Contract Management: The Air Force Should Improve How It Purchases AWACS Spare Parts
Released: 2005-02-15T00:00:00

Letter

Background

The AWACS aircraft first became operational in March 1977, and as of November 2004, the U.S. AWACS fleet was comprised of 33 aircraft. The aircraft provides surveillance, command, control, and communications of airborne aircraft to commanders of air defense forces. The onboard radar, combined with a friend-or-foe identification subsystem, can detect, identify, and track in all weather conditions enemy and friendly aircraft at lower altitudes and present broad and detailed battlefield information.

The AWACS airplane is a modified Boeing 707 commercial airframe with a rotating radar dome (see fig. 1). The ailerons and cowlings are similar to commercial 707 parts but were modified for special requirements. The AWACS radome is the covering that provides housing for the airplane’s radar and friend-or-foe (IFF) identification system. Half of the radome covers the radar and half covers the IFF system and each has a different make-up in its composition. The Air Force purchased only the IFF section of the radome in the two separate purchases.

In the past, the Air Force has generally repaired, rather than purchased, the ailerons, cowlings, and radomes but recently had to purchase new parts to meet operational requirements. Prior to the recent spare parts purchases, the ailerons and cowlings had not been purchased since the mid-1980s, and the last radome unit had not been purchased since 1998.

All of the spare parts were purchased as noncompetitive negotiated procurements. The Federal Acquisition Regulation (FAR) provides guidance for the analysis of negotiated procurements with the ultimate goal of establishing fair and reasonable prices for both the government and contractor. For a noncompetitive purchase, the contract price is negotiated between the contractor and government and price reasonableness is established based primarily on cost data submitted by the contractor. The ailerons were also purchased as a commercial item. For a commercial item, price reasonableness is established based on an analysis of prices and sales data for the same or similar commercial items.

For the AWACS spare parts purchases we reviewed, DCMA provided technical assistance to the Air Force by analyzing labor hours, material and overhead costs, and contract prices. DCAA provided auditing and cost accounting services. DCMA and DCAA analyses were submitted to the Air Force prior to contract negotiations for the respective purchases.

Recent AWACS Parts Prices Are Significantly Higher Than Prior Purchase Prices

Since late 2001, the Air Force has negotiated and awarded contracts to Boeing for the purchase of outboard ailerons, cowlings, and radomes totaling over $23 million. Specifically, the Air Force purchased three ailerons for about $1.4 million, 12 right-hand cowlings and 12 left-hand cowlings for about $7.9 million, and three radomes for about $5.9 million. The Air Force paid an additional $8.1 million in costs as part of the initial radome contract to move equipment and establish manufacturing capabilities in a new location (see table 1).

The most recent per unit cost of each part represents a substantial increase from prior purchases. The overall unit cost of the ailerons and cowlings increased by 442 percent and 354 percent, respectively, since they were last purchased in 1986. The unit price for the one radome purchased under the September 2001 contract increased by 38 percent since it was last purchased in 1998, and the unit price nearly doubled two years later under the September 2003 contract. Overall, only a small portion of the price increases could be attributed to inflation. Figure 2 shows the unit price increases, including adjustments for inflation, for ailerons, cowlings, and radomes.

The Air Force and Boeing cited a number of additional factors that may have contributed to higher prices. For all the parts, the Air Force purchased limited quantities, which generally results in higher unit prices. For the ailerons, which had not been purchased since 1986, Boeing officials told us that some of the price increase was attributable to production inefficiencies that would result from working with older technical drawings, developing prototype manufacturing methods, and using different materials in the manufacturing process. The unit price of the cowlings included costs for the purchase of new tools required to manufacture the cowlings in-house—which Boeing decided to do rather than have vendors manufacture the cowlings, as had been done in the past. The new tools included items such as large production jigs, used to shape and fabricate sheet metal. Regarding radomes, the Air Force paid Boeing to relocate tooling and equipment from Seattle, Washington, to Tulsa, Oklahoma, and develop manufacturing capabilities at the Tulsa facility to produce and repair radomes. Boeing had initially decided to discontinue radome production and repair at its Seattle location due to low demand for these parts but, after further consideration of the Air Force’s requirements, decided to relocate the capability in Tulsa. The first radome contract the Air Force awarded Boeing included over $8.1 million to relocate the tooling and equipment and set up the manufacturing process. The remaining $1.2 million was the estimated production cost of the one radome.

