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entitled 'Defense Management: Attention Is Needed to Improve Oversight 
of DLA Prime Vendor Program' which was released on June 19, 2006. 

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June 19, 2006: 

The Honorable John Warner: 
Chairman: 
The Honorable Carl Levin: 
Ranking Minority Member: 
Committee on Armed Services: 
United State Senate: 

The Honorable Duncan L. Hunter: 
Chairman: 
The Honorable Ike Skelton: 
Ranking Minority Member: 
Committee on Armed Services: 
House of Representatives: 

Subject: Defense Management: Attention Is Needed to Improve Oversight 
of DLA Prime Vendor Program: 

In fiscal year 2005, prime vendor sales accounted for approximately $9 
billion of the Defense Logistics Agency's (DLA)[Footnote 1] total sales 
and service of $32 billion. Under the prime vendor concept, the 
Department of Defense (DOD) relies on a distributor of a commercial 
product line, who provides that product line and incidental services to 
customers in an assigned region or area of responsibility. Products or 
services are to be delivered within a specified period of time after 
order placement. Since 1991, we have identified the use of prime 
vendors as a best commercial practice for inventory 
management.[Footnote 2] Nonetheless, media reports in October 2005, and 
a hearing before the House Armed Services Committee on November 9, 
2005, raised concerns about the use of the prime vendor concept and the 
prices that DLA was paying for items acquired through a prime vendor. 

The use of prime vendor contracts is governed by the Federal 
Acquisition Regulation (FAR) and the Defense Federal Acquisition 
Regulation Supplement. DLA manages the program and the Director of DLA 
reports to the Under Secretary of Defense for Acquisition, Technology 
and Logistics through the Deputy Under Secretary of Defense for 
Logistics and Materiel Readiness. The Defense Supply Center 
Philadelphia (DSCP), a field activity of DLA, is the lead center for 
managing four major commodities: medical materiel; subsistence/ 
garrison feeding; construction and equipment; and clothing and 
textiles. It is also responsible for managing DOD's prime vendor 
contracts within those commodities. 

In 1992, we identified DOD's contract management as one of our high- 
risk areas, and it remains so today.[Footnote 3] One of the key reasons 
the area is high risk is because DOD does not provide adequate 
oversight over defense contracts. One aspect of oversight is to ensure 
that the government is obtaining fair and reasonable contract prices 
through such means as conducting price reviews. In addition, management 
oversight can also assure that steps are taken to determine that prices 
agreed to at contract award are fair and reasonable. For the purposes 
of this report, we are defining a pricing review as either a 
determination of price reasonableness for items added after the initial 
contract award, or a postaward verification that any invoiced price is 
not in excess of the price stipulated in the contract. 

Under the authority of the Comptroller General, we initiated a review 
of DOD's prime vendor concept to determine (1) the extent to which DLA 
has conducted pricing reviews for items purchased through a prime 
vendor, and (2) the extent to which DLA has addressed the pricing 
issues identified at the November 2005 hearing. To accomplish the 
objectives, we reviewed policies and procedures governing the use of 
prime vendors and DLA's adherence to those policies and procedures. In 
addition, we reviewed internal and external assessments of DSCP's 
procurement management, and prior GAO reports, and we analyzed 16 prime 
vendor contracts to determine the requirements for conducting pricing 
reviews. We also analyzed two contracts with a manufacturer and four 
delivery orders to prime vendors to document the price increase for an 
aircraft refrigerator. Further, we interviewed DLA and DSCP officials, 
prime vendors, customers, and a manufacturer. We conducted our review 
from December 2005 through April 2006 in accordance with generally 
accepted government auditing standards. Our scope and methodology are 
discussed in further detail at the end of this report. 

Results in Brief: 

