Defense Logistics: Better Fuel Pricing Practices Will Improve Budget Accuracy (06/21/2002, GAO-02-582}

-------------------------Indexing Terms-------------------------
REPORTNUM:   GAO-02-582
    TITLE:   Defense Logistics: Better Fuel Pricing Practices Will Improve Budget Accuracy
     DATE:   06/21/2002



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United States General Accounting Office: 
GAO: 

Report to Congressional Committees: 

June 2002: 

Defense Logistics: 

Better Fuel Pricing Practices Will Improve Budget Accuracy: 

GAO-02-582: 

Contents: 

Letter: 

Results in Brief: 

Background: 

Fuel Prices Used in Budget Requests Do Not Reflect Full Cost: 

Conclusions: 

Recommendations for Executive Action: 

Agency Comments and Our Evaluation: 

Appendix I: Scope and Methodology: 

Appendix II: Comments from the Department of Defense: 

Appendix III: GAO Contacts and Staff Acknowledgments: 

Tables: 
Table 1: Cash Movements Out of the Working Capital Fund: 

Table 2: Effect That Cash Movements Could Have Had on the Stabilized 
Annual Fuel Price: 

Table 3: Difference Per Barrel between Estimated and Actual Surcharge 
Obligations for Fiscal Year 1993 through Fiscal Year 2001: 

Figures: 

Figure 1: Components of Fiscal Year 2003 Stabilized Annual Fuel Price 
of $35.28 per barrel: 

Figure 2: Budget Process for DOD Fuel: 

Figure 3: Stabilized Annual Fuel Prices and Crude Oil Cost Estimates 
for Fiscal Year 1993 through Fiscal Year 2003: 

Figure 4: Fuel-Related Cash Movements for Fiscal Years 1993 through 
2002: 

[End of section] 

United States General Accounting Office: 
Washington, DC 20548: 

June 21, 2002: 

Congressional Committees: 

The Defense Working Capital Fund is the financial vehicle the Department
of Defense (DOD) used to buy about $70 billion in commodities in fiscal
year 2001 for peacetime, contingency, and wartime missions. This amount
is estimated to grow to about $75 billion for fiscal year 2003. By 
statute (10 U.S.C. 2208), working capital funds are devices to 
effectively control and account for costs of goods and services 
provided. The departmentï¿½s financial management regulation states that 
fund activities will operate in a business-like fashion and incorporate 
full costs in determining the pricing of their products. The regulation 
also states that the activitiesï¿½ cost of operations should break-even 
over time and that losses can be occasionally funded through 
appropriations or by transfers from another DOD account. Annual DOD 
appropriations acts have also contained provisions transferring money 
from the fund under some circumstances. 

The National Defense Authorization Act for Fiscal Year 2001 (P.L. 106-
398) requires that we review the working capital fund activities to 
identify any potential changes in current management processes or 
policies that, if made, would result in a more efficient and economical 
operation. The act also requires that we review the Defense Logistics 
Agencyï¿½s (DLA) efficiency, effectiveness, and flexibility of 
operational practices and identify ways to improve services. One such 
DLA activity, the Defense Energy Support Center, sold about $4.7 
billion of various petroleum-related products to the military services 
in fiscal year 2001. The services primarily use their operation and 
maintenance appropriations to pay for these products. The basis for the 
military servicesï¿½ annual budget request to Congress related to fuel 
needs is what DOD refers to as the stabilized annual fuel price. The 
stabilized annual fuel price, along with the servicesï¿½ estimated fuel 
requirements, is used to compute budget estimates. Therefore, it is 
important that the fuel price accurately reflect the full cost as 
envisioned in the concept. If the price is too high, the fund will 
receive more funds than required, funds that otherwise could be used to 
meet other priorities. If the price is too low, the fund will not have 
sufficient funds to cover the cost of fuel, prompting DOD to either 
increase prices in future years, request a supplemental appropriation, 
or transfer funds from another DOD account. 

In response to the mandate, we have undertaken a body of work that will
result in a series of reports on working capital fund activities. This 
report addresses (1) whether DODï¿½s stabilized annual fuel prices have 
reflected the full cost of fuel and (2) our views on the process to 
establish the stabilized annual fuel price. 

To make the pricing assessment, we reviewed the pricing componentsï¿½-
crude oil cost estimates, cost to refine, adjustments, and surchargesï¿½ 
[Footnote 1] used in determining budget year fuel prices for fiscal 
years 1993-2003. Figure 1 identifies these components as a percentage 
of the total price for the fiscal year 2003 stabilized price, which is 
the amount per barrel that DLA charges its military customers. 

