This is the accessible text file for GAO report number GAO-05-368 
entitled 'Currency Paper Procurement: Additional Analysis Would Help 
Determine Whether a Second Supplier Is Needed' which was released on 
April 29, 2005.

This text file was formatted by the U.S. Government Accountability 
Office (GAO) to be accessible to users with visual impairments, as part 
of a longer term project to improve GAO products' accessibility. Every 
attempt has been made to maintain the structural and data integrity of 
the original printed product. Accessibility features, such as text 
descriptions of tables, consecutively numbered footnotes placed at the 
end of the file, and the text of agency comment letters, are provided 
but may not exactly duplicate the presentation or format of the printed 
version. The portable document format (PDF) file is an exact electronic 
replica of the printed version. We welcome your feedback. Please E-mail 
your comments regarding the contents or accessibility features of this 
document to Webmaster@gao.gov.

This is a work of the U.S. government and is not subject to copyright 
protection in the United States. It may be reproduced and distributed 
in its entirety without further permission from GAO. Because this work 
may contain copyrighted images or other material, permission from the 
copyright holder may be necessary if you wish to reproduce this 
material separately.

Report to Congressional Requesters:

April 2005:

Currency Paper Procurement:

Additional Analysis Would Help Determine Whether a Second Supplier Is 
Needed:

[Hyperlink, http://www.gao.gov/cgi-bin/getrpt?GAO-05-368]

GAO Highlights:

Highlights of GAO-05-368, a report to congressional requesters.

Why GAO Did This Study:

For over 125 years, the Bureau of Engraving and Printing (BEP), within 
the Department of the Treasury, has relied on a single contractor to 
supply the paper for U.S. currency. Such a long-term contracting 
relationship could contribute to higher costs and other risks. Another 
federal agency that relied on a single contractor, the U.S. Mint, 
decided to obtain a second supplier for coin metal. 

In solicitations for currency paper contracts in 1999 and 2003, BEP 
took steps to address barriers to competition that GAO had identified 
in 1998 through a survey of paper manufacturers. This report updates 
GAOís 1998 report using data from a second survey. It addresses (1) the 
changes BEP made to encourage competition and the results of its 
efforts, (2) the steps BEP took to ensure that it paid fair and 
reasonable prices, and (3) the analysis BEP has done of the advantages 
and disadvantages of obtaining a second supplier.

What GAO Found:

To encourage competition for the 1999 and 2003 contracts, BEP modified 
its solicitations to, among other things, indicate that it would 
provide bidders with the security thread that is inserted into most 
currency paper and extend the time for initial deliveries. For the 1999 
contract, one additional supplier submitted an initial proposal but 
later withdrew it, and for the 2003 contract, only the current supplier 
submitted a proposal. This company remains the sole supplier of U.S. 
currency paper. According to paper manufacturers, several barriers to 
competition remain, including the high capital costs of and 
technological requirements for producing currency paper. BEP said it 
has not addressed these barriers because the requirements are either 
essential to preserve the security of currency paper or they are 
outside BEPís control (e.g., anticounterfeiting features are 
recommended by a federal committee). While some of the remaining 
barriers are outside BEPís control, BEPís outreach to paper 
manufacturers has been limited. For example, BEP does not meet 
regularly with them, as the Departments of Defense and Homeland 
Security meet with potential suppliers of their procurements, to 
identify additional steps that could be taken to encourage competition. 
To the extent that BEP has reached out to paper manufacturers, it has 
generally done so in conjunction with other BEP procurements. 

For the contracts awarded in 1999 and 2003, BEP took several steps, 
consistent with the Federal Acquisition Regulationís requirements, to 
determine that the prices it paid under these contracts were fair and 
reasonable. For the 1999 contract, it used price analysis (a comparison 
of two proposals) to determine that the two proposals it initially 
received were fair and reasonable. This analysis was sufficient because 
BEP had determined that adequate price competition existed. For the 
2003 contract, BEP performed several cost analysis activities to ensure 
that the final agreed-to price was fair and reasonable, since the 
current supplier was the only company that submitted a proposal. For 
example, BEP obtained certified cost and pricing data from the current 
supplier, requested an audit review of the current supplierís price 
proposal, and established a technical analysis team to examine steps in 
the current supplierís manufacturing process that affect price. BEP 
also arranged for postaward audits of the current supplier. 

BEP has not analyzed the advantages and disadvantages of obtaining a 
second supplier of currency paper since 1996. At that time, it 
concluded that the costs would outweigh the benefits, but it did not 
analyze the long-term effects. As a result, it does not know how a 
second supplier would affect the costs, quality, security, and supply 
of currency paper over time. Analyzing the advantages and disadvantages 
of obtaining a second supplier would help BEP determine the need for 
one.

What GAO Recommends:

GAO recommends that the Secretary of the Treasury direct the Director 
of BEP to (1) increase outreach to paper manufacturers before issuing 
solicitations and (2) assess the need for a second supplier of currency 
paper and if a second supplier is needed, take the necessary action to 
obtain one. BEP, the Mint, and the Federal Reserve Board generally 
agreed with the reportís findings and/or recommendations.

[Hyperlink, http://www.gao.gov/cgi-bin/getrpt?GAO-05-368]

To view the full product, including the scope and methodology, click on 
the link above. For more information, contact Katherine A. Siggerud at 
(202) 512-2834 or [Hyperlink, siggerud@gao.gov]

[End of Section]

Contents:

Letter:

Results in Brief:

Background:

BEP Has Modified Its Solicitations for Currency Paper to Address Some 
Barriers:

BEP Took Several Steps, Consistent with the FAR, to Determine Fair and 
Reasonable Prices for Currency Paper:

BEP Has Not Recently Analyzed Advantages and Disadvantages of Obtaining 
a Second Supplier:

Conclusions:

Recommendations for Executive Action:

Agency Comments and Our Evaluation:

Appendixes:

Appendix I: Summary of GAO's Previous Recommendations and Bureau of 
Engraving and Printing's Actions:

Appendix II: Objectives, Scope and Methodology:

Appendix III: Comments from the Bureau of Engraving and Printing:

Appendix IV: GAO Contacts and Staff Acknowledgments:

GAO Contacts:

Staff Acknowledgments:

Figure:

Figure 1: Estimated and Actual Currency Paper Orders, Fiscal Years 1999 
through 2004:

Abbreviations:

BEP: Bureau of Engraving and Printing:

DCAA: Defense Contract Audit Agency:

DOD: Department of Defense:

FAR: Federal Acquisition Regulation:

Letter April 29, 2005:

The Honorable Carolyn B. Maloney:
Ranking Minority Member:
Subcommittee on Domestic and International Monetary Policy, Trade, and 
Technology:
Committee on Financial Services:
House of Representatives:

The Honorable Peter T. King:
House of Representatives:

For over 125 years, the U.S. government has relied on one contractor to 
supply virtually all of the paper for U.S. currency. The Bureau of 
Engraving and Printing (BEP), which is responsible for printing U.S. 
currency, is currently under a 4-year contract with this supplier and, 
according to BEP data, is paying about $115 million a year for currency 
paper. Although BEP has historically received a steady, timely supply 
of paper that meets its requirements from its current supplier, having 
one supplier for currency paper raises a number of concerns. Among 
these concerns are (1) the lack of competition for the currency paper 
contract, (2) the fairness and reasonableness of price, and (3) the 
adequacy of the currency paper supply in the event of an attack or 
other disruption of the currency supply.