Personnel at the Defense Supply Center Philadelphia did not always 
conduct pricing reviews for all commodities. The medical materiel and 
food subsistence commodities' contracting personnel reviewed pricing on 
a regular basis. However, required price reviews were not being 
conducted for the food service equipment and construction and equipment 
commodities. For example, the contracts for food service equipment 
required verification of price increases, but officials from the supply 
center were unable to provide documentation on why the price of an 
aircraft refrigerator increased from $13,825 in March 2002 to $32,642 
in September 2004. Both logistics agency and supply center officials 
acknowledged that these problems occurred because management at the 
agency and supply center level were not providing adequate oversight to 
ensure that contracting personnel were monitoring prices. The lack of 
pricing reviews on certain commodities has been a continual problem 
cited in the logistics agency's internal reviews since 2002. Internal 
reviews of the prime vendor programs conducted in 2002 and 2003 showed 
that supply center contracting personnel responsible for the food 
service equipment and construction and equipment commodities failed at 
times to properly perform price reviews to determine whether the prices 
charged by the prime vendors were reasonable. The internal reviews 
found that contracting personnel either did not have knowledge of, or 
were disregarding contracting rules and regulations with regard to 
price reviews. As a result, the internal reviews recommended stronger 
contract management and oversight to ensure that price reviews were 
conducted. Management at the supply center agreed to take corrective 
actions to address the 2002 and 2003 reviews. However, issues with the 
lack of pricing oversight were identified again in a 2005 internal 
review. 

The Defense Logistics Agency has developed corrective actions and has 
begun to develop a prime vendor contracting policy to address the most 
recent pricing problems identified in 2005. The agency's recent actions 
include increasing the number of audits to ensure that the government 
was not overcharged, revoking some contracting officers' warrants, and 
establishing additional training for all contracting officers and 
managers. Some of these corrective actions have resulted in delays in 
order approval and slowed delivery to some customers. The logistics 
agency is also in the process of developing a policy to implement 
regulatory guidance on prime vendor contracting. However, policies and 
procedures for pricing reviews were in place prior to November 2005, 
and corrective actions were identified in prior internal reviews. 
Problems still occurred because of a lack of management oversight by 
logistics agency and supply center officials to ensure that the 
policies and procedures were followed and that the corrective actions 
were implemented. Standards for internal controls in the federal 
government call for assessing the quality of performance over time and 
to ensure that the findings of audits and other reviews are promptly 
resolved.[Footnote 4] 

We are recommending that the Secretary of Defense ensure that the 
Director of the Defense Logistics Agency provide continual management 
oversight of the corrective actions to address pricing problems in the 
agency's prime vendor program. In commenting on a draft of our report, 
DOD concurred with our recommendation. We discuss DOD's comments and 
our evaluation of them later in this correspondence. 

Background: 

DOD operates a worldwide supply system, with the vast majority of the 
items being managed by DLA. A DLA prime vendor arrangement is one in 
which a distributor of a commercial product line provides those 
products and related services to all of DLA's customers in an assigned 
region within a specified period of time after order placement. The 
prime vendor either provides the product at the cost to the prime 
vendor to obtain it, or at a price agreed upon in advance with DLA. 

The process for using a prime vendor described below is generic, and 
different commodities may vary from this process. Under the prime 
vendor process, a single vendor buys items from a variety of 
manufacturers and the inventory is stored in commercial warehouses. A 
customer orders the items from the prime vendor using electronic 
ordering systems. For some commodities prices are pre-negotiated by DLA 
as part of the contract award process. The negotiated price includes 
the prime vendor's handling fee. The prime vendor (or the customer) 
sends a copy of the order to DSCP. Depending on the commodity, DSCP may 
need to approve the order before the prime vendor can process it 
further. Once DSCP approves the order, the prime vendor fills, ships, 
and tracks the order through final acceptance. The prime vendor then 
submits an invoice to DSCP, which matches it with the order and receipt 
from the customer and authorizes the Defense Financial Accounting 
Service to make payment. DSCP then bills the customer for the cost of 
the order plus DSCP's cost recovery fee. 

DOD awarded its first prime vendor contract in 1993 for pharmaceutical 
items, such as aspirin and antibiotics. This was followed by a contract 
for medical supplies, such as syringes and surgical gloves. In 1994, 
DOD expanded the use of the prime vendor concept to include providing 
food for military dining facilities. DOD subsequently expanded the use 
of the prime vendor concept to include construction and equipment as 
well as clothing and textiles. Since the first contracts were awarded, 
DLA has refined its use of the prime vendor concept and incorporated 
changes into successive generations of contracts. 

DSCP is responsible for managing prime vendor programs for medical 
materiel, subsistence, and construction and equipment. Medical materiel 
includes pharmaceutical and medical/surgical items. Subsistence 
includes food for troop feeding and food service equipment (products 
associated with the receipt and storage of food, serving, presentation 
and preservation of food, and clean up or maintenance). Construction 
and equipment includes several commodities such as maintenance, repair 
and operations (MRO),[Footnote 5] lumber, and metals. There are no 
prime vendor contracts for the clothing and textile commodity. 

