DOD is increasingly relying on contractors to provide a range of mission- critical support from operating information technology systems to providing logistics support on the battlefield. These contractors are responsible for managing contract performance, including planning, placing, and administering subcontracts as necessary to ensure the lowest overall cost and technical risk to the government. Although total subcontract awards from DOD contracts decreased 15 percent from fiscal year 2005 to 2006, total subcontract awards have increased by 27 percent, from $86.5 billion in fiscal year 2002 to $109.5 billion in fiscal year 2006. (see fig. 1). While subcontracting plans submitted by contractors are required for most contracts over $550,000, this information is reported only for first tier subcontracts. Historically, DOD has limited insight into costs associated with using multiple layers of contractors to perform work. Figure 2 depicts how lower tier’s costs become part of the higher tier’s and prime contractor’s overall costs. DOD contracting officials generally rely on tools in the FAR and DFARS in assessing the risk of excessive pass-through charges when work is subcontracted. For the 32 selected contracts we reviewed, when there was full and open competition, contracting officials assessed contractor value added based on the technical ability to perform the contract, but did not need to separately evaluate costs for value added as market forces generally control the proposed contract cost. However, contracts with greater risk—such as those awarded noncompetitively or without fixed prices—require contracting officers to consider more than the technical ability to perform the work in assessing value added. We found that conducting assessments of contractor value added is especially challenging in unique circumstances, such as when requirements are urgent in nature and routine contracting practices may be overlooked. The FAR and DFARS contain requirements for contracting officials when entering into contractual relationships that are intended to help ensure the best value for products and services. Contracting officers have wide latitude to exercise business judgment when applying these regulations. While no specific criteria exist for contracting officers to use in evaluating contractor value added, several key elements in acquisition regulations, however, provide them with a mix of tools to gain insight into how prime contractors intend to do the work and the associated costs, including the role and costs of subcontracting: Acquisition planning is key to determining contract requirements, level of competition available based on market research, and the appropriate contract vehicle to be used based on level of risk. Solicitation procedures allow contracting officers to select the prospective contractor that represents the best value to the government. Contract pricing is used to determine price reasonableness for the contract, including subcontracting costs. Contract administration is intended to obtain a variety of audit and administration services to hold contractors accountable for operating according to their proposals. According to DOD contracting officials and based on our review of selected contracts, assessments of contractor value added are typically driven by contract risk—the presence of competition and whether the type of contract requires the government to pay a fixed price or costs incurred by the contractor. When using full and open competition, the value added by the prime contractor was determined by its technical ability to perform the contract, but generally contracting officers did not do a separate detailed evaluation of cost to determine value added. DOD contracting officials told us that competitive fixed-price contracts allow the market to control overall contract value, which provided them with reasonable assurance of the contractor’s value added and potentially minimizing the risk of excessive pass-through charges. When using noncompetitive contracts, however, the market forces did not control contract cost and required contracting officers to consider—in addition to cost—the technical ability to perform the work. Specifically, DOD contracting officials noted that noncompetitive as well as other than fixed-price contracts require additional oversight and administration, including more detailed information to conduct the assessment of contractor value added and minimize the risk of excessive pass-through charges. For the 32 selected contracts we reviewed, 16 were awarded noncompetitively, with 7 of those on a cost-reimbursement basis and 2 on a time-and-materials basis. (see table 1) . DOD contracting officials noted that fixed-price contracts incentivize prime contractors to keep overall contract costs low—to include any subcontract costs—as they will have to absorb cost overruns under such contracts. In reviewing two fixed-price competitive contracts for Air Force space systems, acquisition planning and market research up-front provided insights into reasonable prices as well as identified the best- qualified suppliers to do the work. Air Force officials stated that because competitive contracts are often proposed by a team of contractors—the prime plus the subcontractors—market pricing extends to subcontractor costs as well. In discussing the two contracts, these officials added that fixed prices lowered the government’s risk of increased costs. As a result, the contracting officials said that in assessing the prime contractor’s value added, they focused more on the technical capabilities—rather than cost—to ensure contractors were responsive in meeting the