Secretary JOHNSON. And we don't feel that we are able to judge the position of the target with sufficient accuracy to run_that_risk. Mr. MORRIS. Why is it you don't feel able to do it? Is it because you don't have a sufficient force to go into it? I mean, you have personnel.

Secretary JOHNSON. No, there is nothing to go into, except esti

mates.

Mr. VINSON. Nothing but estimates.

Secretary JOHNSON. We can estimate, and we do estimate. We estimate in the types of contracts that we make. But the price redetermination contract gives us an opportunity to reach the final results based upon actual operations, which is quite different than estimates. Mr. VINSON. That is a very fine statement the witness has made. And it certainly has powerful weight with me, and I hope it will with the committee when it writes its report. Because the more you talk about incentive contracts with the Army, the stronger they make a good, valid case that it is so uncertain as to target price that it is a dangerous thing to set a target price.

Mr. MORRIS. Mr. Chairman, just as a last question-it will be very short. I don't know whether he would want to comment on it or not; but to have investigation onward go, I would just like to ask the final question, if you want to comment on it.

Is the contract they call incentive a gimmick that somebody invented? The question I would like to know, as investigations onward go, is:

Does the agreed-upon target reflect reasonable prices in the market, that is to say, is there motive, re prices of the subcontractors quoted, to put their estimate higher, but reduce when prime contractors buy, and thus by a process of collusion, create as to savings an illusion? Secretary JOHNSON. Congressman, since we have had no experience whatever with incentive contracts, I can't answer your question.

Mr. VINSON. Well, now, you buy the same articles for the Army that the other two services buy that use inventive contracts, do you not?

Secretary JOHNSON. Mr. Chairman, we do not buy any aircraft. Mr. VINSON. Well, all right. You buy missiles.

Secretary JOHNSON. We do buy missiles.

Mr. VINSON. All right. And they buy missiles. (Secretary Johnson nods.)

Mr. VINSON. And the record shows that they use incentive contracts all through the missile program, as well as aircraft.

Thank you very much, Mr. Secretary and gentlemen, and the other distinguished witness.

Secretary JOHNSON. Mr. Kintisch.

Mr. VINSON. We appreciate very much the aid and assistance you have given the committee.

Now, members of the committee

Secretary JOHNSON. Mr. Chairman, we are very grateful to the committee for the opportunity to have this hearing. And we thank you very much.

Mr. VINSON. Thank you very much, Mr. Secretary.

Now, the next witness is from the Navy Department, Under Secretoy Mr. Bantz.

Mr. Secretary, you have a prepared statement here. You have permission to sit down and read it and explain it as you go along, so the committee can find out what kind of contracts you make.

Mr. RIVERS. Mr. Chairman, on this witness I would be willing to waive the "Rivers requirement."

Mr. VINSON. Thank you for that relief.

Secretary BANTZ. Pardon me?

Mr. VINSON. I am just thanking Mr. Rivers for his relief.

Mr. RIVERS. We already know your distinguished background.

Mr. VINSON. Go right ahead, Mr. Secretary.

Secretary BANTZ. Mr. Chairman and members of the committee, may I introduce the men who are accompanying me this morning? Mr. VINSON. Each one of you have Mr. Bantz' statement?

Secretary BANTZ. Actually, it is Mr. Milne's statement. I did not prepare one. This is Mr. Milne's statement.

The reason Mr. Milne is not here this morning is because he arranged for an oversea trip many months ago and he is out of the country. And I am pinch-hitting for him.

The reason I have these gentlemen this morning with me is that I have been out of the materiel assistant secretaryship for about a year, and I am not quite as familiar with a lot of the involvements as I used to be.

I would like to introduce Admiral Swart, who is the Vice Chief of Naval Material; and Mr. Merritt Steger, who is the Deputy of the Office of General Counsel of the Navy.

To my right is Mr. Gene Jones, who is the Assistant in Charge of Procurement procedures in the Navy.

And next to him is Mr. Bill Moore, who is the executive assistant to Assistant Secretary Milne.

Mr. VINSON. All right.

Now you may proceed, Mr. Secretary.