These concerns, combined with the importance of U.S. currency to 
domestic and international commerce, have led to reviews of this unique 
situation. For example, in a 1996 report, the Department of the 
Treasury and BEP concluded that competition was not immediately 
feasible because the current supplier was the only domestic source that 
could supply currency paper that met BEP's requirements. At the request 
of Congress, in 1998 we also completed a review and reported that the 
optimum situation for the procurement of currency paper would include 
an active, competitive market with several responsible 
bidders.[Footnote 1] However, this situation did not exist because, 
according to paper manufacturers we surveyed, there were several 
barriers to competition. These barriers included the large initial 
capital investment required to produce currency paper and a legislative 
provision generally precluding foreign-owned companies from competing 
for the contract. We also reported that BEP could not determine a "fair 
and reasonable" price for some of its paper contracts--a requirement in 
negotiating a federal contract that involves the judgment of the 
contracting officer based on various defined techniques and established 
procedures for analyzing proposed prices. To help BEP improve its 
contract oversight and increase competition, we made several 
recommendations, most of which BEP has implemented. (See app. I.)

In 1998 we reported that a number of BEP's actions to encourage 
competition were too new for us to assess their impact. Since that 
time, BEP has entered into two additional contracts, in 1999 and in 
2003, and has taken further steps to encourage competition. BEP is now 
scheduled to award another currency paper contract in the fall of 2006. 
Moreover, the U.S. Mint (the Mint), which is responsible for producing 
coins, has now had over a decade of experience with having a second 
supplier for coin metal after having had a single supplier for decades. 
Given these developments, you asked us to update our 1998 report. To do 
so, we determined:

* the changes BEP made to encourage competition for the 1999 and 2003 
currency paper contracts and the results of its efforts,

* the steps BEP took to determine that the prices it paid for currency 
paper under these contracts were fair and reasonable, and:

* the extent to which BEP has analyzed the advantages and disadvantages 
of obtaining a second supplier for currency paper.

To determine the changes BEP made to encourage competition for the 1999 
and 2003 currency paper contracts and the results of its efforts, we 
reviewed the changes that BEP made to its solicitations and contracts. 
We also conducted a survey of domestic and foreign paper manufacturers, 
using a questionnaire similar to the one we used for our 1998 report. 
Of the 15 manufacturers we identified as having the potential to 
compete for the currency paper contract, 14 responded to our survey, 
and 8 of these said they were interested in providing currency paper to 
BEP. The remaining 6 manufacturers told us that they were not 
interested in competing for the currency paper contract. We reviewed 
economic literature to identify barriers to competition for the 
currency paper market, and we reviewed applicable procurement laws and 
regulations to identify requirements affecting the procurement of 
currency paper. Among these are the Conte Amendment, a statute that 
requires that paper for U.S. currency be manufactured in the United 
States, and another statute that limits the procurement of distinctive 
currency paper to 4-year contracts. To determine the steps BEP took to 
determine that the prices it paid for currency paper under these 
contracts were fair and reasonable, we reviewed the Federal Acquisition 
Regulation (FAR) and compared its requirements with the steps BEP took. 
Finally, to determine the potential advantages and disadvantages of 
obtaining a second supplier for currency paper, we reviewed economic 
literature as well as interviewed former and current officials from BEP 
and the U.S. Mint about their efforts to develop a second supplier. We 
performed our work in Washington, D.C., from August 2004 through April 
2005 in accordance with generally accepted government auditing 
standards. Details of our objectives, scope, and methodology are in 
appendix II.

Results in Brief:

To encourage competition for the 1999 and 2003 contracts, BEP made a 
number of changes to its contract solicitations to address some of the 
barriers that paper manufacturers we surveyed had identified. For 
example, BEP modified the solicitations to indicate that it would 
provide the security thread that is inserted into most currency paper 
to other successful bidders as government-furnished property rather 
than requiring them to obtain the thread themselves. In addition, BEP 
increased the mobilization period--the time between the contract award 
and the start of deliveries to BEP--to 24 months. This period had 
previously been limited to 60 days. In response to the solicitation for 
the 1999 contract, one additional supplier submitted an initial 
proposal, but later withdrew it, and for the 2003 contract, only the 
current supplier submitted a proposal. This company remains the sole 
supplier of U.S. currency paper today. Although BEP addressed a number 
of barriers, several other barriers, such as the high costs and the 
technological difficulties of producing currency paper, still exist, 
according to paper manufacturers we surveyed for this report. According 
to BEP, it has not addressed these barriers because they are due to 
requirements that are outside its control or they are essential to 
preserve the quality and security of currency paper. For example, the 
anticounterfeiting features in currency paper are recommended by the 
Advanced Counterfeit Deterrence Steering Committee, which consists of 
members from BEP, the U.S. Secret Service, the Federal Reserve System, 
and the Department of the Treasury. We agree with BEP that some of the 
remaining barriers are outside its control; however, we found that 
BEP's outreach to paper manufacturers is limited and is generally done 
in conjunction with its other procurements. For example, BEP does not 
conduct industry briefings for potential suppliers. We found that the 
Departments of Defense and Homeland Security hold industry briefings as 
frequently as possible to provide potential contractors with 
information and an opportunity to comment on future solicitations and 
procurements. Before BEP issues solicitations for currency paper 
contracts in the future, we recommend that the Secretary of the 
Treasury direct the Director of BEP to increase outreach activities 
with paper manufacturers to allow them to provide their views on the 
barriers to competition, suggest what steps BEP should take to address 
these barriers, and comment on future solicitations.

For the contracts awarded in 1999 and 2003, BEP took several steps 
consistent with the FAR's requirements to determine that the prices it 
paid under these contracts were fair and reasonable. Since BEP 
initially received two proposals for the 1999 contract, it used price 
analysis--a comparison of the two proposals--to determine that the 
prices were fair and reasonable. This analysis was sufficient because 
BEP determined that adequate price competition existed. For the 2003 
contract, BEP performed several cost analysis activities to ensure that 
the final agreed-to price was fair and reasonable, since the current 
supplier was the only company that submitted a proposal. For example, 
BEP obtained certified cost and pricing data from the current supplier, 
requested an audit review of the current supplier's price proposal, and 
established a technical analysis team to examine steps in the current 
supplier's manufacturing process that affect price. BEP also arranged 
for a postaward audit of the current supplier, as we recommended in 
1998, to ensure that the price negotiated for the contract was based on 
adequate data. In 1998, we reported that BEP had engaged in two 
procurement practices that could contribute to a higher-than-necessary 
price for currency paper. For example, BEP did not obtain royalty-free 
data rights to, or fund the development of, the security thread used in 
currency paper. Consequently, under the current 4-year contract, BEP is 
paying about $650,000 in royalties related to obtaining the security 
thread. Although royalty payments are an allowable expense under FAR, 
according to the current supplier, these payments will end in December 
2006. In addition, to prevent this situation from recurring, BEP plans 
to purchase royalty-free data rights to new anticounterfeiting features 
that it obtains in the future from any sources for a cost to be 
determined. Such an arrangement could enable BEP to use the technology 
at its discretion, including allowing currency paper contractors to use 
the technology without having to pay royalty fees.