According to DLA, the benefits of prime vendor contracts include 
improved access to a wide range of high-quality commercial products, 
rapid and predictable delivery from a single vendor at the time and in 
the manner most conducive to the customer's needs, and reduced overhead 
charges. Other benefits of prime vendor contracts include significant 
reductions in the manpower needed to manage these items at DLA, 
elimination of any DLA inventory investment, reduction of the 
infrastructure and related costs associated with warehousing that 
inventory, and reduced transportation costs via multiple-item prime 
vendor deliveries to the customer rather than transportation from 
vendors to the military depots for subsequent transportation to the 
ultimate customer. In addition, prime vendor contracts provide for 
surge and broader mobilization capabilities, and worldwide customer 
support. 

We have previously identified the use of prime vendors as a best 
commercial practice for inventory management.[Footnote 6] In a series 
of reports, we reported on the benefits of using a prime vendor for 
medical and food inventories.[Footnote 7] 

In October 2005, media reports raised concerns that DLA had been 
overcharged for certain food service equipment items such as ice cube 
trays, refrigerators, and coffee-makers. The reports resulted in a 
congressional hearing on November 9, 2005 to discuss DLA's prime vendor 
program.[Footnote 8] 

Pricing Reviews of Prime Vendor Commodities Were Not Always Conducted: 

DSCP personnel did not always conduct pricing reviews for all 
commodities. The medical materiel and food subsistence commodities' 
contracting personnel reviewed prices on a regular basis. Prices for 
food service equipment and construction and equipment commodities were 
not being reviewed for price reasonableness before orders were approved 
for new items. This lack of oversight was identified by internal DLA 
reviews, known as procurement management reviews, as early as 2002 and 
2003. These reviews found that some prime vendor contracts were not 
being executed and managed properly and made recommendations that 
required an increase in management oversight and in some cases, 
additional training. Even though DSCP management concurred with the 
recommendations, the problems recurred in the next reviews conducted in 
2005. 

Some Prime Vendor Programs Review Prices: 

During the course of our review, we found that contracting officials 
responsible for medical materiel and food subsistence commodities were 
routinely reviewing prices. These officials used information systems to 
track pricing and to flag price increases. For example, the prices for 
medical materiel and food subsistence items are generally set by 
national pricing agreements.[Footnote 9] Customers order from pre- 
priced catalogs and the vendor only gets paid the current catalog 
price. In addition, DSCP uses automated tools to match the prime 
vendor's sales data with pricing data for pharmaceutical items. For 
food subsistence items, the contracting officer and customer liaison 
specialists monitor price changes and audit orders. The electronic 
ordering system for food subsistence also flags price changes that are 
more than 10 percent. 

Pricing Reviews Were Lacking for Some Commodities: 

Pricing reviews were lacking for some commodities. In addition to price 
review concerns, a Defense Contract Management Agency (DCMA) review, 
conducted between December 2005 to January 2006, found concerns with 
the evaluation of prices at contract award for food service 
equipment.[Footnote 10] Based on our discussions with DLA officials, 
the first food service equipment vendor contracts awarded in June 1999 
used a market basket evaluation tool to help evaluate contract prices 
before contracts were awarded. A market basket evaluation is a tool 
used during proposal evaluation that samples a percentage of items 
anticipated to be purchased in a given commodity to use as a measure of 
all prices for items offered under contract. The prices of items 
obtained for the market basket became the baseline price for those 
items. However, according to the DCMA report and senior DLA officials, 
DSCP was not sampling a high enough percentage of food service 
equipment items to make sure that fair and reasonable prices were being 
paid.[Footnote 11] On average only 18 percent of the first generation 
food service equipment items were being sampled; 
for the second generation contracts awarded in June 2005, the average 
rose to 24 percent. While the sample size for the recompeted food 
service equipment prime vendor contracts was larger, the DCMA report 
noted that it was still small compared to the total number of items 
under the food service equipment contract. 

In addition, while the contracting officers were required to document 
price increases in the contract files for food service equipment, we 
found that this was not being done. For example, we reviewed contract 
prices DSCP paid for an aircraft refrigerator and determined that the 
contract price had increased from $13,825 in March 2002 to $32,642 in 
September 2004. DSCP officials were unable to explain why the price of 
the aircraft refrigerator had more than doubled during the time period. 
These officials also stated that there was no documentation in the 
contract file to support the increase as required. Additionally, the 
officials could not explain why two different prices were paid for the 
same aircraft refrigerator on the same date. Specifically, on September 
24, 2005, two different orders were awarded with prices of $32,642 and 
$29,975. Senior officials from DLA and DSCP acknowledged that these 
particular problems resulted from contracting personnel not doing their 
jobs and from a lack of management oversight. 