Secretary BANTZ. Mr. Chairman and members of the committee, bear in mind, again, please, that I am reading Mr. Milne's statement. There are some very significant points in it, and that is why I read it.

As Assistant Secretary of the Navy for Material, I am responsible under the Secretary of the Navy for policy, management, and control of the procurement, production, supply and distribution of material and of the acquisition, construction, management, maintenance, and disposition of real estate and facilities.

I appreciate the opportunity to appear before this committee in response to your invitation to discuss the procurement policies and practices of the Department of the Navy, with particular regard to their effectiveness in achieving reasonable costs, prices, and profits.

The Deputy Assistant Secretary of Defense for Supply and Logistics has informed you of recent actions which have been taken at the Department of Defense level to revise, expand, and strengthen the Armed Services Procurement Regulation (ASPR) with regard to the pricing of defense contracts; in addition, he has described the various types of contractual instruments we utilize, including an indication. of the kinds of procurement situations in which we generally find each to be most appropriate.

I shall address myself, therefore, to the steps the Navy has taken during the past 3 years to implement or complement these changes to the ASPŘ.

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The changes in military procurement policies and procedures have been made during the last few years for two principal reasons: (i) To assure that our procurement methods are kept attuned to the kinds of material or services we are buying, and (ii) to strengthen areas of weakness in our contracting practices as we discover them or as they are brought to our attention.

The rapid advances in science and technology of recent years have changed not only the concepts of warfare but also the character of the items for which we spend most of our dollars. As a consequence, we have been continually faced with the task of keeping our procurement policies and procedures up to date. Our primary goal is still to get the most defense for the funds available. But our responsibility in this regard is especially evident when we realize that for the foreseeable future much of our procurement will continue to be of complex, never-before-made weapons, whose ultimate costs are generally not predictable at the time of initial contracting.

As the proportion of our procurement covering new and complicated weapons has increased, shortcomings in our contracting policies and procedures have from time to time become apparent. In an annual procurement program involving $7.5 billion and over 2 million separate procurement actions, it is impossible to avoid some errors. The important thing is: Are we profiting from our experience? How aggressively are we improving our procurement system?

I would like to discuss briefly a number of changes and improvements the Navy has made in its procurement regulations and procedures that were designed to update and to strengthen our procurement practices, particularly those affecting our pricing techniques.

AUDIT AS A PRICING AID

Postaudits of defense contracts have indicated that in some cases pricing data was accepted from officers or contractors without adequate review by Government procurement personnel.

Two actions have been taken to help prevent this in the future. On October 1, 1959, the ASPR was revised to require a certification from offerors or contractors that all currently available actual or estimated costs or pricing data were considered in preparing price estimates and were made known to the contracting officer for his use in evaluating the estimate. "Currently" of course, is the important word in that paragraph.

A second action which has been taken is to require contracting officers to make greater use of auditors in connection with their price analyses of proposed contract prices.

It is the policy of the Department of the Navy that the "team concept" in negotiated procurement shall be utilized to the maximum practicable extent. Our procurement teams are made up of contracting officers, negotiators, engineers, lawyers, inspectors, and audit personnel. Two types of auditors are made available by the Navy Comptroller's Office. These are the accountants assigned to a purchasing office who provide advice to the negotiators in connection with their analyses of contractors' cost representations; and the field auditors, who provide advisory audit reports for the purpose of obtaining independent evaluations of contractors' price proposals.

That portion of the ASPR which encourages the use of departmental audit services as a pricing aid was mentioned in the Defense Department's presentation. For certain types of contracts the Navy for years has required that audits be performed in connection with their pricing or repricing. In May 1958, the Secretary of the Navy directed the attention of all Navy procuring activities to the need for closer adherence to the ASPR policies covering optimum utilization by contracting officers of available audit services. This was followed by more specific instructions from the Chief of Naval material to the chiefs of our major procuring bureaus. We continued to emphasize this subject in periodic procurement conferences held with our top procurement people, and in October 1959 we issued an even stronger and more comprehensive general procurement directive concerning the utilization of audits as a pricing aid. In addition to reemphasizing the importance of independent audits, it expanded the list of circumstances in which Navy contracting officers are required to utilize audit services unless the contracting officers determine that there are good and sufficient reasons for waiving the use of such audit assistance. Such reasons might be the availability of adequate current information from other sources or the small dollar amount of the proposal compared to the time and expense of securing an advisory audit report.

To accommodate the increased workload resulting from our expanded use of audit services as a pricing aid, our audit staff is being increased significantly. Taking as a base the third quarter of fiscal year 1959, when we used 16,000 direct man-hours in the audit review of initial pricing proposals, we had a 100-percent increase in manhours used during the second quarter of fiscal year 1960. By June we expect to increase these audit man-hours by another 100 percent over fiscal year 1959, or a total increase of 200 percent. Still further increases have been budgeted for in fiscal year 1961. In addition, for example, in the second quarter of fiscal year 1960 we used 208,000 manhours to audit actual contract costs.

SUBCONTRACTING

A second area in our contract pricing which postaudits of defense contracts indicated could be strengthened was the important subcontracting field. As a result of this disclosure, the ASPR coverage of subcontracting procedures have been greatly expanded and strengthened. Mr. LeBoutillier has outlined the policies and procedures now provided in the ASPR for the evaluation, review and approval of contractors' "make or buy" programs, purchasing systems, and proposed subcontracts.

I would now like to discuss certain additional action which the Navy has taken in the specific area of contractor purchased-material costs.

One of the major cost elements of a proposed contract price is the cost to a prospective prime contractor of his purchased material. "Purchased material," as used here, includes raw materials, purchased parts, components, and end items to be delivered under a contract but not fabricated or produced by the prime contractor. So defined, purchased material generally comprises about 50 percent of a proposed

price frequently even more. Close scrutiny and careful evaluation of this segment of proposed contract prices are therefore of great importance in obtaining close overall pricing.

For several years the Navy has stressed the importance of a thorough evaluation of the costs of purchased material. For example, in a letter dated May 26, 1958, the Chief of Naval Material directed the attention of the chiefs of all the majors producing bureaus to the need for increased emphasis in evaluating such costs. In April 1959, the Navy issued a procurement directive providing for uniform implementation of that portion of the ASPR relating to the review required of proposed contractors' subcontracting programs. It included guidance for analyzing the costs of purchased material included as an element of proposed prices. This procurement directive also reemphasized the importance to negotiators and contracting officers of utilizing, to the maximum practicable extent, the services of field inspectors and auditors in the development and evaluation of information on purchased material.

PROCUREMENT REVIEW

It is my responsibility, and that of the Chief of Naval Material, not only to promulgate procurement policies but also to insure that these policies are properly carried out. It is our policy to procure what we need from responsible sources at fair and reasonable prices calculated to result in the lowest ultimate cost to the Government. A variety of controls have been established to insure that this policy is adhered to. These include our procurement regulations, the established criteria which must be met by persons or firms with whom contracting officers may do business, the restrictions which have been placed upon the use of the various types of contracts in different pricing situations, and finally, the reviews which we conduct with respect both to individual proposed contracts and to contracting operations in general. It is of this last control, our procurement reviews, that I now wish to speak.

Since early in World War II, one of the principal means of controlling our procurement has been a requirement that purchasing activities obtain approval from the Office of Naval Material of all proposed negotiated procurements above certain specified values. In addition, certain types of proposed contracts must be approved by the Office of Naval Material regardless of dollar amount. These include letter contracts, contracts containing special price revision clauses, and contracts providing for retroactive price redeterminination after completion. These approvals, known as "business clearance," are required so that our procurement analysis can carefully and thoroughly analyze the placement, pricing, procedural, and business aspects of proposed procurements. This in turn helps to insure that these procurements are effected under contracts which further the interests of the Government, and at the same time are fair and reasonable both to the Government and to the contractor.

In order to further strengthen the business clearance procedure, in August of last year we provided a requirement that our purchasing activities obtain approval of their proposed procurement plans for procurements of $300,000 or more prior to the commencement of negotiations with prospective contractors. This review is in addition to the