Although BEP has stated that it favors competition for currency paper 
and has taken some steps to encourage competition, it has not recently 
analyzed the advantages and disadvantages of obtaining a second 
supplier, including the impact on the cost, security, quality, and 
adequacy of the supply of currency paper. In its August 1996 currency 
paper report, BEP concluded that competition was not immediately 
feasible because the current supplier was the only domestic source that 
could furnish currency paper that met BEP's requirements. Moreover, BEP 
estimated that it would pay an additional $21 million to $37 million 
per year for currency paper if it purchased the paper from more than 
one supplier, primarily because the new supplier would have high 
capital costs. However, BEP's 1996 report did not analyze the long-term 
advantages and disadvantages of obtaining a second supplier. Such an 
analysis would help BEP determine if obtaining a second supplier would 
be cost effective over the long term, decide whether the benefits of 
obtaining a second supplier outweigh the potential security and quality 
concerns associated with a second supplier, and ensure that BEP can 
maintain an adequate supply of currency paper. We are recommending that 
the Secretary of the Treasury direct the Director of BEP to determine 
if there is a need to obtain a second supplier for currency paper by 
preparing an analysis of the advantages and disadvantages of a second 
supplier, including the impact on the cost, security, quality, and 
adequacy of the supply of currency paper. If the analysis determines 
that there is a need to obtain a second supplier, the Secretary should 
then determine what steps are necessary to obtain a second supplier for 
currency paper. We provided BEP, the Mint, and the Federal Reserve 
Board with draft copies of this report for their review and comment. 
They agreed with the draft report's findings and provided some 
technical comments which we incorporated where appropriate. BEP also 
agreed with our recommendations and described its plans to implement 
them. See appendix III for BEP's comments.

Background:

BEP, a bureau of the Department of the Treasury, buys currency paper 
from a private company and prints the nation's currency at production 
facilities in Washington, D.C., and Fort Worth, Texas. According to BEP 
data, the currency paper contract amounts to about $115 million per 
year. Currency paper is a highly specialized product that includes 
cotton and linen fibers as well as anticounterfeiting features to 
enhance the quality and security of the paper. Several agencies affect 
the production of currency paper. The Department of the Treasury 
oversees BEP's production of currency, including its procurement of 
currency paper. The U.S. Secret Service, now within the Department of 
Homeland Security, is responsible for anticounterfeiting activities and 
works with BEP in assessing the security of BEP's money production 
facilities and currency redesign. The Federal Reserve Board sets 
monetary policy for the nation, obtains new currency from BEP, and 
issues the new currency to the public through depository institutions. 
The Advanced Counterfeit Deterrence Steering Committee, which includes 
members from BEP, the Department of the Treasury, the U.S. Secret 
Service, and the Federal Reserve System recommends to the Secretary of 
the Treasury the anticounterfeiting features to be placed in U.S. 
currency. If the Secretary of the Treasury accepts these 
recommendations, they become part of the specifications or requirements 
for the currency paper.

The procurement of currency paper is subject to an appropriations 
limitation, called the Conte Amendment, enacted in December 
1987.[Footnote 2] In effect, the Conte Amendment requires that 
distinctive paper for U.S. currency and passports be manufactured in 
the United States. The amendment further prohibits the purchase of 
currency and passport paper from a supplier owned or controlled by a 
foreign entity unless the Secretary of the Treasury determines that no 
domestic source exists. The procurement of currency paper is also 
subject to another statutory limitation that prohibits the Secretary of 
the Treasury from entering into a contract in excess of 4 years for 
manufacturing distinctive currency paper.[Footnote 3]

BEP Has Modified Its Solicitations for Currency Paper to Address Some 
Barriers:

BEP changed the solicitations for the 1999 and 2003 currency paper 
contracts and intends to include these changes in the solicitation for 
the next contract, which will be awarded in 2006. Some of the changes 
addressed barriers we reported in 1998. These changes included the 
following:

* Switching to a 4-year contract. Previously, BEP negotiated a 1-year 
contract with three 1-year options, which meant that manufacturers were 
not assured that they would receive the contract from one year to the 
next. According to BEP officials, a 4-year contract creates less risk 
for manufacturers because the contractor is almost guaranteed to 
receive the contract for 4 years when the government no longer has the 
option to renew the contract each year.

* Allowing multiple awards. Previously, BEP required any bidder to bid 
on the entire currency paper contract. BEP divided its total currency 
paper requirements into several different lots and allowed companies to 
select the parts of the solicitation they would bid on. For example, a 
company could choose to bid only on the paper for the $1 and $2 bills. 
Thus, the contract could be awarded to two companies. Potential 
suppliers told BEP that, in order to begin production, they would need 
a long-term commitment for at least 40 percent of the contract.

* Allowing a 24-month mobilization period. Previously, the mobilization 
period--the time between the contract award date and the date for 
starting deliveries to BEP--was no more than 60 days. In 1998 some 
paper manufacturers told us that the start-up period historically 
allowed by BEP was not long enough for companies that are not currently 
manufacturing currency paper.

* Allowing representative rather than identical samples. Previously, 
companies had to produce samples during the bidding process using the 
same machines they would use to produce currency paper if they received 
the contract. BEP required these samples, which are called identical 
samples, so that it could determine whether the companies were capable 
of manufacturing paper that met its specifications. BEP now allows for 
representative samples during the bidding process. Representative 
samples are manufactured on equipment that is similar to what the 
company would use if it were awarded the contract. Allowing 
representative samples enables companies that do not currently own the 
required equipment to produce paper samples on another company's 
equipment and avoid purchasing costly equipment until they have been 
awarded the contract. Domestic paper companies, for example, could use 
the equipment of European paper companies to produce representative 
samples and then acquire the appropriate equipment if they were awarded 
the contract.

* Agreeing to consider innovative financing and acquisition 
arrangements. Previously, solicitations did not provide any help to 
companies that would have had to make a considerable financial 
investment to purchase the equipment needed to compete for the 
contract. To facilitate such an investment, the 1999 and 2003 
solicitations stated that BEP would "consider innovative financing and 
acquisition arrangements" proposed by a potential supplier, but the 
solicitations did not specify what these arrangements might be. BEP 
officials told us that these arrangements could include having the 
government pay for some capital equipment if the contractor repaid the 
government at the end of the contract. However, two of eight paper 
manufacturers who said they were interested in competing for the 
contract told us that the lack of financial assistance continues to 
make it difficult for them to compete for the contract.

* Furnishing the security thread. Previously, BEP expected potential 
paper manufacturers to obtain the security thread used in currency 
paper on their own, which some paper manufacturers cited as a barrier 
because the sole manufacturer of the security thread is a subsidiary of 
the current supplier. As a result, potential manufacturers would have 
had to purchase the thread and make royalty payments to that company. 
BEP modified the solicitations for the 1999 and 2003 contracts to 
indicate that it would provide the security thread that is inserted 
into most currency paper to other successful bidders as government-
furnished property rather than requiring them to obtain the thread 
themselves.

BEP awarded the first contracts with these changes in fiscal years 1999 
and 2003. According to documents in BEP's contract files, one company 
in addition to the current supplier submitted a proposal for the 1999 
contract, but ultimately withdrew because, according to this company, 
it was unwilling to continue to expend the resources required to 
produce fully compliant paper samples without a contract. Four other 
companies expressed interest in the 1999 contract, but did not submit 
proposals. One company said it did not submit a proposal because it 
determined that the estimated capital expenditures exceeded any 
potential profit that might be realized over the 4-year contract 
period. Another company that had expressed interest in the contract 
said it did not submit a proposal because it was unable to obtain a 
commitment for the large capital investment required. Additionally, the 
company said the contract's provision for ordering a wide range of 
paper quantities made it difficult to calculate a return on investment. 
A third interested company did not submit a proposal because of 
durability requirements for the currency paper. A fourth interested 
company did not give a reason for not submitting a proposal. For the 
2003 contract, the current supplier was the only company to submit a 
proposal. Three paper companies other than the current supplier asked 
to receive the solicitation, but these companies took no further 
action. The next solicitation for the currency paper contract is 
expected to be issued in the fall of 2005, and the contract is 
scheduled to be awarded in 2006. This solicitation will include all the 
changes that BEP previously made, according to BEP officials.

