately forecasting  future demands for parts.
section_title: Army Is Taking Steps to Improve Forecasting
paragraphs: The Army has taken steps designed to improve its inventory management.  In January 2008, the Army began an evaluation of its secondary inventory  management processes. Army officials stated that the impetus for the  review was the need to manage the effects of the Army’s increased  operations tempo, which had resulted in higher usage of secondary  inventory. However, because the duration of the heightened operations  tempo was unknown, the Army wanted to improve its forecasting  processes to better account for a changing operational environment.
As part of its supply planning assumptions for fiscal year 2009, the Army  shortened the forecast period used by managers to determine  procurement decisions. The Army issued guidance in October 2008  directing inventory managers to set a forecast period using the previous 6  months for missiles and the previous 12 months for all other secondary  items. Army officials stated that, based on their evaluation, shortening  the forecast period from the previous 24 months would provide managers  the ability to better capture changing demand patterns, allowing them to  adjust their purchase decisions to accommodate new force patterns. Army  officials believe that shortening the forecast period should help capture  changes to demand in a more real-time fashion.
The Army’s guidance also directs managers to update forecast models  based on the readiness portion of the Army Operations Update to match  actual quantities of weapon systems being used in Southwest Asia.  According to Army officials, previous models were updated based on  estimates that were not always timely or accurate. Army officials stated  that the readiness portion of the Army Operations Update reflects the  actual quantities of weapons systems as reported by commanders in  Southwest Asia. Army officials believe that these changes should provide  more accurate and timely information to item managers, allowing for  better purchase decisions.
The Army guidance was issued as we were completing our audit work.  Therefore, we were unable to assess whether these changes to the  forecasting model will be sufficient to address this long-standing problem.  Since early 1990, when we began reporting on this issue, inaccurate  demand forecasts have consistently been identified as a key cause for  DOD’s inventory not aligning with requirements. The actions directed by  the Army could address some of these challenges, and they have been  consistent with recommendations we made in our prior work. In our  report on the Air Force’s management of spare parts, we recommended  that the Air Force evaluate reasons for decreases in demand and  determine actions needed to address these decreases. The Army’s  evaluation of decreases in demand has identified the 24-month forecast  period as a contributing factor, and its new guidance constitutes a step  toward addressing the issue. We also recommended in a previous report  on critical parts shortages that the Army should provide item managers  with operational information in a timely manner so managers can adjust  their requirements forecasting. The Army’s guidance directing managers  to use actual quantities of weapon systems as reported in the readiness  portion of the Army Operations Update constitutes another step toward  addressing this issue. Army officials stated that the primary purpose of the  guidance was to improve the performance of inventory rather than to  reduce the amount of inventory that exceeds requirements. While Army  officials expect that improved forecasting could result in reductions in  excess inventory, the Army has yet to develop processes to measure the  effectiveness of these actions on reducing excess inventory.
section_title: Army Has Opportunity to Increase Its Oversight of Inventory Management
paragraphs: The Army has an opportunity to increase its ability to provide oversight of  inventory management. Recently, the Army established a chief  management officer for business transformation. However, it has not  defined whether and how the chief management officer will have a role  overseeing inventory management improvement. The costs of DOD’s  business operations have been of continuing concern. In April 2008, for  example, the Defense Business Board noted that DOD had not  aggressively reduced the overhead costs related to supporting the  warfighter, which accounted for about 42 percent of DOD’s total spending  each year. The Defense Business Board recommended that DOD align  strategies to focus on reducing overhead while supporting the warfighter.
In May 2007, DOD established a chief management officer position with  responsibility for ensuring that business transformation policies and  programs are designed and managed to improve performance standards,  economy and efficiency. In 2008, the Army designated the Under Secretary of  the Army as its chief management officer responsible for business  transformation. Although the role of the Army’s chief management officer is  still being developed, according to existing Army guidance, one of the Under  Secretary of the Army’s roles was to provide oversight of policy, planning,  coordination, and execution of matters related to logistics. However, it is  unclear whether inventory management was included as part of this existing  oversight. The substantial value of the Army’s inventory and the systemic  challenges that we have identified since the early 1990s suggest that inventory  management can be improved. Accordingly, the new designation of the chief  management officer provides the Army an opportunity to enhance oversight  of inventory management, as well as gauge the effectiveness of inventory  management improvement efforts.
