XI. FINDINGS AND RECOMMENDATIONS

The Department of Defense, through the Defense Fuel Supply Center of the Defense Supply Agency will purchase in fiscal year 1975 approximately $3.5 billion in petroleum products to service United States military forces throughout the world.

There are two ways to procure these products. One is by advertised competitive bids. The other is by negotiated contracts.

By its very nature, the advertised bid method would generate competition and hopefully enable the government to obtain products at the most favorable price. Accordingly, ordinarily little or no cost or other data supporting the price of the winner of the competitive bid would be necessary.

On the other hand, negotiated contracts are the result of a give and take process between the government's contracting officer and the potential contractor. As such the contracting officer must be able to obtain backup data for the contractor's price-generally called cost or pricing data-in order to satisfy himself of the reasonableness of the price charged. Such requirements for supporting data are codified in the so-called "Truth in Negotiations Act" and in the Armed Services Procurement Regulations. Waivers of such requirements are to be made only in exceptional cases.

As of January 1, 1973, all bulk purchases of petroleum products by the Defense Fuel Supply Center were made by advertised invitations for bid and by public awards. However, in May of 1973, procurement moved to a negotiated basis. After the Arab embargo of October 1973 and the passage of the Emergency Petroleum Allocation Act in January 1974 these negotiated contracts were mandated.

Despite having procured products on a negotiated basis since May of 1973, DFSC did not request cost or pricing data from the oil companies until September, 1974. The oil companies refused to supply the data and an impasse resulted in December.

With the year drawing to a close and contracts running out, the controversy between the Department of Defense and the oil companies had reached the point that there arose the possibility that some petroleum supplies to the military might be interrupted. At this point the Subcommittee took an active role in assuring uninterrupted supplies as well as seeking an accommodation between the Department of Defense and the oil companies.

In the course of its activities Subcommittee staff began to make an intensive review of the petroleum procurement policies of the military. The following are the staff's findings and recommendations:

FINDINGS

1. The Defense Fuel Supply Center, prior to 1973, had established a policy of buying petroleum products and particularly jet fuel for military aircraft on a short-term basis by advertised bids. This was

done to obtain the lowest possible prices. This policy contained inherent risks if short supplies and rising prices were encountered. The DFSC failed to recognize in 1973 that a market change in this direction was imminent and DFSC failed to plan or provide for such a contingency.

2. DFSC purchasing personnel were accustomed to handling advertised bids and had little training and experience in direct negotiations with suppliers. They were unprepared to negotiate with suppliers and thus obtain the lowest possible price for the government. Review of DFSC contract files by the Defense Supply Agency, the General Accounting Office and by the Subcommittee staff all disclosed a failure of DFSC personnel to document their price negotiations with suppliers as well as a failure to show how they determined price reasonableness. These conditions had been noted by the Defense Supply Agency in audits conducted in 1974 and before, and they continued throughout 1974. A General Accounting Office survey also found that in all contracts reviewed for the November-December period of 1973 the contracting officer had accepted the first price offered by the petroleum supplier with no apparent evidence of any real negotiations.

3. Audits by Defense Supply Agency had disclosed a long-standing deficiency in DFSC's operations in its failure to have available qualified personnel to perform analyses of cost and pricing data and market data for use in determining price reasonableness. This deficiency existed long before 1973 and continued into 1975.

4. Prior to the fall of 1974, DFSC had continually failed to require potential contractors to supply cost or pricing data under the Truth in Negotiations Act and the Armed Services Procurement Regulations and had consistently permitted contractors to avoid supplying such data by obtaining waivers for them even though the Act calls for such waivers only in "exceptional cases."

5. Prior to the fall of 1974, DFSC had erroneously determined fair and reasonable prices to a large extent from trade publications rather than requiring potential contractors to submit backup data as required by law. Audits of DFSC by the Defense Supply Agency had repeatedly criticized DFSC for their failure to get proper data directly from the suppliers and for reliance on trade publications data. Trade publications data in many cases does not represent real transactions but only bid and asked prices. DFSC persisted in using trade publication data to justify prices in July 1974 even though it was specifically instructed by DSA earlier in 1974 that this procedure was not proper. 6. In 1974, the procurement of petroleum products by DFSC was governed by regulations and allocations of the Federal Energy Administration, but the personnel of DFSC failed to acquaint themselves with the regulations applicable to the purchases they were making. 7. DFSC did not attempt to obtain in 1974 specific information from either oil companies or from the domestic airlines as to quantities and prices of jet fuel sold by major oil companies to the airlines to compare with the prices the major oil companies were charging the Government. DFSC proceeded in July 1974 to award contracts based on trade publications without data from suppliers despite DSA's recommendations to the contrary.

8. The DFSC was aware as early as April 1974 that there was a possibility that the major oil companies might be loading a disproportionately heavy amount of "pass through" costs on to Government contracts. There was some communication between the Defense Department and FEA on this matter, but it was not properly resolved. Both FEA and the Defense Department have been negligent in not resolving this matter which was the key to how prices to the government were being calculated. It was not until March 1975, after the Subcommittee had expressed its interest, that FEA issued instructions to its field auditors to begin an investigation of how "pass through" costs were allocated to military jet fuel.

9. The DFSC failed in 1974 to press for and obtain data which the oil companies had supplied to FEA on crude oil costs. This data would have been useful to DFSC purchasing personnel in making a determination as to the reasonableness of prices offered by oil companies.

10. In the fall of 1974, when DFSC belatedly began to press for data from the oil companies which was required by law and was essential to determine the reasonable price of petroleum products, the oil companies refused to supply such data and placed the military in the position of either acceding to their demands or facing the threat of having oil supplies interrupted, especially to strategic overseas locations.

11. By asking for a blanket waiver enabling all companies to be relieved of supplying cost or pricing data for all contracts for the last six months of 1974 because it was too late and the companies would not cooperate, DFSC was negligent in performing its responsibilities and ignored the statutory mandate to grant waivers only in "exceptional cases" since it had been aware of this requirement for some time and had failed to timely request the companies to comply with the provision.

12. The failure of DFSC to provide protection in advance of heavy price increases; the failure of DFSC to attempt to inform itself as to comparable prices of jet fuel purchases by airlines; the failure of both FEA and DFSC to press vigorously for a determination as to whether DFSC's prices contained an excessive amount of "pass through" charges; and the general failure to obtain supporting data to determine the reasonableness of prices charged the government has cost the government millions of dollars in its purchases of jet fuel.

13. Information furnished to the Subcommittee indicates that substantial reductions in prices of jet fuel were received by DFSC from the major oil companies in January 1974. No specific reasons for this reduction were advanced. The controversy over the submission of cost and pricing data and the continuing interest of the Subcommittee may have had some effect on the negotiations which resulted in these reductions. DFSC informed the Subcommittee that after the Subcommittee expressed its interest, previous offers made by suppliers were reduced by $32 million.

RECOMMENDATIONS

The audits by DSA, GAO and by the Subcommittee staff disclosed the continuing existence of long-standing deficiencies in procurement practices such as failure to forecast and plan for significant market

changes; failure to have qualified personnel trained in negotiation techniques and for cost, pricing and market data analysis; failure to properly document contract negotiations; and failure to obtain and report proper data to document the reasonableness of prices accepted which have cost the government millions of dollars. Therefore, it is recommended that:

1. GAO conduct a thorough examination into the procurement practices at the Defense Fuel Supply Center to determine what is being done to eliminate these long-standing deficiencies and improve procurement procedures.

2. The Federal Energy Administration make a full and complete investigation into whether the major oil companies were and are presently charging disproportionate amounts of "pass through" charges to government contracts.

О