BEP Has Not Addressed All Barriers:

Despite the changes BEP made to the contract solicitation, paper 
manufacturers we surveyed in 2004 told us that significant barriers to 
competition remain.[Footnote 4] Specifically, the eight paper 
manufacturers we surveyed who said they would be interested in 
providing currency paper to BEP told us that the following barriers, 
which we reported in 1998, still exist:

* Security requirements for the manufacturing facility. Three of the 
eight manufacturers told us that implementing these security 
requirements--which include ensuring that all waste is accounted for, 
controlling access to sensitive production areas in the paper mill, and 
erecting physical barriers around the mill--make it difficult for them 
to compete for the currency paper contract because of the high costs to 
upgrade their facilities.

* Technology required to incorporate anticounterfeiting features. Three 
of the eight manufacturers told us that the cost of the equipment and 
the technical expertise necessary to insert the security thread into 
currency paper make it difficult for them to compete for the currency 
paper contract.

* Requirement for U.S. ownership. Three manufacturers told us that this 
legislative restriction, known as the Conte Amendment, continues to be 
a barrier because it mandates that the company that produces U.S. 
currency paper be domestically owned--that is, at least 90 percent 
U.S.-owned, according to the Department of the Treasury.

* Lack of financial assistance for capital investment. Although BEP has 
indicated that it will consider innovative financing proposals from a 
potential supplier, two of the eight manufacturers told us that the 
lack of financial assistance for capital investment continues to make 
it difficult for them to compete for the contract. According to BEP, 
under the FAR, it can make advance payments to manufacturers for 
capital investment only if the manufacturer pays the money back to BEP, 
with interest, during the life of the contract.

* Length of contract. One of the eight manufacturers, who said it plans 
to submit a proposal for the 2006 contract, told us that the length of 
the contract, which is restricted by statute to 4 years, makes it 
difficult to compete for the currency paper contract. This manufacturer 
said that, to make a profit during this contract, it would need a 5-
year contract and at least 40 percent of the contract.

According to BEP, these five barriers continue to exist because they 
either are outside of BEP's control or are essential components of 
producing currency paper. For example, the restriction against foreign 
ownership and the length of the currency paper contract are both 
legislative provisions that would require congressional action to 
change. In addition, U.S. Secret Service officials told us that there 
are tremendous benefits to producing U.S. currency paper inside the 
United States because, according to the Secret Service, it does not 
have the authority to oversee the security of personnel or plant 
facilities in a foreign country. The Secret Service further stated 
that, although it may be able to make agreements allowing for such 
oversight, it can be difficult to take quick, decisive action in a 
foreign country. The Secret Service also pointed out that the logistics 
of moving currency paper across great distances and borders would pose 
additional security risks. However, Secret Service officials indicated 
that, in their view, foreign ownership would not pose a security 
problem as long as the paper was produced in the United States and the 
employees who produced the paper had undergone background checks. BEP 
officials also believe that providing financial assistance for capital 
investment is outside of their control because, as previously 
mentioned, under the FAR, BEP can make advance payments to 
manufacturers for capital investment only if the manufacturer pays the 
money back to BEP, with interest, during the life of the contract.

Two of the barriers to competition that paper manufacturers identified 
are within BEP's control, but these barriers--the security requirements 
for the manufacturing facility and the technology required to insert 
anticounterfeiting features, such as the security thread--remain 
because they are essential for currency paper. Officials from BEP, the 
Federal Reserve Board, and the Secret Service noted that currency paper 
is a valuable asset that must be guarded and protected from 
counterfeiting. Potential security features for U.S. currency are 
reviewed by the Advanced Counterfeit Deterrence Steering Committee, 
which is made up of representatives from BEP, the Department of the 
Treasury, the Federal Reserve System, and the U.S. Secret Service. This 
committee recommends which security features should be in U.S. 
currency, and the Secretary of the Treasury decides which features to 
incorporate. These security features require that manufacturers of 
currency paper use advanced technology to insert anticounterfeiting 
features into paper. Furthermore, to ensure the security of the paper 
and of the anticounterfeiting features, manufacturing facilities must 
have greater physical security than paper mills generally.

We agree with BEP that some of the remaining barriers are outside its 
control; however, we found that BEP's outreach to paper manufacturers 
is limited and is generally done in conjunction with its other 
procurements. For example, BEP does not conduct industry briefings for 
its potential suppliers. We found that the Departments of Defense and 
Homeland Security hold industry briefings as frequently as possible to 
provide potential contractors with information and an opportunity to 
comment on future solicitations and procurements. BEP's outreach to 
potential paper manufacturers generally consists of publishing its 
draft currency paper solicitation in Federal Business Opportunities and 
waiting for the paper manufacturers to contact them.[Footnote 5] One 
paper manufacturer we surveyed commented that it was unaware of the 
solicitation for the 2003 contract. In commenting on a draft of this 
report, BEP stated that, in addition to the outreach efforts we 
describe, it is pursuing other outreach efforts. For example, BEP 
stated that it attends fairs and banknote conferences where potential 
suppliers are consulted to determine if their company has an interest 
in contracting with BEP for various currency materials, primarily 
currency paper, inks, and counterfeit deterrent features.

BEP Took Several Steps, Consistent with the FAR, to Determine Fair and 
Reasonable Prices for Currency Paper:

The FAR states that an agency's contracting officer is responsible for 
evaluating the reasonableness of the offered prices to ensure that the 
final price is fair and reasonable. The FAR does not define "fair and 
reasonable," but establishes various techniques and procedures for a 
contracting officer to use in evaluating prices. Furthermore, the 
contract pricing reference guidance available from the Department of 
Defense (DOD) discusses the application of these requirements. For a 
price to be fair to the buyer, it must be in line with either the fair 
market value of the product or the total allowable cost of providing 
the product that would be incurred by a well-managed, responsible firm 
using reasonably efficient and economical methods of performance, plus 
a reasonable profit. To be fair to the seller, a price must be 
realistic in terms of the seller's ability to satisfy the terms and 
conditions of the contract. A reasonable price, according to the DOD 
guidance, is a price that a prudent and competent buyer would be 
willing to pay, given available data on market conditions, such as 
supply and demand, general economic conditions, and competition. For 
the currency paper contract, there is currently only one buyer and one 
seller, domestically. As a result, pricing is established through 
negotiation.

The FAR further states that the contracting officer may use any of 
several analysis techniques to ensure that the final price is fair and 
reasonable. The techniques the officer uses depends on whether adequate 
price competition exists. For the 1999 contract, BEP determined that 
adequate price competition existed because of the expectation that at 
least one additional meaningful proposal would be submitted. 
Consequently, BEP used price analysis--a comparison of the two 
proposals--as a basis for determining that the 1999 contract prices, 
which totaled $207 million, were fair and reasonable. BEP also compared 
the proposed prices with an independent government cost estimate, which 
BEP prepared for the contract.

For the 2003 contract, BEP determined that adequate price competition 
did not exist because, although several companies requested copies of 
the solicitation, only the current supplier submitted a proposal. Under 
such circumstances, the FAR requires agencies to use one or more of 
several proposal analysis techniques to ensure that the final price is 
fair and reasonable. BEP took the following steps to determine its 
prenegotiation pricing objective:

* Obtaining certified cost data from the current supplier, as required 
by FAR 15.403-4.

* Requesting that the Defense Contract Audit Agency (DCAA) audit the 
current supplier's price proposal. DCAA found that the current 
supplier's proposal was acceptable as a basis for negotiating a fair 
and reasonable price. To perform its audit, DCAA used the applicable 
requirements contained in the FAR, the Treasury's Acquisition 
Procurement Regulations, and the Cost Accounting Standards. BEP 
officials said they also independently reviewed and assessed the 
current supplier's proposed costs and did not rely solely on DCAA's 
findings.