Air Force Did Not Obtain and Evaluate Information Needed to Negotiate Fair and Reasonable Prices

In negotiating contracts for the outboard ailerons, cowlings, and radomes, the Air Force did not obtain and evaluate information needed to knowledgeably assess Boeing’s proposals and ensure that the spare parts prices were fair and reasonable. In general, the Air Force did not obtain sufficient pricing information for a part designated a commercial item, adequately consider DCAA and DCMA analyses of aspects of contractor proposals, or seek other pricing information that would allow it to not only determine the fairness and reasonableness of the prices but improve its position for negotiating the price.

Pricing Information Not Sought for Commercial Item to Ailerons

Boeing asserted that the aileron assembly was a commercial item. Under such circumstances, fair and reasonable prices should be established through a price analysis, which compares the contractor’s proposed price with commercial sales prices for the same or similar items. However, when purchasing the ailerons, the Air Force did not seek commercial sales information to justify the proposed price. Instead, the Air Force relied on a judgmental analysis prepared by Boeing, which was not based on the commercial sales of the same or similar aileron.

In reviewing the contractor’s submissions of data to the government, both DCMA and DCAA found Boeing’s proposal inadequate for the Air Force to negotiate a fair and reasonable price. DCMA performed a series of analyses on the purchase of the aileron assembly, each of which indicated that Boeing’s proposed unit price was too high. Boeing proposed in November 2002 to sell three aileron assemblies for $514,472 each. Subsequently, DCMA performed three separate price analyses, which indicated that Boeing’s price should be in the $200,000 to $233,000 range. However, the Air Force negotiation team did not discuss these analyses with Boeing during negotiations or include them as part of the Air Force’s price negotiation documentation. In January 2003, DCAA reported that the proposed price was “unsupported” and that Boeing did not comply with the Boeing Estimating System Manual, which requires support for commercial item prices. Further, the report said that Boeing must submit cost information and supporting documentation. The Air Force never addressed DCAA’s concerns. Instead, the Air Force relied on the analysis prepared by Boeing and paid $464,133 per unit.

The price analyst involved with the negotiation said that, in retrospect, the Air Force should have sought commercial sales information from Boeing, citing this purchase as his first experience with a commercial item. We asked Boeing to provide historical sales information of the same or commercial equivalent item to use as a general benchmark on price reasonableness of the ailerons purchased by the Air Force. According to Boeing representatives, the requested data were not available because the military version of the ailerons had not been produced for over 20 years.

Boeing representatives agreed that the Boeing analysis was subjective, but they said the analysis represented the best estimate based on their assumptions and limitations.

Air Force Did Not Act on DCMA’s Recommendation to Investigate the Use of Existing Tools for Cowlings

When negotiating the purchase price for the cowlings, the Air Force again did not use information provided by DCMA or address DCMA’s recommendation that it determine the availability and potential use of existing tools to manufacture the cowlings. Included in the $7.9 million contract for cowlings, Boeing proposed and the Air Force awarded about $1.1 million for the purchase of new tools, such as large production jigs, associated with the manufacture of the cowlings. However, DCMA had recommended in its initial evaluation of Boeing’s proposal that the Air Force give qualified offerors an opportunity to inspect the condition of cowling tools used in prior manufacturing for their applicability and use in fabricating the cowlings. DCMA pointed out that the tools were located at Davis–Monthan Air Force Base in Arizona, where government-owned tooling is often stored when no longer needed for production. However, the Air Force did not accurately determine the existence and condition of the tools.

Subsequent to the contract award, Boeing—not the Air Force— determined that extensive government-owned tooling was available at Davis-Monthan and got approval, in May 2004, to use the tools in manufacturing the cowlings. As a result, the cowlings contract included unnecessary tool purchase costs when it was awarded. Air Force and Boeing officials anticipated a contract modification would be submitted to reduce the price as a result of using the existing tools.

Cost Information from Recent Radome Purchase Not Considered

A significant portion of the September 2001 cost-plus-fixed fee contract that the Air Force awarded to Boeing to purchase one radome unit involved relocating tools and equipment and establishing a manufacturing process at Tulsa. Specifically, over $8.1 million of the contract, which was valued at about $9.3 million, was spent to move equipment and establish a manufacturing process at the Tulsa facility; the price of producing the one radome unit was about $1.2 million. About 19 months later, in April 2003, at the Air Force’s request, Boeing provided a proposal to produce two additional radomes at the Tulsa facility, and in September 2003, the Air Force awarded a contract to Boeing to produce the two radomes at over $2.3 million per unit—almost twice the 2001 unit price.