Since 2002 DLA Internal Reviews Cited Lack of Pricing Reviews: 

DLA's periodic reviews of its contracting activities identified 
weaknesses in contract management and execution of some prime vendor 
contracts that are managed by DSCP. DLA periodically conducts reviews 
of its contracting activities to improve the operational efficiency and 
effectiveness of contracting operations and evaluate the integrity of 
the procurement process.[Footnote 12] In 2002, DLA conducted an 
internal review for the Subsistence Directorate, and in 2003, a review 
of the Construction and Equipment Directorate. These reviews identified 
weaknesses in contract management and execution as some prime vendor 
contracts were not being managed properly and there was no evidence in 
the contract file that prices had been reviewed for price 
reasonableness. These reviews found that the integrity of the 
procurement process needed to be strengthened in the Subsistence and 
the Construction and Equipment Directorates. 

The 2002 internal review found that oversight of the Subsistence 
Directorate contract actions needed to be enhanced to better manage the 
risk associated with subsistence contracting. For example, DLA's review 
found that the Subsistence Directorate needed to improve its 
methodology for verifying the prices for food service equipment by 
expanding the number of pricing reviews being conducted. Specifically, 
the Directorate allowed food service equipment prime vendors to add new 
items to the contracts without an up-front price review, relying 
instead on postaward delivery order price reviews performed by 
contracting personnel in the buying section. However, DLA's 2002 
internal review found that the postaward delivery order price reviews 
occurred infrequently. For example, in fiscal year 2001, 4,487 orders 
were issued, of which only 25 to 50 were reviewed. In fiscal year 2002, 
4,401 orders were issued. At the time of the 2002 assessment, no price 
reviews had taken place. 

The 2003 internal review of the Construction and Equipment Directorate 
reported that many of the deficiencies identified revolved around a 
failure to comply with fundamental contracting requirements that are 
designed to preserve the integrity of the procurement process. In 
addition, the review team found pricing problems where purchases were 
made at unreasonably high prices or contracting personnel failed to 
perform any price reviews to determine price reasonableness. For 
example, a sample of 30 items reviewed found that 14 items were priced 
at least 25 percent over the estimated fair market price and none of 
the items in the sample had a price reasonableness determination 
completed at the time of purchase. The report stated, "It appears that 
these deficiencies stem from the fact that many contracting personnel 
and several supervisors . . . have not gained the basic skills to 
execute government contracts or have blatantly disregarded procurement 
policy and procedures. The situation presents high risks to the Agency 
and calls for more rigid enforcement of review and oversight." 

The 2002 and 2003 reviews made recommendations requiring an increase in 
price verification reviews, management oversight, and in some cases, 
additional training. Although DSCP management concurred with the 
findings and agreed to take the recommended actions, some of the 
problems recurred in the next DLA review conducted in January and May 
2005. For example, this review found that postaward pricing reviews for 
the food service equipment prime vendor contracts were not being 
conducted as required. In addition, the 2005 review noted that 
increased management attention and procurement oversight was needed to 
eliminate the shortcomings regarding contracting rules and regulations. 
Specifically, the review found significant deficiencies in the 
application of fundamental contracting rules in the Construction and 
Equipment Directorate. The findings related to, among other things, the 
proper use and exercise of options in that most contract files did not 
indicate that options had been properly justified prior to the 
government exercising them;[Footnote 13] compliance with requirements 
for best value source selection; 
compliance with requirements for negotiated acquisitions; 
and compliance with procurement oversight policies and procedures. The 
review noted that the findings related to the basic principles of 
contracting and were not symptoms of the complexity of prime vendor 
contracting. 

We found that another factor that could be influencing the lack of 
pricing reviews in these commodities is the emphasis DLA management has 
traditionally placed on increasing sales to customers rather than on 
the prices the prime vendors charge for items. Both the DCMA review and 
a DLA internal review noted the undue emphasis placed on sales data. 
DLA senior officials also acknowledged that this could be an issue. As 
noted in the following section, DLA is changing the metrics it reviews 
to include pricing as well as sales data. 