* Establishing a technical analysis team to examine various aspects of 
the current supplier's manufacturing process that affect price. The 
technical analysis concentrated on production yield factors, paper 
machine speeds and capacity, and labor requirements, among other 
things. According to BEP, these areas have a major impact on cost and 
are an essential part of a cost analysis.

* Performing a price analysis using comparison with previous contract 
prices for currency paper to verify that the overall price offered was 
fair and reasonable.

In 1998, we recommended that BEP arrange for postaward audits of the 
current supplier's costs and ensure that the supplier maintains 
acceptable cost accounting and estimating systems for future contracts. 
The purpose of a postaward audit is to determine if the price, 
including the profit, negotiated for the contract was increased by a 
significant amount because the contractor furnished cost or pricing 
data that were not accurate, complete, or current. For the 1999 
contract, a postaward audit was not required because the supplier was 
not required to submit cost or pricing data. Following the award of the 
2003 contract, BEP requested that DCAA perform a postaward audit of the 
current supplier. DCAA found that the current supplier's certified cost 
or pricing data were accurate, complete, and current. DCAA also 
performed a postaward audit of the subcontractor that provides the 
security thread for U.S. currency and found that the subcontractor's 
data were accurate, complete, and current. Finally, DCAA reviewed the 
current supplier's estimating system and found it to be adequate to 
provide estimated costs that are reasonable, compliant with applicable 
laws and regulations, and subject to applicable financial control 
systems.[Footnote 6]

BEP Has Taken Some Action to Address Uneconomical Contracting Practices 
Identified in 1998:

In 1998 we reported that two BEP procurement practices contributed, or 
could contribute, to higher-than-necessary currency paper costs. These 
practices included not obtaining royalty-free data rights for the 
security thread used in currency paper and ordering inconsistent 
quantities of paper. We found that BEP continues to make royalty 
payments for the use of the security thread and will have to do so 
until December 2006. We also found that BEP continues to have 
difficulty in accurately estimating the amount of paper it will 
require, but inconsistent order sizes have not yet adversely affected 
the prices it pays.

We previously reported that a subsidiary of the current supplier holds 
patents for manufacturing the security thread used to deter 
counterfeiting. This thread is inserted into all U.S. currency 
denominations greater than $2. According to a BEP official, the current 
supplier approached BEP with the idea for the security thread in the 
mid-1980s, and BEP encouraged this company to develop the thread, but 
BEP neither entered into a research and development contract to help 
fund the effort, nor did it attempt to negotiate rights to that 
technology or technical data, according to another BEP official. 
Because the government did not obtain royalty-free data rights to, or 
fund the development of the security thread, it does not have any 
rights to the associated technical data and must pay for any use of the 
thread. The price BEP currently pays for currency paper includes the 
cost of royalty payments, which are generally allowable under the FAR. 
For the 2003 contract, these payments totaled $663,000 over 4 years. 
According to the current supplier, these royalty payments will end in 
December 2006. As a result, beginning with the next currency paper 
contract--which BEP expects to award at the end of 2006--BEP will not 
have to pay royalties for the use of the current security thread or 
negotiate a license to provide the thread to a second supplier. In 
addition, to avoid a recurrence of this situation, BEP plans to 
purchase, for an undetermined price, royalty-free rights to any new 
anticounterfeiting features that it obtains in the future from any 
sources. Properly written, such an agreement could enable BEP to 
incorporate new technology at its discretion and allow currency paper 
contractors to use that technology in manufacturing paper to meet the 
government's requirements. In addition, BEP included a special 
provision in the 2003 currency paper contract stating that BEP will not 
incorporate any new anticounterfeiting feature into U.S. currency paper 
unless it has negotiated an exclusive license to the feature.

We also reported in 1998 that BEP actually ordered more paper than it 
estimated during some years.[Footnote 7] As a result, BEP paid a higher 
unit cost for the paper, because the price was based on the estimated 
amount, and therefore the contractor's fixed costs were spread over 
fewer units than BEP purchased. If BEP had accurately estimated the 
quantity of paper it ordered, the contractor's fixed costs would have 
been spread over more units, resulting in a lower per-unit price. We 
recommended that BEP ensure that its paper estimates more closely 
reflect the expected amounts needed. BEP responded that its estimates 
are based on the best available estimate from the Federal Reserve Board.

Since 1999, BEP's currency paper orders have remained inconsistent, but 
this inconsistency has not yet adversely affected BEP's prices. 
Specifically, for 4 of the last 6 years, BEP's orders were at or below 
the estimates the contractor used in setting its price, and therefore 
the orders should not have resulted in a higher price for currency 
paper. (See fig. 1.) However, in fiscal years 2003 and 2004, BEP's 
actual orders were considerably higher than the minimum quantities 
estimated in the contract. In fiscal year 2003, the minimum quantity 
was 151 million sheets, and BEP ordered almost 280 million sheets; and 
in fiscal year 2004, the minimum quantity was 203 million sheets, and 
BEP ordered 296 million sheets. Although BEP's order amounts exceeded 
the minimum quantities, the price BEP paid for currency paper was not 
adversely affected because of the pricing approach used by the 
contractor in the current contract.[Footnote 8]

Figure 1: Estimated and Actual Currency Paper Orders, Fiscal Years 1999 
through 2004:

[See PDF for image]

[End of figure]

BEP Has Not Recently Analyzed Advantages and Disadvantages of Obtaining 
a Second Supplier:

In its August 1996 currency paper report, BEP concluded that 
competition was not immediately feasible because the current supplier 
was the only domestic source that could supply currency paper that met 
BEP's requirements. In addition, BEP estimated that it would pay $21 
million to $37 million more per year for currency paper if it purchased 
paper from more than one supplier. These increased costs would result 
from, among other things, high capital equipment costs for a new 
supplier, according to BEP. BEP also made several recommendations, 
including that it continue to improve its relationship with the current 
supplier by working to resolve problems before they arise; continue to 
try to identify alternative sources for currency paper, and if a viable 
source of currency paper is identified, analyze the costs and economic 
feasibility of having two sources; and review the possible catastrophic 
occurrences that could interrupt currency paper supplies, and if 
necessary, increase the inventory of currency paper to mitigate the 
effects of such an occurrence. Analyzing the advantages and 
disadvantages of obtaining a second supplier would help BEP determine 
if a second supplier would be cost effective over the long term, weigh 
the benefits of obtaining a second supplier against the potential 
security and quality concerns associated with a second supplier, and 
ensure that BEP can maintain an adequate supply of currency paper.

Obtaining a second supplier could have advantages. Economic literature 
shows that a key advantage of obtaining a second supplier is that it 
can generate competition, which helps to ensure that the buyer receives 
the best price possible. In general, with more competition, each 
individual firm has less control over the final price in the market. In 
contrast, a single supplier has the potential to restrict output and 
set market prices above competitive levels. In addition, some economic 
studies have found that the entry of additional firms into a market 
lowers prices.[Footnote 9] An additional advantage of obtaining a 
second supplier is that new entrants can stimulate innovation in 
certain markets, whereas some researchers have found that a single 
supplier may not be particularly innovative.[Footnote 10] Another key 
advantage of obtaining a second supplier could be greater assurance of 
a steady supply of currency paper. With more than one supplier and more 
than one production site, the buyer would have greater assurance of a 
steady supply of goods even if one site were disrupted by, for example, 
a strike, natural disaster, bankruptcy, or terrorist attack. This would 
be an important advantage for BEP, because currency paper is essential 
to U.S. and world commerce, and an adequate supply must be assured. 
Some actions have already been taken to avoid these potential problems. 
To mitigate a disruption to the currency paper supply, the current 
supplier says it could produce currency paper at two separate 
locations. In addition, BEP keeps about a 3-month supply of currency 
paper in reserve.