mission. Contracting officials told us that contracts awarded noncompetitively decrease their assurance of price reasonableness since there is no basis of comparison through competition. Therefore, they rely on other pricing tools contained in the FAR and DFARS. These tools assist the contracting officers in obtaining more detailed information to provide reasonable assurance of contractor value added and potentially minimize the risk of excessive pass-through charges. Our review of contract files also revealed the role that DCAA and DCMA played in reviewing cost information in several of the 16 noncompetitive contracts we reviewed and helping to negotiate subcontract costs. For the Air Force’s estimated $3 billion satellite program contract, DCAA reviewed the certified cost and pricing data that the contractor was required to provide. The required data included not only the contractor’s costs but a detailed description of the efforts and costs of each subcontractor, including subsidiary companies. The contracting officer judged the proposed costs based on results of audit reports and a technical evaluation. Because of the high dollar value and complexity of this contract, the program office required the prime contractor to submit cost data reports at the conclusion of each effort and cost performance reports to provide insight into the prime contractor’s and subcontractor’s cost and schedule data. Additionally, DCAA and DCMA helped to negotiate individual subcontracts and, in some cases, achieve lower overall costs. The Army similarly relied on DCAA and DCMA assistance on a $1 billion fixed-price contract for a family of heavy tactical vehicles. The Army did not pursue full and open competition, citing the lack of industry response, thus requiring contracting officers to gain more insight into prime contractor and subcontract costs to assess contractor value added and minimize the risk of excessive pass- through charges. The Army used a teaming arrangement that allowed the contracting command, DCAA, DCMA, and the contractor to evaluate, discuss, and negotiate the costs. Each cost element was mutually agreed upon, resulting in a negotiated price list. Contracting officials told us that these negotiated prices applied to subcontracts for vehicle parts as well, preventing overcharges by lower-tier subcontractors. For an $11 million Navy contract for fighter aircraft support, DCMA provided an evaluation of prime contractor and subcontractor costs for certain services. In prenegotiation discussions with the Navy, DCMA described the technical evaluation of the contractor’s cost proposal, providing a cost summary of what was proposed by the contractor and what was recommended during the technical evaluation. For one portion of the contract, the evaluators questioned the direct labor hours proposed by the prime contractor for managing the project because most (if not all) the actual work would be done by subcontractors. The DCMA technical evaluator found the hours proposed to be excessive, raising questions about the prime contractor’s value added relative to the costs. Documentation in the contract file stated that although the prime contractor believed the hours proposed were fair, it agreed to a 25 percent reduction in the hours. In addition to the presence of competition, the risk associated with contracts in which the government pays based on costs incurred also affects the degree to which contracting officers assess contractor value added and potentially minimize the risk of excessive pass-through charges. These contracts, which include cost-reimbursement and time-and- materials contracts, increase DOD’s need to ensure appropriate surveillance during performance to provide reasonable assurance that efficient methods and effective cost controls are used. Because of the risks involved, the FAR directs that these contracts should be used only when it is not possible at the time of award to estimate accurately the extent or duration of the work or to anticipate costs with any reasonable degree of confidence. Of the selected contracts we reviewed, 18, or 56 percent, were cost-type contracts with 11 noncompetitively awarded. Contracting officials told us that under these arrangements, although competition increases the assurance of reasonable prices and controls contract cost, the absence of a fixed price requires them to take additional steps to obtain other information to assess the roles and costs of prime contractors and subcontractors, which assists in evaluating contractor value added. For example, a task order awarded under a $3 billion Army multiple award contract, which reimbursed the contractor based on the cost of its time and materials, demonstrated the risk associated with these contracts. Under this multiple award contract, eight prime contractors competed for task orders, with one of the contractors identifying over 75 subcontractors in its proposal. On the task order we reviewed, for engineering services, most of the work was subcontracted. Contracting officers stated that because the contract was awarded on a time-and-materials basis, the government was particularly vulnerable to the prime contractor charging more than it paid for its subcontractor since at this time prime contractors could charge for subcontract labor at the prime’s rate and keep any difference between its rate and the subcontractor’s. While the prime contractor was not required to submit certified cost or pricing data, it was required to provide a task execution plan that described the specific duties of both the prime contractor and the subcontractor, including the fees they were charging the government to manage the subcontractor.