DLA Is Instituting Corrective Actions and Developing Policy Guidance 
for Prime Vendor Contracting: 

DLA has developed corrective actions and has begun to implement some of 
these corrective actions such as increasing the number of audits and 
establishing additional training requirements for contracting officers 
and managers. However, some of the corrective actions DLA is taking 
have delayed order approval and delivery times for customers. In 
addition to the corrective actions it is implementing, DLA is also 
developing a policy to implement regulatory guidance for prime vendor 
contracting. 

DLA Has Initiated Corrective Actions: 

Senior DLA officials acknowledged that weaknesses in oversight led to 
the pricing problems highlighted in the media reports and at the 
congressional hearing and stated that they are instituting corrective 
actions. DLA has since conducted internal reviews and requested an 
external review by the Defense Contract Management Agency, which has 
been completed.[Footnote 14] In addition, DLA has requested the Defense 
Contract Audit Agency to perform audits under the food service 
equipment prime vendor program, which are expected to be completed by 
June 2006. As a result of the completed reviews, since December 2005 
DLA has initiated several actions aimed at strengthening oversight, 
such as modifying contracts to change the price verification process 
and establishing additional training for contracting officers and 
managers. Because DLA is still in the process of implementing these 
actions, we did not evaluate them at this time. 

We summarized the main findings of the reviews and DLA actions to 
address these findings in table 1. 

Table 1: Summary of Main DLA and DCMA Findings and DLA Actions: 

Finding/observation: * Lack of management oversight; 
DLA actions: 
* Monthly briefings to DSCP Command on pricing reviews and audits; 
* Annual procurement management reviews on prime vendor contracts; 
* All prime vendor contracts will be approved by DLA headquarters; 
* Reorganizing the Procurement Directorate to provide more independent 
oversight of the supply chains. 

Finding/observation: * Inadequate pricing reviews being conducted; 
DLA actions: 

* Ensuring prime vendor contracts comply with an established prime 
vendor pricing model; 
* Contracting officers documenting fair and reasonableness price 
determinations for orders over certain thresholds; 
* Increasing the number of audits to ensure the government was not 
overcharged; 
* Modifying contracts to change the price verification process; 
* Requesting a price audit by DCAA. 

Finding/observation: * Lack of knowledge or skills of contracting 
personnel, or a disregard for the contracting rules and regulations; 
DLA actions: 
* Establishing additional training for contracting officers and 
managers; 
* Reorganizing the Subsistence Directorate and revoking some 
contracting officers' warrants. 

Finding/observation: * Management metrics may be too narrowly focused 
on sales, fill rates and customer satisfaction; 
DLA actions: 
* Acquisition management metrics developed with a Monthly Command 
review. Now look at price as well as sales. 

Finding/observation: * Prime vendor concept may not be suitable for all 
commodities; 
DLA actions: 
* Adjusting acquisition strategies to reassign programs to best 
procurement approach.[A]. 

Source: GAO analysis of DLA and DCMA data. 

[A] For example, DLA has evaluated the acquisition of food service 
equipment and has determined not to continue acquiring food service 
equipment through a prime vendor. A new acquisition strategy is under 
development that will require the development of a contractual 
relationship primarily with manufacturers or their representatives for 
equipment and incidental services. 

[End of table] 

Based on the Standards for Internal Controls in the Federal Government, 
a key internal control element is the monitoring of the quality and 
performance over time and ensuring that the findings of audits and 
other reviews are promptly resolved.[Footnote 15] Internal control 
should generally be designed to assure that ongoing monitoring occurs 
in the course of normal operations, is performed continually, and is 
ingrained in the agency's operations. It includes regular management 
and supervisory activities, comparisons, reconciliations, and other 
actions people take in performing their duties. However, DLA officials 
have acknowledged that a lack of management oversight led to the 
pricing problems noted in 2002, 2003, and again in 2005. 

DLA's Corrective Actions Have Resulted in Delays for Some Customers: 

The requirements for additional price verification and approval 
implemented by DSCP have resulted in delays in order approval and 
slowed delivery to some customers and resulted in additional resource 
requirements for DSCP. The delays and additional requirements have 
already led to some refinements being made in the verification 
requirements. For example, in January 2006, the maintenance, repair and 
operations (MRO)-Supplies commodity within the Construction and 
Equipment Directorate was initially required to perform a fair and 
reasonable price determination on all orders over $2,500 before the 
prime vendor could process the order. The average number of orders with 
a value of more than $2,500 received each month for this commodity is 
about 40,000, and each order contains, on average, 5 line items. Thus, 
the average number of lines that required price determinations was 
approximately 200,000 per month. All orders under $2,500 were to be 
reviewed by a statistical sample on a post-order basis. To assist in 
fulfilling this requirement, 12 staff have been added since January 
2006. In spite of the additional staff, the turnaround time to complete 
an order has risen from around 2 days to about 10, as approximately 8 
days are required to perform the price determination. According to a 
manager in the Construction and Equipment Directorate, some customers 
are pulling back from using the prime vendor because of the delay. Some 
prime vendors have also reported a decrease in sales. 

Because of the delay and increase in resource requirements, the 
criteria for performing the fair and reasonable price determination 
were refined in February 2006. MRO-Supplies management changed its 
policy of reviewing every order of $2,500 or more for a fair and 
reasonable price determination prior to the prime vendor processing the 
order to reviewing 30 percent of the orders with a value of $2,500 to 
$24,999 on a pre-order basis and the remaining 70 percent done post- 
order.[Footnote 16] However, MRO-Supplies is still reviewing all orders 
with a value greater than $25,000 prior to the order being processed. 
In addition, a statistical sample of orders with a value of less than 
$2,500 will still be reviewed for a fair and reasonable price, some pre-
order and some post-order, whereas previously, the entire sample was 
reviewed post-order. 

DLA is Developing New Policy Guidance for Prime Vendor Contracting: 

In addition to the corrective actions being carried out, DLA is also 
developing a policy to implement regulatory guidance for prime vendor 
contracting. According to a DLA acquisition official, the policy will 
also establish the basis for lessons learned from the reviews of prime 
vendor programs. Key points of the policy include: specific 
requirements for management oversight such as pricing and compliance 
audits; requiring all prime vendor contracts to comply with an 
established prime vendor pricing model; annual procurement management 
reviews for all prime vendor contracts; and requiring advance approval 
by headquarters for all prime vendor contracts, regardless of dollar 
value. Because this policy was still in draft form at the time of our 
review, we did not evaluate it. 

Conclusions: 

The prime vendor concept can be a useful approach to acquiring 
commercial goods and services, reducing delivery times, and decreasing 
the need for and costs of maintaining government inventory, but until 
DOD's prime vendor program receives the level of oversight it has been 
lacking, it remains vulnerable to the systemic pricing problems that 
have plagued it in the past. DLA's 2002 and 2003 internal reviews 
recommended corrective actions and DLA officials agreed to implement 
changes to better oversee prices. However, these changes, which 
included policies and procedures for pricing reviews, failed to prevent 
the problems highlighted in October and November 2005 because of a lack 
of management oversight by both logistics agency and supply center 
officials. Therefore, the new actions DLA is taking may not be 
effective until DLA provides the continual oversight which has been 
lacking. 

Recommendation: 

We recommend that the Secretary of Defense direct the Undersecretary of 
Defense, Acquisition, Technology and Logistics to ensure that the 
Director of the Defense Logistics Agency provide continual management 
oversight of the corrective actions to address pricing problems in the 
prime vendor program. 

Agency Comments and Our Evaluation: 

In written comments on a draft of this report, the Deputy Under 
Secretary of Defense for Logistics and Materiel Readiness, which is 
responsible for DLA oversight, concurred with our recommendation and 
identified corrective actions already being taken by DLA. DOD noted 
that DLA is committed to implementing the corrective actions and has 
assigned additional resources to oversee prime vendor contracts. In 
addition, the department stated that DLA will continue to monitor prime 
vendor programs to ensure the actions taken will produce the intended 
results. We noted that DOD's comments did not address what actions the 
Office of the Under Secretary of Defense for Acquisition, Technology, 
and Logistics would take to ensure that DLA will provide continual 
management oversight and contacted the office to clarify its role in 
overseeing DLA's corrective actions. We were told by a senior official 
from the Under Secretary's office that the office of the Deputy Under 
Secretary of Defense for Logistics and Materiel Readiness will review 
the implementation of the corrective actions in its regular management 
meetings with DLA. The written comments from the Deputy Under Secretary 
of Defense for Logistics and Materiel Readiness are included in 
enclosure 1 of this correspondence. 

Scope and Methodology: 

To determine the extent of pricing reviews conducted by DLA for items 
purchased through a prime vendor, we analyzed 16 prime vendor contracts 
(10 food service, 1 subsistence, and 5 maintenance, repair and 
operation), two contracts with the manufacturer of an aircraft 
refrigerator and four delivery orders to prime vendors for the same 
refrigerator to determine pricing control and audit requirements, and 
reviewed internal and external assessments of DLA's procurement 
management. In addition, we reviewed policies and procedures governing 
the use of prime vendors and prior GAO reports on the subject. Further, 
we discussed the mechanisms used to monitor price with DLA and DSCP 
officials; prime vendors located in Columbia and Lexington, South 
Carolina; customers located at Fort Jackson, South Carolina, and Fort 
Stewart, Georgia; a Naval Sea Systems Command official in Philadelphia, 
Pennsylvania; and a manufacturer located in Philadelphia, Pennsylvania. 

To determine the extent to which DLA has addressed the pricing issues 
identified at the November 2005 hearing we discussed with DSCP and DLA 
officials their ongoing and planned actions to rectify the management 
oversight weaknesses identified within the DSCP prime vendor programs 
and the changes and adjustments made to prime vendor contracts since 
they were first awarded. We also discussed with DCMA and DCAA the prime 
vendor contract and pricing reviews those agencies were conducting at 
DLA's request. Finally, we discussed the impacts of DLA's corrective 
actions with DSCP officials and with prime vendors located in Columbia 
and Lexington, South Carolina. 

We conducted our review from December 2005 through April 2006 in 
accordance with generally accepted government auditing standards. 

We are sending copies of this report to the Undersecretary of Defense, 
Acquisition, Technology and Logistics; the Deputy Undersecretary of 
Defense for Logistics and Materiel Readiness; the Director, Defense 
Logistics Agency; and interested congressional committees. 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]. 

Please contact me at (202) 512-8365 or solisw@gao.gov if you or your 
staff have any questions concerning this report. Contact points for our 
Offices of Congressional Relations and Public Affairs may be found on 
the last page of this report. Key contributors to this report were 
Marilyn Wasleski, Assistant Director; Vijay J. Barnabas; John Clary; 
Susan Ditto; Aaron Kaminsky; and Kenneth Patton. 

Sincerely yours, 

Signed by: 

William M. Solis, Director: 
Defense Capabilities and Management: 

Enclosure: 

Comments from the Department of Defense: 

Deputy Under Secretary Of Defense For Logistics And Materiel Readiness: 
3500 Defense Pentagon: 
Washington, D.C. 20301-3500: 

June 5, 2006: 

Mr. William Solis: 
Director, Defense Capabilities and Management: 
U.S. Government Accountability Office: 
Washington, DC 20548: 

Dear Mr. Solis: 

This is the Department of Defense (DoD) response to the GAO draft 
report GAO-06-7398, "DEFENSE MANAGEMENT: Attention is Needed to Improve 
Oversight of DLA Prime Vendor Program," dated May 24, 2006 (GAO Code 
350789). The GAO draft report acknowledges that the DLA is developing 
corrective actions to address the prime vendor pricing problems 
identified in November 2005 testimony but recommends that continual 
management oversight of the corrective actions is needed to ensure the 
problems do not continue. The DoD concurs with the recommendation and 
identifies actions already being taken by DLA. 

Detailed comments on the draft report recommendation are included in 
the enclosure. The DoD appreciates the opportunity to comment on the 
draft report. 

Signed by: 

Jack Bell:

Enclosure: As stated: 

GAO DRAFT REPORT - DATED MAY 24, 2006 GAO CODE 350789/GAO-06-739R: 

"DEFENSE MANAGEMENT: Attention Is Needed to Improve Oversight of DLA 
Prime Vendor Program" 

DEPARTMENT OF DEFENSE COMMENTS TO THE RECOMMENDATIONS: 

RECOMMENDATION 1: The GAO recommended that the Secretary of Defense 
direct the Under Secretary of Defense for Acquisition, Technology, and 
Logistics to ensure that the Director of the Defense Logistics Agency 
(DLA) provide continual management oversight of the corrective actions 
to address pricing problems in the prime vendor program. (Page 16/GAO 
Draft Report): 

DOD RESPONSE: Concur. After a November 2005, House Armed Services 
Committee hearing regarding pricing inconsistencies in DLA's food 
service equipment prime vendor program, DLA initiated an extensive 
internal review of the prime vendor process. DLA also engaged the 
Defense Contract Management Agency and Defense Contract Audit Agency to 
conduct additional reviews of the prime vendor program. Although the 
reviews indicate that a vast majority of prime vendor program 
expenditures are supporting the war fighter as intended, some 
vulnerabilities in business practices were identified and immediate 
corrective actions were taken. Processes are in place and have been 
reinforced to provide proper planning, execution, and aggressive 
oversight for all DLA prime vendor contracts. Improvements include 
assigning additional resources and increased emphasis on post award 
administration of these contracts. To ensure only fair and reasonable 
prices are paid, DLA has established agency standards for prime vendor 
pricing methodologies, a thorough review regime, and recurring audit 
procedures. 