Obtaining a second supplier could also have disadvantages. First, even 
though it could create competition, it might not lower prices initially 
because each new supplier would have expensive start-up costs (such as 
the capital costs of specialized paper-making equipment) and would 
therefore need to charge a high price for currency paper. Second, the 
risk of changes in product quality and design would increase with more 
than one supplier in more than one location. For instance, according to 
a physicist who specializes in paper production, two companies, given 
the same specifications, could produce paper of consistent strength, 
but would have much more difficulty adjusting for the texture of the 
paper, and slight differences could exist within the same 
specifications. Even slight changes can adversely affect a buyer such 
as BEP, which requires adherence to very specific technical standards. 
Federal Reserve Board officials told us that they are concerned that 
minor differences in the quality of currency paper could diminish the 
reputation of U.S. currency. Secret Service officials, who are 
responsible for protecting U.S. currency from counterfeiting, said they 
would need to be assured that a second supplier had proved that it 
could produce paper of consistent quality over a period of time because 
even slight variations between the papers produced by the two 
manufacturers could hamper their anticounterfeiting efforts and lower 
confidence in U.S. currency. Finally, increasing the number of 
suppliers, production locations, or both would increase the potential 
for security breaches because more people would know about the 
classified anticounterfeiting features incorporated in currency paper, 
and more sites could be vulnerable to intrusion. Federal Reserve Board 
officials, who are responsible for issuing U.S. currency, maintained 
that awarding the contract to several different suppliers could 
compromise the secrecy of the paper's anticounterfeiting features 
because more people would have access to and could potentially disclose 
information about them.

Finding itself relying on a single supplier in the early 1990s for the 
clad metal it uses to make coins, the U.S. Mint weighed the advantages 
and disadvantages of obtaining a second supplier and decided that the 
advantages outweighed the disadvantages. To obtain a second supplier, 
the Mint worked closely with a new company and allowed it to begin 
producing a small amount of material. Initially, the Mint's second 
supplier had some difficulty producing a product of consistent quality, 
and the unit costs of the material were higher than the original 
supplier's unit costs because the second supplier was producing smaller 
quantities. But as the quality of the material improved, the company 
began to increase its production for the Mint, and it now produces 55 
percent of the metal that the Mint uses to make coins. According to 
Mint officials, the use of a second supplier enabled the Mint to 
maintain a steady supply of material when the demand for coins spiked 
in 1999 and 2000 (because coins were collected for the new millennium) 
and when each supplier experienced labor strikes. Mint officials also 
told us that they believe that obtaining a second supplier for clad 
material initially increased the Mint's costs, but they were not able 
to quantify the amount of the increase. Nonetheless, according to Mint 
officials, the price for clad metal has decreased since the Mint began 
using a second supplier. In commenting on a draft of this report, the 
Federal Reserve Board noted that, regardless of price issues, the 
issues of security and quality are not the same for clad metal and 
currency paper.

Conclusions:

Obtaining effective competition for the currency paper contract 
continues to be a challenge for BEP, despite the changes it has made 
and plans to continue making to its contract solicitations. Barriers to 
competition remain, and the current supplier continues to be the sole 
supplier of currency paper. We agree with BEP that some of the 
remaining barriers are outside its control or are essential for 
security purposes, and we recognize that the current supplier has 
generally provided BEP with a steady, timely supply of paper that has 
met its requirements for the past 125 years. However, we believe the 
uniqueness of the currency paper procurement and the disadvantages of 
having a single supplier are sufficient to warrant a regular effort on 
BEP's part to reach out to paper manufacturers before issuing 
solicitations to help BEP determine what additional steps should be 
taken to encourage competition for the currency paper contract.

Although BEP concluded in its August 1996 currency paper study that 
competition was not immediately feasible because the current supplier 
was the only domestic source of currency paper that could meet its 
requirements, BEP has not weighed the advantages and disadvantages of 
obtaining a second supplier--including the impact on the cost, 
security, quality, and adequacy of the currency paper supply--since 
1996. Consequently, while BEP can demonstrate that it is receiving a 
fair and reasonable price for currency paper, it is unclear if that 
price is higher or lower than the price BEP would pay if there were a 
second supplier. But cost is not the only factor in deciding whether or 
not to use a second supplier. The security and integrity of the paper, 
and of U.S. currency, are also important. A second supplier must be 
able to demonstrate that it can produce paper that contains the same 
security features and technical specifications as the current paper. 
Slight changes to the quality and make-up of currency paper have the 
potential to hamper anticounterfeiting efforts and could result in an 
overall loss of confidence in U.S. currency. Analyzing the advantages 
and disadvantages of obtaining a second supplier would help BEP assess 
whether a second supplier of currency paper is needed to ensure an 
adequate supply of quality currency paper at a fair and reasonable 
price.

Recommendations for Executive Action:

To obtain the views of paper manufacturers on barriers to competition 
and to determine if there is a need for a second supplier of currency 
paper, we are recommending that the Secretary of the Treasury direct 
the Director of BEP to take the following two actions:

* Before issuing solicitations for currency paper contracts in the 
future, increase outreach activities with paper manufacturers to allow 
them to provide their views on the barriers to competition, identify 
the steps BEP should take to address these barriers, and comment on the 
solicitations.

* Determine if there is a need to obtain a second supplier for currency 
paper by preparing an analysis of the advantages and disadvantages of 
obtaining a second supplier of currency paper, including the impact on 
the cost, security, quality, and adequacy of the currency paper supply. 
If the analysis determines that there is a need to obtain a second 
supplier, the Secretary should then determine what steps are necessary 
to obtain a second supplier for currency paper.

Agency Comments and Our Evaluation:

We provided the BEP, the Mint, and the Federal Reserve Board with 
drafts of this report for their review and comment. These agencies 
generally agreed with our findings and provided technical comments, 
which we incorporated as appropriate. In written comments, BEP 
commented that our draft report does not recognize all of its outreach 
efforts to paper manufacturers and that the royalty payments associated 
with purchasing currency paper are an allowable expense under FAR. We 
incorporated this additional information in our report as appropriate. 
BEP also agreed with our recommendations and described its plans to 
implement them. BEP's comments are provided in appendix III.

We are sending copies of this report to the cognizant congressional 
committees; the Chairman of the Board of Governors of the Federal 
Reserve System; the Secretary of the Treasury; the Directors of BEP and 
the Mint; the Director, Office of Management and Budget; and other 
interested parties. We will also make copies available to others upon 
request. In addition, the report will be available at no charge on the 
GAO Web site at [Hyperlink, http://www.gao.gov.] [Hyperlink, http://
www.gao.gov]

If you or your staff have any questions about this report, please 
contact me at [Hyperlink, siggerudk@gao.gov] or Tammy Conquest at 
[Hyperlink, conquestt@gao.gov]. Alternatively, I can be reached at 
(202) 512-2834. Major contributors to this report are listed in 
appendix IV.

Signed by:

Katherine A. Siggerud:
Director, Physical Infrastructure Issues:

[End of section]

Appendixes:

Appendix I: Summary of GAO's Previous Recommendations and Bureau of 
Engraving and Printing's Actions:

GAO's recommendations: Ensure that the current supplier maintains 
acceptable cost accounting and estimating systems for future contracts 
and that they are periodically audited; BEP's actions: As appropriate, 
the Bureau of Engraving and Printing (BEP) has the Defense Contract 
Audit Agency (DCAA) perform audits.

GAO's recommendations: Arrange for postaward audits of the current 
supplier's costs; 
BEP's actions: When required, BEP has DCAA conduct postaward audits of 
the current contractor's costs.