Based on our analysis, the Air Force did not obtain adequate data to negotiate a fair and reasonable price for the second radome contract. First, the Air Force requested a DCMA analysis of Boeing’s proposal, but, in late June 2003, DCMA told the Air Force price analyst that, for an unexplained reason, DCMA did not receive the request for assistance; the price analyst then determined that he would waive the technical evaluation, which would forego the benefit of DCMA’s technical expertise. Second, and most importantly, the Air Force did not consider Boeing’s costs under the September 2001 contract, which would have provided important information to help the Air Force determine if it was obtaining a fair and reasonable price for the radomes.

No Competition Used for AWACS Spare Parts Purchases

In addition to encouraging innovation, competition among contractors can enable agencies to compare offers and thereby establish fair and reasonable prices and maximize the use of available funds. The Air Force determined that Boeing was the sole source for the parts and did not seek competition. However, a DCMA analysis had determined that Boeing’s proposed price for the engine cowlings was not fair and reasonable and, because a subcontractor provided the part in support of the original production contracts, recommended that the cowlings be competed among contractors.

From the outset of the cowlings purchase, Air Force documents said that the Air Force did not have access to information needed to compete the part. However, the Air Force has a contract with Boeing that could allow the Air Force to order drawings and technical data for the AWACS and other programs for the purpose of competitively purchasing replenishment spare parts. Nevertheless, Boeing has not always delivered AWACS data based on uncertainties over the Air Force’s rights to the data. Based on discussions with Air Force representatives, Boeing has been reluctant to provide data and drawings in the past, making it difficult for the Air Force to obtain them. Moreover, Boeing maintains that it owns the rights to the technical data and drawings and the Air Force could not use the drawings to compete the buy without Boeing’s approval.

It is unclear if the AWACS program office had placed a priority on fostering competition for the cowlings and other spare parts. Representatives of the AWACS spare parts program office at Tinker Air Force Base cited a number of concerns in purchasing the spare parts from vendors other than Boeing. First, they said that the need for these spare parts had become urgent and noted that other vendors would have to pass certain testing requirements, which could be a lengthy process, and that, even with this testing, performance risks and delivery delays were more likely to occur. An overriding concern was that the Air Force establish a good relationship with reliable parts providers, such as Boeing. Program office officials told us that the Air Force would likely be better served in the long run by staying with a reliable supplier rather than competing the parts.

In contrast, senior contracting officials at Tinker—who have oversight responsibilities for the contracting activities that support the AWACS program—have a different point of view. These officials were concerned about the large price increases on AWACS spare parts and the lack of competition. They stated that the Air Force is a “captured customer” of Boeing because the company is the only source for many of the parts needed to support aircraft manufactured by Boeing, such as the AWACS. According to these senior contracting officials, during the last several years Boeing has become more aggressive in seeking higher profits regardless of the risk involved with the purchase. For example, they told us that, even when the risk to the company is very low, the company is seeking at least a 3- to 5-percent higher fee than in the past. As a result, contracting officers have had to elevate some negotiations to higher management levels within the Air Force. They also said that, without the ability to compete spare parts purchases, the Air Force is in a vulnerable position in pricing such contracts. Earlier in 2004, Boeing and the senior Air Force contracting officials involved with the aircraft programs managed at Tinker began a joint initiative to work on various contracting issues. Concerning data rights, these contracting officials told us that in future weapon systems buys, the Air Force must ensure that it obtains data rights so that it can protect the capability to later compete procurements of spare parts.

Conclusions

The Air Force needs to be more vigilant in its purchases of spare parts. The AWACS parts purchases we reviewed illustrate the difficulty of buying parts for aircraft that are no longer being produced as well as buying them under non-competitive conditions. A key problem was that the Air Force did not take appropriate steps to ensure that the prices paid were fair and reasonable. It did not obtain and evaluate information that either should have been available or was available to improve its negotiating position. It did not attempt to develop other sources to purchase the spare parts and promote competition. And, it did not have a clear understanding of its rights to technical data and drawings, which are necessary to carry out competitive procurements. As the AWACS aircraft—like other Air Force weapon systems—continue to age, additional spare parts will likely be needed to keep them operational. Given the significant price increases for the ailerons, cowlings, and radomes, the Air Force needs to look for opportunities to strengthen its negotiating position and minimize price increases. Clearly, competition is one way to do this. Unless the Air Force obtains and evaluates pricing or cost information and/or maximizes the use of competition, it will be at risk of paying more than fair and reasonable prices for future purchases of spare parts.

Recommendations for Executive Action

To improve purchasing of AWACS spare parts, we recommend that the Secretary of Defense direct the Secretary of the Air Force to ensure that contracting officers obtain and evaluate available information, including analyses provided by DCAA and DCMA, and other data needed to negotiate fair and reasonable prices; develop a strategy that promotes competition, where practicable, in the purchase of AWACS spare parts; and clarify the Air Force’s access to AWACS drawings and technical data including the Air Force’s and Boeing’s rights to the data.

Agency and Company Comments and Our Evaluation

We received written comments on a draft of this report from DOD and The Boeing Company.

In its comments, DOD concurred with GAO’s recommendations and identified actions it plans to take to implement the recommendations. DOD’s comments are included in appendix II. DOD also provided technical comments, which we incorporated into the report as appropriate.

In its comments The Boeing Company provided information that augments the information in the report and provides the company’s perspective on the AWACS purchases. With respect to the prices the Air Force paid for the spare parts, Boeing provided more detailed information to explain the costs associated with each part. However, the information Boeing provided did not change our conclusion that the Air Force did not obtain and evaluate sufficient information to establish fair and reasonable prices. The company also noted that it has worked with Air Force representatives to address issues associated with higher profits and, as of January 2005, was working with the Air Force to address issues associated with access to AWACS technical drawings and data. The Boeing Company’s comments are included in appendix III.

We are sending copies of this report to the Secretaries of the Air Force, the Army, and the Navy; appropriate congressional committees; and other interested parties. We will also provide copies to others on request. 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 has questions concerning this report, please contact me at (202) 512-4841 or by e-mail at cooperd@gao.gov, or James Fuquay at (937) 258-7963. Key contributors to this report were Ken Graffam, Karen Sloan, Paul Williams, and Marie Ahearn.

Appendix I: Scope and Methodology

To identify price increases associated with the ailerons, cowlings, and radomes, we reviewed Air Force contracting files and we held discussions with members of the Air Force involved in each purchase, which included contracting officers, negotiators, and price analysts. These officials were located at Tinker Air Force Base, Oklahoma, the location of the Airborne Warning and Control System (AWACS) spare parts program office—the E3 Systems Support Management Office. To account for the impact of inflation, we used published escalation factors for aircraft parts and auxiliary equipment to escalate prices previously paid for the parts to a price that would have been expected to be paid if the prices considered the effects of inflation.

To determine whether the Air Force contracting officers obtained and evaluated sufficient information to ensure that Boeing’s prices were fair and reasonable, we held discussions with the Defense Contract Management Agency (DCMA) representatives and obtained copies of reports and analyses prepared by DCMA and Defense Contract Audit Agency (DCAA). We reviewed Air Force contracting files and held discussions with Air Force officials that negotiated the respective purchases, which included contracting officers, negotiators, and price analysts. We also held discussions with representatives of Boeing and visited Boeing production facilities in Tulsa, Oklahoma. The Boeing officials represented several Boeing divisions involved in the purchases including Boeing’s military division (Boeing Aircraft and Missiles, Large Aircraft Spares and Repairs), which had responsibility for negotiating all of the spare parts purchases. Boeing Aerospace Operations, Midwest City, Oklahoma, had contract management responsibility for the purchases.

To determine the extent that competition was used to purchase the parts, we reviewed Air Force contracting files and held discussions with members of the Air Force involved in each purchase, which included contracting officers, negotiators, and price analysts. We also held discussions with representatives of the AWACS spare parts program office and senior contracting officials responsible for overseeing contracting activities at Tinker Air Force Base, Oklahoma.

We conducted our review from August 2003 to November 2004 in accordance with generally accepted government auditing standards.

Appendix II: Comments from the Department of Defense

Appendix III: Comments from The Boeing Company

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