All DLA acquisition and logistics personnel clearly understand 
priorities of customer support through appropriate acquisition 
strategies. In some cases, acquisition strategies have been adjusted to 
reassign programs to the best procurement approach. In addition, 
individual actions were taken to assign accountability for the issues 
raised with the food service equipment prime vendor program. DLA will 
continue to monitor prime vendor programs to ensure actions taken to 
date produce the intended results. Additional adjustments to prime 
vendor practices and procedures may be made as required to ensure the 
integrity of the programs. DLA is committed to ensuring that the prime 
vendor program continues to be a best business practice supporting the 
warfighter and will provide continual management oversight as 
recommended. 

(350789): 

FOOTNOTES 

[1] DLA is DOD's largest combat support agency, providing worldwide 
logistics support in both peacetime and wartime to the military 
services as well as several civilian agencies and foreign countries. 

[2] GAO, Defense Inventory: Opportunities Exist to Expand the Use of 
Defense Logistics Agency Best Practices, GAO/NSIAD-00-30 (Washington, 
D.C.: Jan. 26, 2000). A best commercial inventory practice is defined 
in The National Defense Authorization for Fiscal Year 1998 as a 
practice that enables the agency to reduce inventory levels and holding 
costs while improving the responsiveness of the supply system to user 
needs. 

[3] GAO, Defense Contract Pricing, GAO/HR-93-8 (Washington, D.C.: Dec. 
1, 1992), High-Risk Series: An Update, GAO/05-207 (Washington, D.C.: 
January 2005). 

[4] GAO, Standards for Internal Control in the Federal Government, AIMD-
00-21.3.1 (Washington, D.C.: Nov. 1999). 

[5] The MRO category is further broken out between supplies and 
services, with separate prime vendor contracts for each. 

[6] GAO, NSIAD-00-30. 

[7] DOD Medical Inventory: Reductions Can Be Made Through the Use of 
Commercial Practices GAO/NSIAD-92-58 (Washington, D.C.: Dec. 5, 1991); 
DOD Food Inventory: Using Private Sector Practices Can Reduce Costs and 
Eliminate Problems, GAO/NSIAD-93-110 (Washington, D.C.: June 4, 1993). 

[8] House Armed Services Committee Hearing on Prime Vendor Program of 
Defense Logistics Agency (Nov. 9, 2005). 

[9] A pricing agreement is a manufacturer's or distributor's agreement 
with DSCP to provide products at a specified price or discount. 

[10] Department of Defense Procurement Management, December 12, 2005 - 
January 25, 2006, Defense Contract Management Agency. 

[11] Items and quantities selected for inclusion in a market basket 
have not been consistent among the various commodities, according to 
DLA officials. For example, in subsistence (food and food service 
equipment), the samples have ranged from a low of 18 percent of the 
items to be purchased to a high of 75 percent. DLA is currently 
developing policy that will require that market baskets must represent 
75 percent of the anticipated dollar value of the planned acquisition. 

[12] These reviews considered whether contracting officials met all 
requirements of law, executive orders, regulations, and other 
procedures when contracting for supplies and services for the 
government. 

[13] FAR 17.207(c) requires that the contracting officer exercise 
options only after determining that (1) funds are available; 
(2) the requirement covered by the option fulfills an existing 
government need; 
(3) the exercise of the option is the most advantageous method of 
fulfilling that need, price, and other factors considered; 
and (4) that the option was synopsized in accordance with FAR Part 5 or 
properly exempted. 

[14] Department of Defense Procurement Management Review, December 12, 
2005 - January 25, 2006, Defense Contract Management Agency. 

[15] GAO/AIMD-00-21.3.1. 

[16] We note that the FAR generally requires a price determination on 
orders over $2,500 - FAR 2.101, FAR 13.106-3 and FAR 16.505(b)(3). 

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