GAO's recommendations: Include data and analyses in the currency paper 
procurement record that demonstrate the benefits the government is to 
receive when it approves profit levels that are aimed at recognizing or 
providing an incentive for capital investments; BEP's actions: When 
required, BEP plans to comply with the FAR.

GAO's recommendations: To the extent possible, make more extensive use 
of price analysis to determine the fairness and reasonableness of 
prices, including the collection of data from foreign countries on 
their currency prices and data on similar supplies purchased by other 
agencies, such as paper for passports and money orders; BEP's actions: 
BEP stated that a comparison of the price of U.S. currency paper with 
the price of foreign currency paper or money order and passport paper 
would not be a valid comparison because of technical differences.

GAO's recommendations: Ensure that all future currency paper 
procurements reflect the expected amounts of paper needed and that 
orders against contracts are for consistent amounts; BEP's actions: BEP 
bases the amount of paper needed on the best available estimate 
provided by the Federal Reserve System.

GAO's recommendations: Ensure that the government obtains royalty-free 
data rights to any future security measures incorporated into currency 
paper; 
BEP's actions: BEP plans to obtain royalty-free data rights to all 
future security measures that it incorporates into currency paper.

Source: GAO.

[End of table]

[End of section]

Appendix II: Objectives, Scope and Methodology:

To determine the steps the Bureau of Engraving and Printing (BEP) took 
to encourage competition for the 1999 and 2003 currency paper 
contracts, we interviewed BEP officials and reviewed the changes BEP 
made to the contract solicitations. To determine the results of these 
efforts, we reviewed the solicitations for the 1999 and 2003 contracts 
and sent a questionnaire to 15 domestic and foreign manufacturers of 
cotton-based security paper to determine the factors that have made it 
difficult for them to compete for the currency paper contract. We used 
a questionnaire that was similar to the questionnaire used for our 1998 
report, allowing us to compare responses for the two time periods. Our 
survey universe consisted of manufacturers we had surveyed for our 1998 
report, manufacturers identified by the American Forest and Paper 
Association, manufacturers identified by BEP as having expressed 
interest in the currency paper contract, and the current supplier. We 
received responses from 14 of the 15 manufacturers and made several 
attempts to obtain a response from the one manufacturer who did not 
respond to our survey. We also performed structured telephone 
interviews with all 14 manufacturers to clarify their survey responses. 
Our primary variable for analysis was interest in providing currency 
paper to BEP. We considered the eight manufacturers who responded that 
they were "very interested" or "somewhat interested" in providing 
currency paper to BEP as our most important group for the purposes of 
this study because they have a stated interest in supplying paper to 
BEP. We reviewed economics literature and interviewed several academic 
experts to determine the relevant barriers to competition. Finally, we 
analyzed the Conte Amendment, the statute limiting the procurement of 
distinctive currency paper to a 4-year contract, and other applicable 
procurement laws and regulations to identify requirements affecting the 
procurement of currency paper.

To determine the steps BEP took to determine that the prices it paid 
for currency paper under the 1999 and 2003 contracts were fair and 
reasonable, we reviewed documents in BEP's contract files for the 1999 
and 2003 contracts. We reviewed the process BEP must follow to 
determine fair and reasonable pricing. We reviewed the prenegotiation 
memorandums and negotiation summaries from the contract files and 
interviewed BEP procurement officials to determine what cost and price 
analysis activities BEP undertook to establish a fair and reasonable 
price. We then compared these actions with the requirements for cost 
and price analysis techniques under FAR part 15.404-1. We also obtained 
and reviewed audits of the current supplier that BEP requested from the 
Defense Contract Audit Agency and that have been issued since 1998.

To determine the extent to which BEP has analyzed the advantages and 
disadvantages of obtaining a second supplier for currency paper, we 
reviewed BEP's most recent currency paper study, which was issued in 
1996. We also interviewed several industry analysts and academic 
experts, and reviewed relevant economics literature. Although economic 
research on competition in government contracting is abundant, it has 
never been applied to the currency paper market. Therefore, we reviewed 
economic studies of other markets to determine the advantages and 
disadvantages of obtaining a second supplier. We also interviewed 
officials from BEP, the U.S. Secret Service, and the Federal Reserve 
System to obtain their views on the implications of obtaining multiple 
suppliers for currency paper. To gain additional perspective on the 
potential effects of obtaining a second supplier for currency paper, we 
interviewed former and current officials from the U.S. Mint about their 
experiences with a second supplier. The Mint was not able to provide us 
with financial data to demonstrate whether the price it paid for clad 
material changed after it began using a second supplier.

We performed our work in Washington, D.C., from August 2004 through 
April 2005 in accordance with generally accepted government auditing 
standards.

[End of section]

Appendix III: Comments from the Bureau of Engraving and Printing:

Department Of The Treasury:
Bureau Of Engraving And Printing:
Washington, D.C. 20228:

April 11, 2005:

Ms. Katherine A. Siggerud:
Director, Physical Infrastructure Issues: U.S. Government 
Accountability Office:
441 G Street, N.W.,
Washington, D.C. 20548:

Dear Ms. Siggerud:

Thank you for the opportunity to review and comment on the GAO's report 
"Currency Paper Procurement: Additional Analysis Would Help Determine 
Whether a Second Supplier is Needed." Our comments concern the issues 
of the Bureau of Engraving and Printing's (BEP) outreach to paper 
manufacturers and the purchase of royalty-free data rights to new anti-
counterfeiting features. We have also included our plans for 
implementing your recommendations.

Outreach to Paper Manufacturers:

The report presents several statements that the BEP's outreach to paper 
manufacturers is limited and is generally done in conjunction with 
other procurements. These statements are found on the GAO Highlights 
page under the paragraph entitled "What GAO Found," first paragraph, 
last sentence, on page 4 under "Results in Brief," first paragraph, 
sixth sentence and on page 12 under "BEP Has Not Addressed All 
Barriers," the third paragraph, first sentence. These statements do not 
recognize the various methods of BEP's outreach efforts. The outreach 
methods BEP uses include:

An annual sources sought synopsis is posted at the Federal Business 
Opportunities web site (www.fedbizopps.gov) and remains open for one 
year. This announcement advises industry that the BEP is interested in 
promoting competition for its currency production materials and to 
continuously improve the quality of U.S. currency through product 
development of currency production materials. Currency paper is 
specifically identified as a material in which the BEP is interested in 
promoting competition.

BEP subscribes to various paper manufacturing journals to identify 
sources that potentially possess the capability to manufacture currency 
paper.

* BEP technical officials attend various trade fairs, bank note 
conferences and other symposiums where potential suppliers are 
consulted to determine if their firm has an interest in contracting 
with the BEP for various currency materials, primarily currency paper, 
inks and counterfeit deterrent features.

* Firms that express an interest in contracting opportunities for 
currency paper are invited to a meeting at the BEP to discuss our 
currency paper requirements and needs. If a firm is interested in 
developing its product line to include the manufacture of currency 
paper, it is encouraged to submit material samples for press trials to 
determine if its material sample is suitable from the standpoint of 
facility of use, general "feel" and durability.

Draft solicitations for currency paper are also posted at the Federal 
Business Opportunities web site (www.fedbizopps.gov) requesting 
industry's comments in an effort to ensure that the solicitation 
strategy and structure is as conducive to promoting competition as 
possible. E-mails are sent to the firms on the source list advising 
them where they can download the draft currency paper solicitation from 
the Internet and our request for their concerns and comments.

BEP technical officials have also directly contacted domestic paper 
manufacturers to solicit their interest in becoming a supplier of 
currency paper to the BEP. This effort has resulted in two domestic 
firms which have aligned their corporate structure to position their 
firms to effectively compete on the upcoming currency paper 
solicitation. These firms have obtained corporate support for expanding 
their product line and have begun development of currency paper through 
submission of material samples to the BEP for press trials and 
technical feedback on the performance of their material samples.

