the Government will accept, is mandatory under the terms of the contract and is not subject to the incentive feature, but must be accomplished within the established basic price limitation. Thus, the incentive feature is applied to desired performance rather than mandatory performance; to performance goals rather than performance requirements. For example, performance goals might relate to the speed of an aircraft or ship, thrust of an engine, maneuverability of a vehicle, fuel economy, et cetera. This type of contract is most suitable for use in procurements of complex military weapons where there are either substantial development goals or potentialities for improved performance which are of great importance to the Government. The performance-incentive type of contract poses complex problems in contract administration and requires thorough detailed evaluation of all the factors involved by the contracting officer and his team of specialists. This type of incentive contract is used only upon approval of the procurement headquarters of the individual military services. Since the authorization of this type contract is so new, we do not have any meaningful statistical information concerning its use. It has been used, however, in aircraft procurement and, just recently, in one of our missile programs. The second special incentive-type contract with which we are finding success, especially in shipbuilding, is the concept of value-engineering incentives. This type of incentive is suitable primarily where the items being procured are covered by firm specifications. Value engineering incentives are designed to encourage the contractor to maintain a staff devoting time and effort to value engineering studies to reduce costs under the contract. In return for this effort, the contractor receives a stated percentage of the resultant savings. A value engineering study is an intensive appraisal of all the elements of the design, manufacture or construction, inspection, installation, and maintenance of an item and its components, including the applicable specifications and operational requirements, in order to achieve necessary performance, maintainability, and reliability at minimum cost. The purpose of value engineering is to make certain that every element of cost (e.g., labor, material, and supplies) contribute proportionately to the function of the item. Where a change recommended by a contractor's value engineering study is adopted, a change order is issued under the changes clause of the contract, together with a reduction in the contract price corresponding to the agreed percentage of the cost reduction. The contractor normally shares, by increased profit, in the amount of cost saving. On the other hand, the Government is not required by the terms of the contract to adopt any recommendations made by the contractor after a value engineering study. Since the ASPR authorization of this type of incentive arrangement is also recent, we do not have any meaningful statistics concerning its use. We do know, however, that for every dollar the Bureau of Ships has spent with contractors under such value engineering arrangements, it has saved $12. SPECIAL PURPOSE CONTRACTS Up to this point, we have discussed fixed-price contracts, cost-reimbursement contracts, and special-incentive contracts. The last category of contract types which we wish to mention is what may best be called special-purpose contracts. These contract types are not utilized to any great extent but they should be included in order to complete the picture. TIME AND MATERIALS CONTRACT The time and materials type of contract provides for the procurement of supplies or services on the basis of payment for direct labor hours at specified fixed hourly rates (which rates include direct and indirect labor, overhead, and profit) and material at cost. Material handling costs may be included in the charge for material at cost, provided they are clearly excluded from any factor of the charge computed against direct labor hours. Under this type of contract. a price ceiling is established which the contractor may not exceed, except at his own risk. The time and materials contract is used only in those situations where it is not possible at the time of placing the contract to estimate the extent or duration of the work or to anticipate costs with any substanial accuracy. Moreover, its use is restricted, as its disadvantage is obvious, since it provides for payment of a fixed price per applicable unit of time, it is evident that, unless the rate is insufficient to cover the contractor's costs, the total amount of profit under the contract is increased proportionately as the number of hours are increased. For this reason, the time and materials contract is not among our preferred types of contracts and is used only after the contracting officer has determined that it most suitably serves the requirement. It is essential that this type of contract be used only where provision is made for adequate controls, including appropriate surveillance by Government personnel during performance, to give reasonable assurance that inefficient or wasteful methods are not being used. At times this type of contract is necessary for repair, maintenance or overhaul work or work to be performed in emergency situations. However, with respect to procurements which exceeded $10,000 in fiscal year 1959, only 0.3 percent of procurement dollars were obligated under time and materials contracts. This accounted for 0.9 percent of the total of such procurement actions. LABOR-HOUR CONTRACT The labor-hour type of contract is similar to the time and materials type contract. It differs only because the contractor is not required to furnish any materials. The applicability of this type of contract is the same as for the time and materials type of contract. Its disadvantage is also the same, and, for this reason, the labor-hour contract is used very infrequently. For procurements exceeding $10,000 in fiscal year 1959, only 0.1 percent of our procurement dollars were obligated by labor-hour contracts which accounted for 0.2 percent of the total of such procurement actions. This concludes our discussion of the types of contracts used in defense procurement. It should be pointed out, however, that our responsibility in selecting the most appropriate type of contract does not end with the prime contractor. Under date of October 1, 1959, ASPR was revised to include a more comprehensive treatment concerning our subcontracting policies and procedures. This subject will be covered in the closing presentation. Target cost Target profit.... EXHIBIT 9.-How-Fixed-price incentive Target price--- Ceiling price-120 percent of target cost (maximum liability of Government... Formula-80 percent Government and 20 percent contractor. Profit ceiling-13 percent of target cost (maximum profit company can realize) Assume: $100,000 8, 500 108, 500 120,000 13, 000 B Final cost_ Target profit_ Plus share (20 percent of $8,000). Final price----- A $92, 000 $104, 000 8, 500 1,600 8, 500 Secretary LEBOUTILLIER. (b) Prime contract pricing: During the past year, the General Accounting Office reported to Congress on certain defense contracts under which post-audits revealed that excessive prices were initially paid to some contractors. These cases, in our opinion, demonstrated two areas where our procedures and practices were weak and needed strengthening. One area was in regard to pricing data being furnished by offerors or contractors which were not current, complete or accurate. Accordingly, we have imposed on our prime contractors a new requirement which is applicable to all procurements over $100,000 and may also be applied in procurements of lesser amounts if the contract ing officer deems it warranted. Specifically, the requirement calls for the contractor to obtain and to utilize all available actual or estimated current costs or pricing data in preparing the price estimate and to make the same known to the contracting officer for his use in evaluating the estimate. A certification to this effect is required of the prime contractor as evidence that the requirement has been complied with. The certificate is obtained immediately prior to agreement on negotiated prices, including targets or price revisions. We want to make it clear, however, that this certification is not a crutch or a substitute for thorough examination and analysis of the proposals by the negotiation team. On the other hand, we believe it is an essential tool and will materially improve the validity of cost and pricing data being submitted to us. 3. SUBCONTRACTING POLICIES AND PROCEDURES The other area where the General Accounting Office reports indicated weakness was in regard to subcontracting. In short, it was demonstrated that we had been placing greater reliance upon prime contractors' pricing of subcontracts than was justified in the light of the specific examples of inadequate and ineffective pricing cited. Accordingly, we have extensively revised, expanded and strengthened our ASPR coverage of the subcontracting area by publishing on October 1, 1959, an entirely new section entitled "Subcontracting Policies and Procedures." Mr. VINSON. Now, one minute. Will you put that in the record? Secretary LEBOUTILLIER. Yes, sir. Mr. BANNERMAN. Yes, sir. Mr. VINSON. Just put that in the record. (The section follows:) PART 9-SUBCONTRACTING POLICIES AND PROCEDURES 3-900 SCOPE OF PART. This part sets forth policies and procedures for the evaluation, review, and approval of contractors' “make or buy" programs, purchasing systems, and proposed subcontracts. 3-901 GENERAL. (a) Information as to the contractor's "make or buy" program, purchasing system, and proposed subcontracts may be important to (i) negotiation of reasonable contract prices (see ASPR 3-807.5 and 3-808.2(h)), (ii) assurance of satisfactory contract performance, or (iii) carrying out Government policies regarding small business (ASPR 1-707.1), labor surplus areas (ASPR 1-805.1), use of Government facilities, maintenance of mobilization base, or other policies which may be appropriate to the particular procurement. Therefore, Government review of contractors' "make or buy" programs and proposed subcontracts is required as set forth in this part. Where "make or buy" decisions and subcontracting will have a substantial impact on price negotiation or contract performance or administration, the contractor's "make or buy" program and subcontracting should be evaluated and agreed on during negotiations, to the extent practicable. (b) Review of the contractor's purchasing system, principal proposed subcontracts and "make or buy" program should generally be made where (i) the item, system, or work is complex, the dollar value is substantial, or competition is restricted; and (ii) cost reimbursement, price redetermination, or incentive-type contracts are to be used. 3-902 REVIEW OF "MAKE OR BUY" PROGRAM. (a) A "make or buy" program is that part of a contractor's written plan for the production of an end item which outlines the major components, assemblies, subassemblies, and parts to be manufactured (including testing, treating, and assembling) in his own facilities and those which will be obtained elsewhere by subcontract. (b) Where the nature of the procurement is such that, in view of the factors in ASPR 3-901 (b) above, review of the "make or buy" program is appropriate or is otherwise considered essential, the prospective contractor shall be required to submit his proposed "make or buy" program, together with sufficient data to permit the contracting officer to evaluate such factors in (c) below as are pertinent. (c) In reviewing the "make or buy" program during negotiation, consideration shall be given to the following factors in the light of how they affect the interests of the Government: (i) the effect of the contractor's plan to make or buy, as the case may be, on price, quality, delivery, and performance; (ii) whether the contractor plans to broaden his base of subcontractors through competitive means; (iii) whether the contractor has given consideration to competence, abilities, experience, and capacities available within other firms; (iv) whether small business concerns are given an equitable opportunity to compete for subcontracts; (v) whether the contractor or major subcontractors propose to do work in plant, the nature of which differs significantly from their normal inplant operations or for which they are not historically suited; (vi) whether production of the item or performance of the work will create a requirement, either directly or indirectly, for additional facilities to be furnished by the Government, by the contractor, or by subcontractors; (vii) whether the contractor proposes to use additional Governmentfurnished facilities to do a type of work inplant for which there is capacity elsewhere (not requiring Government facilities) which is competitive in quality, delivery, and overall cost, and is acceptable as a source to the contractor; and (viii) other factors, such as the nature of the item, experience with similar items, future requirements, engineering, tooling, starting load costs, market conditions, and the availability of personnel and material. After agreement on the program is reached, the contracting officer shall notify the contractor as to the Government's approval of the program and shall inform the contractor as to any requirement for further review during performance of the contract. (d) In contracts resulting from negotiation in which a "make or buy" review has been made and agreement reached thereon pursuant to (c) above, there generally should be included a requirement for notification to the Government in advance of any proposed change to the "make or buy" program together with justification therefor. Where notification is required, the following clause shall be used: CHANGES TO MAKE OR BUY PROGRAM The contractor agrees to perform this contract in accordance with the "make or buy" program attached to this contract except as hereinafter provided. If the Contractor desires to change the "make or buy" program, he shall notify the Contracting Officer in writing of the proposed change reasonably in advance and shall submit justification in sufficient detail to permit evaluation of the proposed change. With respect to items deferred at the time of negotiation of this contract for later additions to the "make or buy" program, the Contractor shall notify the Contracting Officer of each proposed addition at the earliest possible time, together with justification in sufficient detail to permit evaluation. The Contractor shall not, without the written consent of the Contracting Officer, make changes or additions to the program; provided that in his discretion, the Contracting Officer may ratify in writing any changes or additions and such ratification shall constitute the consent of the Contracting Officer required by this clause. The "make or buy" program attached to this contract shall be deemed to be modified in accordance with the written consent or ratification by the Contracting Officer. (e) Approval of the contractor's purchasing system (ASPR 3-903) shall not be construed as approval of the "make or buy" program where such is required. 3-903 REVIEW OF SUBCONTRACTING AND CONTRACTORS' PURCHASING SYSTEMS. Examination of the contractor's purchasing system and plans for subcontract ing, review of proposed subcontract sources and prices in the light of the factors indicated in ASPR 3-901, and discussions with contractor to bring about any adjustments which may be needed to clear the way for formal subcontract approval, should generally be accomplished as part of the negotiation of the prime contract. Any resulting purchasing system approvals may be granted before the contract is executed. 3-903.1 Contract Clauses. (a) The prescribed clauses, covering Government consent to subcontracts, for cost-reimbursement type contracts are set out in ASPR 7-203.8 and 7-402.8. Except where definite and final evaluation of the contractor's subcontracting is accomplished during negotiations, the following clause (unless modified in accordance with (b), (c), or (d) below) shall be included in all fixed-price incentive and fixed-price redeterminable contracts where (i) it is anticipated that one or more subcontracts may each exceed $100,000 or such other figure as is to be included in (b) (ii) and (iii) of the following clause in accordance with (c) below; (ii) the work of the prime contractor, or of the plant or division of the prime contractor which will perform the contract, is predominantly for the Government; or (iii) the estimated contract price is $1,000,000 or more. SUBCONTRACTS (a) As used in this clause, the term "subcontract" includes purchase orders. (b) Except as provided in paragraph (d) below, the Contractor shall notify the Contracting Officer reasonably in advance of entering into any subcontract which (i) is on a cost-plus-a-fee, time and material, or labor-hour basis and which would involve an estimated amount in excess of $10,000, including any fee; or (ii) is proposed to exceed $100,000; or (iii) is one of a number of subcontracts under this contract with a single subcontractor for the same or related supplies or services which, in the aggregate, are expected to exceed $100,000. (c) The advance notification required by paragraph (b) above shall include: (i) a description of the supplies or services to be called for by the subcontract; (ii) identification of the proposed subcontractor and an explanation of why and how the proposed subcontractor was selected, including the degree of competition obtained; (iii) the proposed subcontract price, together with the Contractor's cost or price analysis thereof, including current, complete, and correct cost or pricing data, accompanied by a certificate from the subcontractor, in such form as the Contracting Officer may prescribe, to the effect that all cost or pricing data has been considered by the subcontractor in preparing its proposal and that such data is current, and has been provided the Contractor; and (iv) identification of the type of contract proposed to be used. (d) Advance notifications of subcontracts, as required by paragraph (b) above, are not required for any subcontract (i) not on a cost-plus-a-fee, time and material, or labor-hour basis, if the Contracting Officer has in writing approved the Contractor's purchasing system and the subcontract is within the limitations of such approval, or (ii) consented to in writing by the Contracting Officer as a proposed subcontract prior to the execution of this contract. (e) The Contractor shall not, without the prior written consent of the Contracting Officer, enter into any subcontract for which advance notification to the Contracting Officer is required by this clause; provided that, in his discretion, the Contracting Officer may ratify in writing any subcontract and such ratification shall constitute the consent of the Contracting Officer required by this paragraph. (f) No consent by the Contracting Officer to any subcontract or any provisions thereof or approval of the Contractor's purchasing system shall be construed to be a determination of the acceptability of any subcontract price or of any amount paid under any subcontract or to relieve the Contractor of any responsibility for performing this contract, unless such approval or consent specifically provides otherwise. |