Defense Continues To Subsidize Sales of Secondary Items to Foreign Governments Because of Poor Pricing Policies

AFMD-81-105: Published: Oct 5, 1981. Publicly Released: Oct 13, 1981.

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GAO evaluated recent Department of Defense (DOD) actions to improve its financial management of the foreign military sales program and to reduce its budget by eliminating subsidies to the program. GAO focused on the actions taken by DOD to revise and implement the policies, procedures, and accounting systems used to price sales of secondary items to foreign customers. GAO also discussed whether prices billed to foreign customers for secondary items were adequate to replace the items in DOD inventories and thus avoided subsidization of the program.

DOD continues to make large subsidies to the foreign military sales program because prices charged for secondary items sold from DOD inventories are not sufficient to replace the items. Although GAO reported this situation 3 years ago, DOD has not taken adequate corrective actions. The foreign military sales program was subsidized through DOD appropriations by over $8 million at the four inventory control points visited by GAO. Underbillings occurred primarily because compound inflation factors were not applied and the rate of inflation used to estimate the replacement costs was unrealistically low. DOD procedures require only a single year's inflation rate to be added to the inventory price to recover estimated replacement cost. Subsidies are also occurring because foreign customers are not charged an equitable share of normal inventory losses. GAO found that foreign governments who had not established long-term contracts for supply support were participating in and benefiting from the DOD logistics system and, thus, should bear the expenses of inventory storage. The Arms Export Control Act requires that, if items sold from inventory by DOD are intended to be replaced, the prices charged to foreign customers must cover the replacement costs of those items. The DOD establishment of a quality assurance unit to monitor foreign sales pricing should adequately detect and resolve the type of pricing problems described. Collection attempts to recover underbillings should be initiated as soon as undercharges are discovered.

Matter for Congressional Consideration

  1. Status: Closed - Not Implemented

    Comments: DOD is taking other policy action that it feels will correct the problem.

    Matter: Congress should amend the Arms Export Control Act to require that all sales from DOD inventories reflect the cost of normal inventory losses.

Recommendations for Executive Action

  1. Status: Closed - Implemented

    Comments: When we confirm what actions the agency has taken in response to this recommendation, we will provide updated information.

    Recommendation: The Secretary of Defense should use the quality assurance unit recently established at the Security Assistance Accounting Center to ensure that DOD components adequately and uniformly implement the revised estimation procedures.

    Agency Affected: Department of Defense

  2. Status: Closed - Not Implemented

    Comments: Because DOD generally disagreed with the findings and conclusions, no past undercharges will be recovered.

    Recommendation: The Secretary of Defense should direct the military services to make every reasonable effort to recover from foreign governments the past undercharges in sales of secondary items.

    Agency Affected: Department of Defense

  3. Status: Closed - Implemented

    Comments: When we confirm what actions the agency has taken in response to this recommendation, we will provide updated information.

    Recommendation: The Secretary of Defense should prescribe a more realistic inflation index.

    Agency Affected: Department of Defense

  4. Status: Closed - Not Implemented

    Comments: DOD believes the inclusion of a more realistic inflation factor will solve the problem.

    Recommendation: The Secretary of Defense should instruct DOD components to use compound inflation factors when estimating replacement cost.

    Agency Affected: Department of Defense

 

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