Royalty-Free Data Rights:

The report discusses the BEP's plans to purchase royalty-free data 
rights to new anti-counterfeiting features that it obtains in the 
future. This issue is discussed on page 5 under "Results in Brief," 
first paragraph, and on page 16 under "BEP Has Taken Some Action to 
Address Uneconomical Contracting Practices Identified in 1998," first 
paragraph. The BEP intends to purchase royalty-free data rights to new 
anti-counterfeiting features, if obtainable, and shall employ all 
efforts to do so. However, payment of royalties is an allowable cost 
under the Federal Acquisition Regulation Contract Cost Principles. 
Therefore, if the BEP is unable to purchase royalty-free data rights, 
then a determination will be made as to whether or not the future 
payment of royalties is offset by the anti-counterfeiting value 
provided by a new feature.

Recommendation: The Secretary of the Treasury should direct the 
Director of BEP, before issuing solicitations for currency paper 
contracts in the future, to increase outreach activities with paper 
manufacturers to allow them to provide their views on the barriers to 
competition, identify the steps BEP should take to address these 
barriers, and comment on the solicitations.

Response: The BEP plans to continue pursuing various outreach 
activities with paper manufacturers and plans to engage in more 
proactive interaction with the paper industry to obtain not only their 
views on the competition barriers, but recommendations on how to 
increase the competitive attraction of the solicitation. These efforts 
would include a pre-solicitation bidder's conference to which a wide 
range of paper manufacturing firms would be invited.

Recommendation: The Secretary of the Treasury should direct the 
Director of BEP to determine if there is a need to obtain a second 
supplier for currency paper by preparing an analysis of the advantages 
and disadvantages of obtaining a second supplier of currency paper, 
including the impact on the cost, security, quality, and adequacy of 
the currency paper supply. If the analysis determines that there is a 
need to obtain a second supplier, the Secretary (Director of BEP) 
should then determine what steps are necessary to obtain a second 
supplier for currency paper.

Response: The BEP plans to conduct market research and obtain an 
independent consultant that is capable of conducting an impact analysis 
of this magnitude including the advantages and disadvantages of 
obtaining a second supplier. The results of this analysis will be 
presented to the Advanced Counterfeit Deterrence Steering Committee to 
address potential concerns related to counterfeit deterrence and 
security issues. Additionally, the Federal Reserve Board may be 
consulted as the study results may impact future costs and pricing. The 
Bureau will formulate an appropriate policy position taking into 
consideration the results of the study and these consultations.

If you have any questions about our comments, please call Gregory D. 
Carper, Associate Director (Chief Financial Officer) on (202) 874-2020.

Signed by:

Thomas A. Ferguson:
Director:

[End of section]

Appendix IV: GAO Contacts and Staff Acknowledgments:

GAO Contacts:

Katherine Siggerud, (202) 512-2834 or [Hyperlink, siggerudk@gao.gov] 
Tammy Conquest, (202) 512-5234 or [Hyperlink, conquestt@gao.gov]:

Staff Acknowledgments:

In addition to the individuals named above, Robert Ackley, Tim 
DiNapoli, Elizabeth Eisenstadt, Barbara El Osta, Heather Halliwell, 
Susan Michal-Smith, Terry Richardson, and John W. Shumann made key 
contributions to this report.

(542043):

FOOTNOTES

[1] GAO, Currency Paper Procurement: Meaningful Competition Unlikely 
Under Current Conditions, GAO/GGD-98-181 (Washington, D.C.: Aug. 28, 
1998).

[2] 31 U.S.C. ß 5114 note.

[3] 31 U.S.C. ß 5114.

[4] In the economics literature, these barriers to competition are 
referred to as "barriers to entry." Barriers to entry include 
conditions or circumstances that make it very difficult or unacceptably 
costly for outside firms to enter a particular market and compete with 
established firms. Entry barriers generally listed in the economics 
literature include economies of scale, product differentiation, and 
capital requirements. Barriers to entry are important in a market 
because they can ultimately determine how much market power, or 
influence over price, established firms have in the market.

[5] Federal Business Opportunities is a government Web site designed to 
publicize procurements over $25,000.

[6] In addition, for the 2003 contract, BEP included a standard FAR 
clause on defective cost or pricing data, which would provide the 
government with a refund if it were later determined that the current 
supplier submitted inaccurate, incomplete, or out-of-date cost or 
pricing data and that these data resulted in a higher price to the 
government. 

[7] For every currency paper contract, BEP provides minimum and maximum 
order quantities, which the contractor uses in setting prices. Because 
currency paper manufacturing has high fixed costs, a higher quantity of 
paper equates to a lower unit cost because the fixed costs can be 
spread over more units.

[8] We are not disclosing the contractor's pricing approach because it 
has been designated as source selection information.

[9] Timothy F. Bresnahan and Peter C. Reiss, "Entry and Competition in 
Concentrated Markets," The Journal of Political Economy, vol. 99, no. 5 
(October 1991), 977-1009. Diana L. Strassman, "Potential Competition in 
the Deregulated Airlines," The Review of Economics and Statistics, vol. 
72, no. 4 (November 1990), 696-702.

[10] P.A. Geroski, "Innovation, Technological Opportunity, and Market 
Structure," Oxford Economic Papers, New Series, vol. 42, no. 3 (July 
1990), 586-602.

GAO's Mission:

The Government Accountability Office, the investigative arm of 
Congress, exists to support Congress in meeting its constitutional 
responsibilities and to help improve the performance and accountability 
of the federal government for the American people. GAO examines the use 
of public funds; evaluates federal programs and policies; and provides 
analyses, recommendations, and other assistance to help Congress make 
informed oversight, policy, and funding decisions. GAO's commitment to 
good government is reflected in its core values of accountability, 
integrity, and reliability.

Obtaining Copies of GAO Reports and Testimony:

The fastest and easiest way to obtain copies of GAO documents at no 
cost is through the Internet. GAO's Web site ( www.gao.gov ) contains 
abstracts and full-text files of current reports and testimony and an 
expanding archive of older products. The Web site features a search 
engine to help you locate documents using key words and phrases. You 
can print these documents in their entirety, including charts and other 
graphics.

Each day, GAO issues a list of newly released reports, testimony, and 
correspondence. GAO posts this list, known as "Today's Reports," on its 
Web site daily. The list contains links to the full-text document 
files. To have GAO e-mail this list to you every afternoon, go to 
www.gao.gov and select "Subscribe to e-mail alerts" under the "Order 
GAO Products" heading.

Order by Mail or Phone:

The first copy of each printed report is free. Additional copies are $2 
each. A check or money order should be made out to the Superintendent 
of Documents. GAO also accepts VISA and Mastercard. Orders for 100 or 
more copies mailed to a single address are discounted 25 percent. 
Orders should be sent to:

U.S. Government Accountability Office

441 G Street NW, Room LM

Washington, D.C. 20548:

To order by Phone:

Voice: (202) 512-6000:

TDD: (202) 512-2537:

Fax: (202) 512-6061:

To Report Fraud, Waste, and Abuse in Federal Programs:

Contact:

Web site: www.gao.gov/fraudnet/fraudnet.htm

E-mail: fraudnet@gao.gov

Automated answering system: (800) 424-5454 or (202) 512-7470:

Public Affairs:

Jeff Nelligan, managing director,

NelliganJ@gao.gov

(202) 512-4800

U.S. Government Accountability Office,

441 G Street NW, Room 7149

Washington, D.C. 20548: