Defense Contractor Restructuring:

DOD Risks Forfeiting Savings on Fixed-Price Contracts

NSIAD-98-162: Published: Jul 17, 1998. Publicly Released: Jul 17, 1998.

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Pursuant to a legislative requirement, GAO provided information related to defense contractor restructuring, focusing on: (1) the Department of Defense's (DOD) use of contract price adjustment clauses, also called reopener clauses; (2) DOD's limited use of reopener clauses for fixed-price contracts; and (3) the potential benefits of using reopener clauses in future business combinations.

GAO noted that: (1) the time it takes for restructuring savings to be included in DOD contract prices can be considerable; (2) for the contractor business segments GAO examined, it took an average of about 21 months from the announcement of the acquisition or merger to the time that contractors reflect the restructuring savings in reduced overhead rates; (3) during this period, DOD awarded over 600 fixed-price contracts or contract modifications worth about $3.9 billion; (4) however, despite repeated recommendations from the Defense Contract Audit Agency and Defense Contract Management Command, contracting officers rarely included reopener clauses for savings in fixed-price contracts awarded during this period; (5) with reopener clauses, contract prices that were negotiated before savings and were included in overhead rates used to price DOD contracts could be adjusted downward once savings were determined, thereby reducing contract costs; (6) without reopener clauses, DOD cannot recoup its share of restructuring savings; (7) DOD contracting officers cited various reasons for not using reopener clauses; (8) these reasons included the desire to have contracts with no loose ends and concerns that the use of the clauses would cause an excessive administrative burden in renegotiating contract price adjustments; (9) another factor that appeared to influence the use of reopener clauses is the level of contractor resistance; (10) also, one contractor commented that such a clause was not required by current DOD regulations; (11) the use of reopener clauses can result in substantial savings to DOD; (12) in one case in which a reopener clause was exercised, the contract price was reduced by almost 4 percent, or about $1.8 million; and (13) unless DOD takes steps to include reopener clauses in its fixed-price contracts with companies forming business combinations, it risks losing further substantial savings resulting from contractor restructuring.

Recommendation for Executive Action

  1. Status: Closed - Implemented

    Comments: On April 16, 1999 a final DFARS rule on restructuring savings repricing clauses was published in the Federal Register. This rule, effective as of its publication date, directs contracting officers to consider including repricing clauses in contracts negotiated during the period between the time a business combination is announced and the time the contractor's forward pricing rates are adjusted to reflect the impact of restructuring. The rule further states that such clauses, if included, must provide for a downward-only price adjustment to ensure that DOD receives its appropriate share of restructuring net savings. This is progress, but is not fully responsive to GAO's recommendation that repricing clauses be required, rather than just considered.

    Recommendation: The Secretary of Defense should revise the Defense Federal Acquisition Regulation Supplement (DFARS) provision on restructuring costs to require that contracting officers: (1) include reopener clauses for savings in noncompetitive fixed-price contracts negotiated before the benefits of restructuring savings are reflected in reduced overhead rates used to price contracts; or (2) provide a written justification in the negotiation records as to why a reopener clause is not needed.

    Agency Affected: Department of Defense

 

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