section_title: Conclusions
paragraphs: The Army accumulates high levels of secondary inventory each year that  exceed current requirements without justifying that these inventory levels  are sized to minimize DOD’s investment. When the Army invests in the  purchase of inventory items that become excess to its requirements, these  funds are not available to meet other military needs. Taking steps to  reduce the high levels of inventory exceeding requirements could help to  ensure that DOD is meeting supply performance goals at least cost. Among  other things, cost-efficiency metrics and goals that reveal the existence of  inventory excesses and deficits could provide a basis for effective  management and oversight of inventory reduction efforts. Much of the  inventory that exceeded current requirements or had inventory deficits  resulted from inaccurate demand forecasts. To its credit, the Army has  evaluated the unpredictability of demand and has taken steps that it  believes will enhance flexibility in adapting to fluctuations in demand.  Implementation of the plan, evaluation of the results, and continued  monitoring could also assist in addressing this long-standing problem.  Finally, since inventory management is part of the Army’s broader  business operations and transformation, it is reasonable to expect the  newly established chief management officer to exercise some level of  oversight of inventory management improvement efforts taken by the  Army. Strengthening the Army’s inventory management—while  maintaining high levels of supply availability and meeting warfighter  needs—could reduce support costs and free up funds for other needs.
section_title: Recommendations for Executive Action
paragraphs: To improve the management of the Army’s secondary inventory, we  recommend that the Secretary of Defense direct the Secretary of the Army  to take the following three actions:    Establish metrics and goals for tracking and assessing the cost  efficiency of inventory management and incorporate these into existing  management and oversight processes.
Evaluate the effectiveness of changes to demand forecasting procedures  that were set forth in the Army’s October 2008 guidance, including  measuring the impact on reducing inventory that exceeds requirements,  and based on that evaluation, take additional actions as appropriate to  identify and correct systemic weaknesses in forecasting procedures.
Monitor the effectiveness of providing item managers with operational  information in a timely manner so they can adjust modeled  requirements as necessary.
We also recommend that the Secretary of the Army direct the Army’s Chief  Management Officer to exercise oversight of Army inventory management  improvements to align improvement efforts with overall business  transformation and to reduce support costs. This oversight role should not  replace or eliminate existing operational oversight responsibilities for  inventory management that are exercised by other Army offices, but  should ensure that the Army maintains a long-term focus for making  systemic improvements where needed and for strategically aligning such  changes with overall transformation efforts.
section_title: Agency Comments and Our Evaluation
paragraphs: In its written comments on a draft of this report, DOD agreed with three of  our recommendations and disagreed with one recommendation. On the  basis of DOD’s comments, we have modified one of our recommendations.  The department’s written comments are reprinted in appendix II.
DOD agreed with our recommendation that the Army establish metrics  and goals for tracking and assessing the cost efficiency of inventory  management. However, DOD did not provide information on planned  corrective actions. According to DOD, the Army has already established  inventory metrics and readiness goals which it evaluates during periodic  reviews. DOD also stated that the Army’s primary inventory goals are to  achieve high stock availability and low non-mission-capable supply rates  for its warfighting systems and capabilities, and that the Army has current  inventory metrics that mirror those in commercial inventory management.  While the metrics cited by DOD in its response may be useful tools for  assessing cost efficiency, we could not determine on the basis of our  review that the Army was using these or other metrics to track and assess  cost efficiency and to make management decisions aimed at improving  cost efficiency. DOD, in its written comments, also did not provide  information on how the Army may be using existing metrics to improve  cost efficiency. Therefore, we continue to believe that the Army should  place a greater emphasis on setting cost efficiency goals, measuring  progress, and establishing accountability for cost efficiency through its  existing management and oversight processes.
DOD concurred with our recommendations that the Army evaluate the  effectiveness of changes to demand forecasting procedures that were set  forth in the Army’s October 2008 guidance and that the Army monitor the  effectiveness of providing item managers with operational information in a  timely manner. According to DOD, the Army will evaluate the  effectiveness of its corrective actions beginning in August 2009, again in  February 2010, and periodically thereafter during quarterly reviews. We  believe this action is responsive to these recommendations.
DOD disagreed with our recommendation that the Secretary of the Army  direct the Army’s Chief Management Officer to exercise oversight of Army  inventory management improvements to align improvement efforts with  overall business transformation and to reduce support costs. DOD stated  that inventory oversight is the operational responsibility of the Army’s Life  Cycle Management Commands and appropriately assigned under the  combined oversight of the Army G-4, the Assistant Secretary of the Army,  Financial Management and Comptroller, and the Army Materiel Command.  DOD also stated that the Under Secretary of the Army, as the Chief  Management Officer, at the department-level, synchronizes strategic  systems and processes across the enterprise. We do not dispute the need  to maintain existing oversight responsibilities for Army inventory  management, and we have modified our recommendation to make this  clear. However, we disagree with DOD’s position that the Army’s Chief  Management Officer should not have an oversight role. First, the existing  combined oversight shared by Army staff and the Army Materiel Command  may not be sufficient to ensure long-term change. As we stated previously,  for the 4-year period of our review, the Army’s inventory exceeded current  requirements by $3.6 billion. While we are encouraged that the Army has  taken steps designed to improve inventory management, these steps have  occurred only recently compared to the systemic challenges related to  inventory management that we have reported on since the 1990s. Given  the substantial value of the Army’s inventory, exercising oversight of  inventory management is essential, and assigning additional oversight  responsibility to a department-level official, such as the Chief Management  Officer, could ensure that a continuous focus is maintained. Additionally,  since the Army’s Chief Management Officer operates at the department- level and is responsible for synchronizing strategic systems and processes  across the enterprise, this individual would be uniquely suited to exercise  oversight as part of the Army’s broader business transformation efforts.
Finally, directing the Army’s Chief Management Officer to exercise  oversight of Army inventory management improvement efforts could make  oversight operations more uniform across the Department of Defense. In  its written response to our review of the Navy’s inventory management,  DOD stated that the Navy is developing a business transformation  implementation strategy to align with Office of the Secretary of Defense  actions in this area, and that the Navy will determine the appropriate role  its Chief Management Officer should exercise in inventory management  oversight. Accordingly, we continue to believe that our recommendation  has merit.
We are sending copies of this report to interested congressional  committees; the Secretary of Defense; the Secretary of the Army; the  Under Secretary of Defense for Acquisition, Technology, and Logistics;  and the Director, Office of Management and Budget. In addition, the report  will be available at no charge on the GAO Web site at http://www.gao.gov/.
If you or your staff have any questions concerning this report, please contact  me on (202) 512-8365 or solisw@gao.gov. Contact points for our Offices of  Congressional Relations and Public Affairs may be found on the last page of  this report. Key contributors to this report are listed in appendix III.
section_title: Appendix I: Scope and Methodology
paragraphs: To determine the extent to which the Army’s on-hand and on-order  secondary inventory reflects the amount of inventory needed to support  current requirements, we obtained the Central Secondary Item  Stratification Budget Summary and item-specific reports for the Army’s  Aviation and Missile Command (AMCOM) and the Tank-automotive and  Armaments Command (TACOM), including summary reports and item- specific data as of September 30 for fiscal years 2004 through 2007. Our  analysis did not include the Army’s Communication and Electronics  Command (CECOM) because the information system used to manage  secondary inventory was not able to provide item-specific data for the  period of our review. Stratification reports serve as a budget request  preparation tool and a mechanism for matching assets to requirements.  Our analysis was based on analyzing the Army’s item stratifications within  the opening position table of the Central Secondary Item Stratification  Reports. To validate the data in the budget stratification reports, we  generated summary reports using electronic data and verified our totals  against the summary stratification reports obtained from the Army. The  Army secondary inventory data are identified by unique stock numbers for  each spare part, such as an engine for a particular vehicle, which we refer  to as unique items. The Army may have in its inventory multiple quantities  of each unique item, which we refer to as individual parts. We calculated  the value of each unique item by multiplying the quantity of the item’s  individual parts by the item’s unit price, which is the latest acquisition cost  for the item.
After discussing the results with Army officials, we determined that the  data were sufficiently reliable for the purposes of our analysis and  findings. Upon completion of the data validation process, we revalued the  Army’s secondary inventory items identified in its budget stratification  summary reports because these reports value useable items and items in  need of repair at the same rate, and do not take into account the repair  cost of repairing broken items. We computed the new value for items in  need of repair by subtracting repair costs from the unit price for each item.  We also removed overhead charges from the value of each item. In  presenting the value of inventory in this report, we converted then-year  dollars to constant fiscal year 2007 dollars using Department of Defense  (DOD) Operations and Maintenance price deflators.
We consider the Army to have inventory exceeding current requirements if  it has more inventory than is needed to satisfy its requirements based on  the opening position table of the Army’s budget stratification report.  Collectively, these requirements are referred to by DOD as the  “requirements objective,” defined as the maximum authorized quantity of  stock for an item. However, if the Army has more inventory on hand or on  order than is needed to satisfy its requirements, it does not consider the  inventory beyond the requirements to be unneeded. Instead, the Army  uses the inventory that is beyond its requirements to satisfy future  demands over a 2-year period, economic retention requirements, and  contingency retention requirements. Only after applying inventory to  satisfy these additional requirements would the Army consider that it has  more inventory than is needed and would consider this inventory for  potential reutilization or disposal. In commenting on our past reports,  DOD and the other services have disagreed with our definition of  inventory that was not needed to satisfy current operating requirements  because it differed from the definition that is used for the inventory budget  process. We do not agree with the Army’s practice of not identifying  inventory used to satisfy these additional requirements as excess because  it overstates the amount of inventory needed to be on hand or on order by  billions of dollars. The Army’s requirements determination process does  not consider these additional requirements when it calculates the amount  of inventory needed to be on hand or on order, which means that if the  Army did not have enough inventory on hand or on order to satisfy these  additional requirements, the requirements determination process would  not result in additional inventory being purchased to satisfy these  requirements. We consider the Army to have inventory deficits if levels of  on-hand and on-order inventory are insufficient to meet the requirements  objective.
To determine the extent to which the Army’s on-order and on-hand  secondary inventory reflects the amount of inventory needed to support  requirements, we reviewed DOD and Army inventory management  guidance, past GAO products on DOD and Army inventory management  practices for secondary inventory items, and other related documentation.  We also created a database which compared the Army’s current inventory  to its current requirements and computed the amount and value of  secondary inventory exceeding or not meeting current requirements.  Additionally, to understand whether the inventory not needed to support  requirements had improved in relation to its years of supply, we calculated  the number of supply years a given item would have based on its quantity  and demand at the time of stratification in September 2005, September  2006, and September 2007.
We developed a survey to estimate the frequency of reasons why the Army  maintained items in inventory that were not needed to support  requirements or that did not meet requirements. The survey asked general  questions about the higher assembly (component parts) and/or weapon  systems that the items support, and the date of the last purchase. In  addition, we asked survey respondents to identify the reason(s) for having  inventory that exceeded current requirements or had an inventory deficit.  We provided potential reasons as responses from which they could select  based on reasons identified in some of our prior work. Since the list was  not exhaustive, we provided an open-ended response option to allow other  reasons to be provided. In addition to expert technical review of the  questionnaire by an independent methodologist, we conducted pretests  with Army managers from TACOM and AMCOM prior to sending out the  final survey instrument. We revised the survey instrument accordingly  based on findings from the pretests.
We sent this questionnaire electronically to specific Army managers in  charge of sampled unique items at two of the Army’s inventory control  point locations in Huntsville, Alabama and Warren, Michigan. To estimate  the frequency of reasons for inventory not needed to meet requirements  and inventory deficits, we drew a stratified random probability sample of  220 unique items—153 unique secondary inventory items not needed to  support requirements and 67 with inventory deficits—from a study  population of 45,007 items—30,222 with inventory not needed to meet  requirements and 14,785 with inventory deficits. Based on our analysis of  the Army stratification data, for fiscal year 2007, there were 26,535 unique  items with on-hand inventory not needed to meet requirements, and 3,687  unique items with on-order inventory not needed to meet requirements.  These categories identified a combined value of $4.4 billion of inventory  not needed to meet requirements. All of these items met our criteria to be  included in our study population of items not needed to meet  requirements. Additionally, based on our analysis of stratification data, all  of the 14,785 unique items with inventory deficits, valued at $3.4 billion,  met our criteria to be included in our deficit study population.
We sent 216 electronic questionnaires—one questionnaire for each item in  the sample—to the 131 Army managers identified as being responsible for  these items. Four of the items in our sample were determined to be out of  scope, because three items did not have item managers and had low  quantities and values associated, and one item was randomly selected at  two commands, so the item was removed from one command and left for  the other command with a higher quantity to answer.
Table 10 divides TACOM and AMCOM’s on-hand excess, on-order excess  and deficit inventory into three substratum, each by the amount of supply  for Fiscal Year 2007. The divisions of the population, sample, and  respondents across the strata are also shown in table 10. We received 187  responses for the questionnaire. Each sampled item was subsequently  weighted in the final analysis to represent all the members of the target in- scope population.
At the time of this review, the Army was undergoing secondary inventory  supply transfer actions as a part of a larger 2005 Base Realignment and  Closure (BRAC) recommendation. In our survey of 216 items, we  identified 38 items that were a part of this supply transfer to the Defense  Logistics Agency (DLA). Most item managers overseeing these previously  Army-managed items stated that they no longer retained the data to  complete our survey; therefore, these DLA-transferred items are reflected  in the “other” category of our sample results in tables 8 and 9.
Because we followed a probability procedure based on random selections,  our sample of unique items is only one of a large number of samples that  we might have drawn. Because each sample could have provided different  estimates, we express our confidence in the precision of our particular  sample’s results in 95 percent confidence intervals. These are intervals  that would contain the actual population values for 95 percent of the  samples we could have drawn. As a result, we are 95 percent confident  that each of the confidence intervals in this report will include the true  values in the study population.
In addition to sampling errors, the practical difficulties of conducting any  questionnaire may introduce errors, commonly referred to as nonsampling  errors. For example, difficulties in how a particular question is interpreted,  in the sources of information that are available to respondents, or in how  the data are entered into a database or were analyzed can introduce  unwanted variability into the questionnaire results. We took steps in the  development of the questionnaire, the data collection, and the data  analysis to minimize these nonsampling errors. We reviewed each  questionnaire to identify unusual, incomplete, or inconsistent responses  and followed up with Army item managers by telephone and e-mail to  clarify those responses. In addition, we performed computer analyses to  identify inconsistencies and other indicators of errors and had a second  independent reviewer for the data analysis to further minimize such error.
To determine reasons for the types of answers given in the questionnaires,  we held 30 face-to-face discussions with Army inventory managers, of  which 14 were in our sample. We judgmentally selected some TACOM and  AMCOM items that had unusual or high on-hand, on-order, and deficit  inventory. During these discussions we obtained additional detailed  comments and documentation related to demand, demand forecasting,  acquisitions, retention, and disposal actions.
We conducted this performance audit from February 2008 to January 2009  in accordance with generally accepted government auditing standards.  Those standards require that we plan and perform the audit to obtain  sufficient, appropriate evidence to provide a reasonable basis for our  findings and conclusions based on our audit objectives. We believe that  the evidence obtained provides a reasonable basis for our findings and  conclusions based on our audit objectives. On the basis of information  obtained from the Army on the reliability of its inventory management  systems’ data, and the survey results and our follow-up analysis, we  believe that the data used in this report were sufficient reliable for  reporting purposes.
section_title: Appendix II: Comments from the Department of Defense
section_title: Appendix III: GAO Contact and Staff Acknowledgements
subsections: section_title: GAO Contact
section_title: Staff Acknowledgements
paragraphs: In addition to the contact named above, Thomas Gosling, Assistant  Director; Carl Barden; Aisha Cabrer; Jim Melton; Steve Pruitt; Carl  Ramirez; Minette Richardson; and Cheryl Weissman made key  contributions to this report.