Figure 1: Components of Fiscal Year 2003 Stabilized Annual Fuel Price of
$35.28 Per Barrel: 

[Refer to PDF for image] 

Components of Fiscal Year 2003 Stabilized Annual Fuel Price of $35.28 
Per Barrel: 
Crude oil cost estimates: 53% ($18.63); 
Cost to refine: 23% ($7.99); 
Surcharge: 23% ($8.20); 
Net Adjustments: 1% ($0.46). 
 
Source: GAO analysis of DOD data. 

[End of figure] 

Although the net adjustment shown above was only $0.46 per barrel, it
represents positive and negative cash adjustments totaling $16.08 per
barrel (or $1.8 billion). Positive adjustments totaling $8.27 per 
barrel (or $910 million) included a $4.67 per barrel increase to 
compensate for not receiving an anticipated $514 million appropriation 
for fiscal year 2002. Negative adjustments totaling $7.81 per barrel 
(or $860.9 million) included decreasing the price by $6.13 per barrel 
as a result of an estimated decrease in refined oil prices for fiscal 
years 2002 and 2003. 

Results in Brief: 

DODï¿½s fuel prices have not reflected the full cost of fuel as 
envisioned in the working capital fund concept. This is because cash 
movements (adjustments) to the fund balance and surcharge inaccuracies 
have affected the stabilized annual fuel prices. First, fund balances 
have been used by Congress, and to a lesser extent DOD, to meet other 
priorities. The cash became available when crude oil costs were less 
than expected. Conversely, on one occasion, Congress appropriated money 
to the fund when higher-than-expected crude oil costs created a large 
loss. Both types of actions, while recognized by DODï¿½s Financial 
Management Regulation and disclosed in budget documents, affected the 
development of future yearsï¿½ stabilized annual fuel prices. Second, we 
identified inaccuracies in DODï¿½s surcharge estimates that also affected 
the development of prices based on full cost. More specifically our 
work shows 

* Over $4 billion was moved into and out of the working capital fund 
from fiscal year 1993 to 2002. These adjustments, which were made 
through the appropriations process and disclosed in DODï¿½s budget 
process, affected the extent to which subsequent yearsï¿½ prices 
reflected the full cost of fuel. The servicesï¿½ budget requests since 
fiscal year 1996 were about $2.5 billion higher over 5 years than full 
fuel costs and about $1.5 billion lower than the full fuel cost in 
another year. Congress, as part of the appropriation process, 
identified reasons for moving about $2 billion to meet other defense 
budget needs. Alternatively, in another instance the fund balance was 
increased when Congress provided about $1.6 billion in an emergency 
supplemental appropriation to offset fund losses in fiscal year 2000. 
This appropriation was necessary because of a worldwide increase in the 
price of crude oil. With congressional notification, $0.5 billion from 
the fund was used to pay for specific nonfuel-related expenses such as 
the Counter Drug Effort. However, DODï¿½s budget documents did not 
include a rationale for moving the funds. We noted in one instance that 
the Senate Appropriations Committee essentially reversed a DOD decision 
to use fund revenues for a nonfuel-related purpose during the 
appropriations process. Moving money into and out of the fund, which 
could be used to affect future fuel prices, causes future service 
appropriations to be higher or lower than they otherwise would be. 

* In addition, the surcharges did not accurately account for fuel-
related costs as required by DODï¿½s Financial Management Regulation, 
which further affected the development of full-cost-based fuel prices. 
This occurred for two reasons. First, the surcharges were not adjusted 
to reflect prior year results and did not include all costs. Even 
though the surcharge was overstated on average $99 million annually, no 
adjustments were made prior to fiscal year 2002. The surcharge also did 
not include inventory losses, which ranged from about $12.0 million to 
$27.5 million a year. Second, some costs were not adequately supported. 
For example, DLA could not provide the basis for its over $40-million 
annual overhead charge. 

To improve DODï¿½s fuel pricing process, we are making two 
recommendations to the Secretary of Defense. These recommendations
are to provide rationale to support future cash movements from the fund
and to require methodologies that fully account for and document the
surcharge costs. DOD generally concurred with the recommendations, but
provided explanatory comments. In general, DOD was concerned as to
whether it was necessary to have additional documentation to explain the
actions being taken. We continue to believe a formal record of the
rationale would be useful to improve full disclosure and accountability 
for funds. 

Background: 

DOD has been trying to successfully implement the working capital fund
concept for over 50 years. However, Congress has repeatedly noted
weaknesses in DODï¿½s ability to use this mechanism to effectively control
costs and operate in a business-like fashion. 

The Secretary of Defense is authorized by 10 U.S.C. 2208 to establish
working capital funds. The funds are to recover the full costs of goods 
and services provided, including applicable administrative expenses. 
The funds generally rely on sales revenue rather than direct 
appropriations or other funding sources to finance their operations. 
This revenue is then used to procure new inventory or provide services 
to customers. Therefore, in order to continue operations, the fund 
should (1) generate sufficient revenue to cover the full costs of its 
operations and (2) operate on a break-even basis over timeï¿½that is, not 
have a gain or incur a loss. In fiscal year 2001, the Defense Working 
Capital Fundï¿½which consisted of the Army, Navy, Air Force, Defense-
wide, and Defense Commissary Agency working capital fundsï¿½was the 
financial vehicle used to buy about $70 billion in defense commodities 
including fuel. 

The Defense Energy Support Center, as a subordinate command of DLA,
buys fuel from oil companies for its customers. Military customers
primarily use operation and maintenance appropriations to finance these
purchases. In fiscal year 2001, reported fuel sales totaled about
$4.7 billion, with the Air Force being the largest customer, purchasing
about $2.7 billion. 

Each year the Office of the Under Secretary of Defense (Comptroller)
faces the challenge of estimating and establishing a per barrel price 
for its fuel and other fuel-related commodities that will closely 
approximate the actual per barrel price during budget execution, almost 
a year later. The Office of the Under Secretary of Defense 
(Comptroller) establishes the stabilized annual price based largely 
upon the market price of crude oil as estimated by the Office of 
Management and Budget, plus a calculated estimate of the cost to 
refine. To this price is added other adjustments directed by Congress 
or DOD and a surcharge for DLA overhead and the operational costs of 
the Defense Energy Support Center. The services annually use these 
stabilized prices and their estimated fuel requirements based on 
activity levels (such as flying hours, steaming days, tank miles, and 
base operations) in developing their fuel budget requests.[Footnote 2] 
Figure 2 generally illustrates the process and the main organizations 
involved in budgeting for fuels. 

Figure 2: Budget Process for DOD Fuel: 

[Refer to PDF for image] 

This figure is an illustration of the budget process for DOD fuel, as 
follows: 

Stabilized price: 

OMB: Provides crude oil cost estimates; 
DESC: Computes cost to refine; 
DESC/DLA/OSD: Computes surcharge. 

Information is provided to: 
Office of the Secretary of Defense: Makes adjustments; 
Stabilized price is established. 

Estimated requirements: 

Begins with stabilized price; 
Total Army including tank-mile and flying-hour requirements; 
Total Navy including flying-hour and steaming requirements; 
Total Air Force including flying-hour requirements; 

Together these service requirements: 
Requirements X prices = services' operation and maintenance request; 
DOD's budget request; 
Congress approves with or without adjustments. 

Legend:
DESC: Defense Energy Support Center; 
OMB: Office of Management and Budget; 
OSD: Office of the Secretary of Defense. 

Source: Developed by GAO. 

[End of figure] 

The stabilized annual fuel prices computed by DOD have varied over the
years, largely due to volatility in the price of crude oil. For 
example, the stabilized annual fuel price and the Office of Management 
and Budgetï¿½s estimated crude oil price, on which the stabilized price 
was based for fiscal years 1993 through fiscal year 2003, are shown in 
figure 3. 

Figure 3: Stabilized Annual Fuel Prices and Crude Oil Cost Estimates 
for Fiscal Year 1993 through Fiscal Year 2003: 

[Refer to PDF for image] 

This figure is a multiple line graph depicting the following data: 

Stabilized Annual Fuel Prices and Crude Oil Cost Estimates (estimates 
in price per barrel): 

Fiscal year: 1993; 
Stabilized annual fuel price: $28.92; 
Crude oil cost estimates: $19.30. 

Fiscal year: 1994; 
Stabilized annual fuel price: $34.02; 
Crude oil cost estimates: $21.28; 

Fiscal year: 1995; 
Stabilized annual fuel price: $29.82; 
Crude oil cost estimates: $16.21. 

Fiscal year: 1996; 
Stabilized annual fuel price: $31.50; 
Crude oil cost estimates: $17.19. 

Fiscal year: 1997; 
Stabilized annual fuel price: $31.92; 
Crude oil cost estimates: $18.36. 

Fiscal year: 1998; 
Stabilized annual fuel price: $38.22; 
Crude oil cost estimates: $20.29. 

Fiscal year: 1999; 
Stabilized annual fuel price: $34.86; 
Crude oil cost estimates: $19.29. 

Fiscal year: 2000; 
Stabilized annual fuel price: $26.04; 
Crude oil cost estimates: $14.12. 

Fiscal year: 2001; 
Stabilized annual fuel price: $42.42; 
Crude oil cost estimates: $18.62. 

Fiscal year: 2002; 
Stabilized annual fuel price: $42.00; 
Crude oil cost estimates: $23.42. 

Fiscal year: 2003; 
Stabilized annual fuel price: $35.28; 
Crude oil cost estimates: $18.63. 

Source: GAO analysis of Office of Management and Budget and DOD data. 

[End of figure] 

The stabilized fuel price for each budget year remains unchanged until 
the next budget year, to provide price stability during budget 
execution. According to DODï¿½s Financial Management Regulation, 
differences between the budget year price and actual prices occurring 
during the execution year should increase or decrease the next budget 
yearï¿½s price. However, according to DODï¿½s Financial Management 
Regulation, fund losses can occasionally be covered by obtaining an 
appropriation from Congress or by transferring funds from another DOD 
account. DOD is also authorized to move money out of the fund by annual 
appropriation acts.[Footnote 3] These acts limit the amount of funds 
that can be moved and the purposes for which the funds can be used. 
Specifically, money can only be removed from the fund for higher 
priority items, based on unforeseen military requirements, than those 
for which originally appropriated and cannot be used for items 
previously denied by Congress. These acts also require the Secretary of 
Defense to notify Congress of transfers made under this authority. 

Fuel Prices Used in Budget Requests Do Not Reflect Full Cost: 

The stabilized annual fuel prices used in the servicesï¿½ budget requests 
to Congress do not reflect the full cost of fuel because of cash 
movements (adjustments) and inaccurate surcharges. Therefore, the 
servicesï¿½ budgets for fuel may be greater or less than needed and funds 
for other readiness needs may be adversely affected. Based on our 
review of Office of Management and Budget and Defense Energy Support 
Center methodologies, the crude and refined oil price components 
appeared reasonable (see app. I for details). However, in fiscal years 
1993-2002, cash movements into and out of the fund (adjustments) 
amounting to over $4 billion, while disclosed to Congress in DOD budget 
documents, were used for other purposes rather than to lower or raise 
prices. Some of the cash was moved at the direction of Congress and 
some at the direction of DOD. Congress makes such decisions as part of 
its budget deliberations. While authorized to move funds, DOD did not 
provide Congress with any rationale for the movements based on the 
limitations in the applicable appropriations acts. Identifying the 
rationale for moving these funds would be helpful to DOD and 
congressional decisionmakers as part of the budget review process. 
Removing money from the fund, which could be used to reduce future fuel 
prices, causes future service appropriations to be higher than they 
otherwise would be. In addition, the estimated surcharge component of 
the price used in budgeting was consistently higher than actual; it did 
not contain all costs; and in some cases, the costs were not adequately 
supported. 

Cash Movements Masked the Full Cost of Fuel and Affected the Budget: 

Substantial cash movements (adjustments) into and out of the fund, while
disclosed to Congress in budget documents, have kept prices from
reflecting the full cost of fuel and affected the development of future 
yearsï¿½ stabilized annual fuel prices. As a result, the fuel-related 
portion of the servicesï¿½ operation and maintenance budgets totaled 
about $2.5 billion too high in 5 fiscal years and about $1.5 billion 
too low in another. The cash taken out of the fund went for the 
servicesï¿½ operation and maintenance and other nonfuel-related expenses. 
Further, Congress provided a $1.56 billion emergency supplemental 
appropriation in fiscal year 2000 to help offset a loss due to a 
worldwide increase in crude oil prices. This was necessary because DOD 
had established a stabilized price of $26.04 per barrel but the actual 
cost that year was $48.58 per barrel. This appropriation allowed DOD to 
avoid recovering the loss through a price increase. Figure 4 shows the 
various fuel-related cash movements during fiscal years 1993 through 
2002. 

Figure 4: Fuel-Related Cash Movements for Fiscal Years 1993 through 
2002: 

[Refer to PDF for image] 

This figure is a vertical bar graph depicting the following data: 

Fiscal year: 2993; 
Movement out: -$588 million; 
Movement in: None. 

Fiscal year: 1994; 
Movement out: -$141; 
Movement in: None. 

Fiscal year: 1995; 
Movement out: None; 
Movement in: None. 

Fiscal year: 1996; 
Movement out: None; 
Movement in: None. 

Fiscal year: 1997; 
Movement out: -$192; 
Movement in: None. 

Fiscal year: 1998; 
Movement out: -$695; 
Movement in: None. 

Fiscal year: 1999; 
Movement out: -$125; 
Movement in: $1,556; 

Fiscal year: 2000; 
Movement out: -$800; 
Movement in: None. 

Fiscal year: 2001; 
Movement out: None; 
Movement in: None. 

Fiscal year: 2002; 
Movement out: None; 
Movement in: None. 

Source: GAO analysis of DOD data. 

[End of figure] 

Table 1 shows the various cash movements out of the working capital fund
from fiscal years 1993 through 2002. In total, about $2.5 billion of
fuel-generated funds was removed from the fund. Of this amount,
$0.5 billion was used to pay for specific nonfuel-related expenses such 
as the Counter Drug Effort. The remaining $2.0 billion was used to meet 
the servicesï¿½ other operation and maintenance needs. 

Table 1: Cash Movements Out of the Working Capital Fund (Dollars in 
millions): 

Action: Service Operation and Maintenance Account; 
Amount: $2,037.5. 

Action: Subtotal; 
Amount: $2,037.5; 
Total: $2,037.5. 

Action: Air Force Working Capital Fund; 
Amount: $125.0. 

Action: U.S. Transportation Command; 
Amount: $107.0. 

Action: Defense Commissary Agency; 
Amount: $85.0. 

Action: Army Transportation in Bosnia; 
Amount: $81.0. 

Action: Army National Guard; 
Amount: $60.0. 

Action: Counter Drug Effort; 
Amount: $45.0. 

Action: Subtotal; 
Amount: $503.0
Total: $503.0 

Action: Total; 
Total: $2,540.5. 

Source: GAO analysis of DOD data. 

[End of table] 

In reviewing these cash movements, we noted that DOD had notified 
Congress. However, when doing so, DOD did not provide rationale for the
cash movements based on the law, which stipulates that the authority for
such movements may not be used, unless for higher priority items, based
on unforeseen military requirements, and where the item for which the
funds are requested has not been previously denied by Congress. As a
good management practice, such rationale, along with other information,
such as the impact on future prices, would serve to provide more 
visibility to cash movements. In fact, in one instance, the Senate 
Appropriations Committee disallowed the $125-million request created 
when DOD moved these funds from the Defense-wide Working Capital Fund 
to cover Air Force Working Capital Fund losses. The Senate 
Appropriations Committee Report on the Department of Defense 
Appropriation Bill, 2002 and Supplemental Appropriations, 2002, stated 
that it could not support such a cash movement because it was 
inconsistent with DODï¿½s existing policies for recovering working 
capital fund losses. As a result, the committee reduced the 
appropriation to DODï¿½s working capital fund by that amount. 

Table 2 shows the effect of these cash movements on the stabilized 
annual fuel price if they had been used to lower or raise future year 
prices. 

Table 2: Effect That Cash Movements Could Have Had on the Stabilized 
Annual Fuel Price (Dollars per barrel): 

Fiscal year affected: 1996; 
Stabilized price: $31.50; 
Cash out of fund: ($4.91); 
Cash into fund: 0; 
Adjusted price including movements: $26.59; 
Percent change: ($15.6). 

Fiscal year affected: 1997; 
Stabilized price: $31.92; 
Cash out of fund: ($1.18); 
Cash into fund: 0; 
Adjusted price including movements: $30.74; 
Percent change: ($3.7). 

Fiscal year affected: 1998; 
Stabilized price: $38.22; 
Cash out of fund: 0; 
Cash into fund: 0; 
Adjusted price including movements: $38.22; 
Percent change: 0. 

Fiscal year affected: 1999; 
Stabilized price: $34.86; 
Cash out of fund: 0; 
Cash into fund: 0; 
Adjusted price including movements: $34.86; 
Percent change: 0. 

Fiscal year affected: 2000; 
Stabilized price: $26.04; 
Cash out of fund: ($1.76); 
Cash into fund: 0; 
Adjusted price including movements: $24.28; 
Percent change: ($6.8). 

Fiscal year affected: 2001; 
Stabilized price: $42.42; 
Cash out of fund: ($6.45); 
Cash into fund: 0; 
Adjusted price including movements: $35.97; 
Percent change: ($15.2). 

Fiscal year affected: 2002; 
Stabilized price: $42.00; 
Cash out of fund: ($1.13); 
Cash into fund: $14.12; 
Adjusted price including movements: $54.99; 
Percent change: $30.9. 

Fiscal year affected: 2003; 
Stabilized price: $35.28; 
Cash out of fund: ($7.27); 
Cash into fund: 0; 
Adjusted price including movements: $28.01; 
Percent change: ($20.6). 

Note: Numbers in parentheses are negative. 

Source: GAO analysis of DOD data. 

[End of table] 

Cash removed in 5 years caused the servicesï¿½ fuel budgets to be about
$2.5 billion higher than necessary because the prices could have been
lowered. For example, $800 million removed in fiscal year 2001 caused 
the stabilized price in fiscal year 2003[Footnote 4] to be $7.27 per 
barrel higher than necessary. As a result, the servicesï¿½ fiscal year 
2003 fuel budgets were overstated by $800 million. However, in fiscal 
year 2000, a $1.43 billion net cash movement into the fund caused the 
fiscal year 2002 stabilized price to be $12.99 per barrel lower than 
necessary to recover the full cost. As a result, the servicesï¿½ fiscal 
year 2002 budgets were understated by $1.43 billion. 

While military service comptroller officials responsible for managing 
fuel costs for each service stated that they were aware that DOD sets 
the stabilized annual fuel price that they must use in the budget 
process, they believed any gains in 1 year were being used to lower 
future fuel prices. These officials were not aware that funds generated 
from fuel sales in 1 year were being used to pay for nonfuel-related 
DOD needs. In their view, lower prices would have allowed them to use 
more of their operation and maintenance funds for other priorities. 

Surcharge Inaccuracies also Affect Budget Information: 

The estimated surcharge portion of the price supporting budget requests
has not accurately accounted for fuel-related costs consistent with 
DODï¿½s Financial Management Regulation. The surcharges were consistently
higher than actual but did not include all costs. Furthermore, some 
costs were not adequately supported. These problems were due to 
deficient methodologies and record-keeping. As a result the stabilized 
annual prices and resulting servicesï¿½ budgets were inaccurate. 

Surcharge Overstatements: 

Consistent surcharge overstatements caused the stabilized annual price 
of fuel to be higher than necessary and cost customers on average about
$99 million annually from fiscal years 1993 through 2001. Our analysis 
of the surcharge costs shows that the estimated obligations exceeded 
actual obligations for every year from fiscal years 1993 through 2001 
except for fiscal year 1999 as shown in table 3 below. 

Table 3: Difference Per Barrel between Estimated and Actual Surcharge 
Obligations for Fiscal Year 1993 through Fiscal Year 2001 (Dollars in 
millions): 

Fiscal year: 1993; 
Estimated: $5.35; 
Actual: $5.27; 
Difference: $0.08; 
Number of barrels sold (in millions): 140.8; 
Difference: $11.3. 

Fiscal year: 1994; 
Estimated: $5.70; 
Actual: $5.54; 
Difference: $0.16; 
Number of barrels sold (in millions): 127.9; 
Difference: $20.5. 

Fiscal year: 1995; 
Estimated: $6.08; 
Actual: $5.53; 
Difference: $0.55; 
Number of barrels sold (in millions): 110.0; 
Difference: $60.5. 

Fiscal year: 1996; 
Estimated: $6.75; 
Actual: $4.24; 
Difference: $2.51; 
Number of barrels sold (in millions): 120.1; 
Difference: $301.5. 

Fiscal year: 1997; 
Estimated: $6.69; 
Actual: $4.22; 
Difference: $2.47; 
Number of barrels sold (in millions): 111.7; 
Difference: $275.9. 

Fiscal year: 1998; 
Estimated: $6.65; 
Actual: $5.41; 
Difference: $1.24; 
Number of barrels sold (in millions): 111.3; 
Difference: $138.0. 

Fiscal year: 1999; 
Estimated: $7.32; 
Actual: $7.30; 
Difference: 0; 
Number of barrels sold (in millions): 112.5; 
Difference: 0. 

Fiscal year: 2000; 
Estimated: $7.16; 
Actual: $6.69; 
Difference: $0.47; 
Number of barrels sold (in millions): 107.7; 
Difference: $50.6. 

Fiscal year: 2001; 
Estimated: $7.34; 
Actual: $7.02; 
Difference: $0.32; 
Number of barrels sold (in millions): 110.3; 
Difference: $35.3. 

Fiscal year: Total; 
Estimated: $59.04; 
Actual: $51.24; 
Difference: $7.80; 
Number of barrels sold (in millions): 1052.3; 
Difference: $893.6. 

Fiscal year: Average; 
Estimated: $6.56; 
Actual: $5.69; 
Difference: $0.87; 
Number of barrels sold (in millions): 116.9; 
Difference: $99.3. 

Source: GAO analysis of DOD data. 

[End of table] 

We recognize that variances will occur between estimated and actual
surcharge obligations. Differences, however, should be assessed annually
and appropriate adjustments made to the next yearï¿½s surcharge. We found
that no adjustments for these overcharges, as required by DODï¿½s 
Financial Management Regulation, were made in fiscal years 1994 through 
2001. After we brought this to DODï¿½s attention, adjustments were made 
when computing the fuel price for fiscal years 2002 and 2003. 

All Surcharge Costs Not Included: 

The surcharges, however, did not include all required costs. Inventory
losses were not included in the surcharge as required by DODï¿½s Financial
Management Regulation.[Footnote 5] For fiscal years 1993 through 2000, 
these losses ranged from $12.0 million to $27.5 million a year. Adding 
these losses would have increased surcharges by about 9 to 23 cents per 
barrel. While officials stated that inventory losses were a factor in 
determining the number of barrels to be purchased, this practice does 
not comply with DODï¿½s regulation, which stipulates that inventory 
losses should be included in the surcharge. 

Inadequate Support: 

Our analysis of the estimated surcharge components disclosed that
support for some costs was inadequate. We found that DLA had
inadequate support for its $40-million annual headquarters overhead
charge that is passed on to the Defense Energy Support Center. This
amount equated to over 5 percent of the fiscal year 2002 and 7 percent 
of the fiscal year 2003 surcharges. While DLA has a methodology for
allocating its overhead costs to the affected business activities, we 
could not verify/validate the portion that was assessed to the center. 
As a result, we could not determine whether the Defense Energy Support 
Center was charged the appropriate amount. This is of particular 
concern because in the most recent budget submission for fiscal year 
2003, DLA requested a $16.9 million increase in its overhead charges to 
the center. The Office of the Under Secretary of Defense (Comptroller) 
refused to grant the increase because it did not believe the increase 
was merited. 

Furthermore, the Defense Energy Support Center could not provide
support for the $342 million terminal operations component cost for 
fiscal years 1997 and 1998. There was also about a $2 million 
difference between supporting documentation and the budgeted amount for 
depreciation in fiscal year 2001. The Defense Energy Support Center 
could not support any of the component costs prior to fiscal year 1997. 
According to officials, this documentation was not maintained during 
the move to their current location. 

Conclusions: 

Fuel prices have not reflected full costs. Fund cash balances have been
used by Congress, and to a lesser extent DOD, to meet other budget
priorities. Given the volatility in crude oil prices, these cash 
balances are DODï¿½s primary means of annually dealing with drastic 
increases and decreases in fuel costs. Furthermore, DOD has removed 
cash from the fund without providing Congress with a rationale based on 
appropriation act language. In one recent instance, Congress reversed 
one of DODï¿½s cash movement decisions. DOD also has not calculated 
surcharges consistent with the governing financial management 
regulation. 

Recommendations for Executive Action: 

To improve the overall accuracy of DODï¿½s fuel pricing practices, we
recommend that the Secretary of Defense direct DODï¿½s comptroller to: 

* Provide a rationale to Congress, consistent with language in the 
applicable appropriations act, to support the movement of funds from 
the working capital fund and to identify the effect on future prices. 

* Require DLA and the Defense Energy Support Center to develop and
maintain sound methodologies that fully account for the surcharge costs
consistent with DODï¿½s Financial Management Regulation and maintain
adequate records to support the basis for all surcharge costs included 
in the stabilized annual fuel price. 

Agency Comments and Our Evaluation: 

DOD generally concurred with the recommendations, but provided
explanatory comments on each one. With regard to our recommendation
that it provide Congress the rationale for cash movements, DOD stated
that information is already being provided through formal and informal
means that it believes are sufficient to report why cash was moved. We
recognize this may be occurring; however, we believe that to improve
visibility of fund operations, it is reasonable to provide a formal 
record of the rationale to fully disclose and account for each cash 
movement. Such a formal record does not exist; therefore, we continue 
to believe our recommendation is appropriate. 

In concurring with the recommendation to maintain adequate records,
DOD expressed concern about how long to retain them and proposed
5 years. We believe DODï¿½s proposal represents a reasonable timeframe
consistent with our recommendation. 

In its cover letter conveying the recommendations, DOD stated our report
overlooks the fact that while covering gains or losses to the fund by 
either decreasing or increasing fuel prices the next year is a basic 
principle, it is not often practical to rely exclusively on this 
principle when establishing such prices because of transfers into and 
out of the fund. We disagree. While our report points out that under 
the working capital fund concept fuel prices should cover gains and 
loses, it also acknowledges that there have been numerous transfers. 
Our point is that to ensure fund accountability when such transfers 
occur, DODï¿½s fuel pricing practices should include providing Congress a 
full disclosure of the rationale for the transfer and its impact on the 
price. Otherwise, the ability of the working fund to effectively 
control and account for costs of goods and services is compromised. 

DODï¿½s comments are printed in appendix II. DOD also provided technical
comments, which we have incorporated as appropriate. 

We performed our review in accordance with generally accepted 
government auditing standards. Further details on our scope and
methodology can be found in appendix I. 

We are sending copies of this report to the Senate Committee on
Governmental Affairs; House Committee on Government Reform; Senate
and House Committees on the Budget; and other interested congressional
committees; the Secretary of Defense; and the Director, Defense 
Logistics Agency. Copies will also be made available to others upon 
request. In addition, the report will be available at no cost on the 
GAO Web site at [hyperlink, http://www.gao.gov]. 

If you or your staff have questions concerning this report, please 
contact us on (202) 512-8412. Staff acknowledgements are listed in 
appendix III. 

Singed by: 

David R. Warren: 
Director, Defense Capabilities and Management: 

Signed by: 
Gregory D. Kutz: 
Director, Financial Management and Assurance: 

[End of section] 

List of Committees: 

The Honorable Carl Levin:
Chairman:
The Honorable John W. Warner:
Ranking Member:
Committee on Armed Services:
United States Senate: 

The Honorable Daniel K. Inouye:
Chairman:
The Honorable Ted Stevens:
Ranking Member:
Subcommittee on Defense:
Committee on Appropriations:
United States Senate: 

The Honorable Bob Stump:
Chairman:
The Honorable Ike Skelton:
Ranking Minority Member:
Committee on Armed Services:
House of Representatives: 

The Honorable Jerry Lewis: 
Chairman:
The Honorable John P. Murtha:
Ranking Minority Member:
Subcommittee on Defense:
Committee on Appropriations:
House of Representatives: 

[End of section] 

Appendix I: Scope and Methodology: 

In assessing the accuracy of DODï¿½s stabilized annual fuel prices from 
fiscal years 1993-2003, we reviewed each of the four componentsï¿½crude 
oil cost estimates, cost to refine, adjustments, and surchargesï¿½and 
identified the major offices, DOD organizations, and other components 
involved in pricing. For the crude oil cost estimate component, we 
reviewed the Office of Management and Budgetï¿½s methodology for 
estimating crude oil prices. We discussed the Office of Management and 
Budgetï¿½s methodology with the analyst that prepares the forecasted 
crude oil prices. We also reviewed the Office of Management and 
Budgetï¿½s use of West Texas Intermediate crude oil futures prices and 
the historical relationships between those prices and domestic, 
imported, and composite crude oil prices in making crude oil price 
forecasts. We concluded that this approach was reasonable. For the cost 
to refine component, we reviewed the Defense Energy Support Centerï¿½s 
methodology for calculating refined costs. In assessing the Defense 
Energy Support Centerï¿½s methodology, we relied on our previous analysis 
of its regression equation and a suggested change that was adopted. 
This same methodology was being used as of May 2002 and remains 
reasonable. 

For the third component of fuel pricingï¿½adjustmentsï¿½we discussed and
examined Office of the Under Secretary of Defense (Comptroller) 
documents related to stabilized annual fuel prices and applicable 
Program Budget Decisions to determine what costs were included in the
component. To determine criteria, we reviewed the applicable portions of
DODï¿½s Financial Management Regulation and the legislative history
pertaining to the creation of revolving funds since 1949. To identify 
any fuel-related cash movements into or out of the working capital fund 
that occurred and might have affected adjustments, we interviewed 
various DOD officials and obtained and reviewed the applicable 
appropriations acts and the committee and conference reports on those 
acts. We analyzed the results, developed a methodology for determining 
the effect, and discussed our conclusions with various DOD program and 
budget officials. 

Finally, for the fourth component of fuel pricingï¿½surchargesï¿½we 
obtained, reviewed and discussed DLA and Defense Energy Support Center 
methodologies and documentation used in computing the estimated and 
actual surcharge costs. To identify criteria for what surcharge costs 
should include, we obtained and reviewed DODï¿½s Financial Management 
Regulation and any other policies and procedures governing or affecting 
fuel pricing. To determine whether the support for the surcharge costs 
was adequate, we requested, reviewed, and analyzed pertinent 
documentation and records supporting budgeted and actual obligations 
for each surcharge element for fiscal years 1993-2003. 

However, officials were unable to provide support for estimated 
surcharge costs from fiscal years 1993-1996 and were unable to provide 
support for several actual costs for fiscal years 1993 and 1994. 

We met with and/or contacted various program and budget officials within
the Office of the Secretary of Defense; Office of Management and Budget;
DLA Headquarters; Defense Energy Support Center; and the various
military services. 

We performed our work from June 2001 to April 2002 in accordance with
generally accepted government auditing standards. As part of our review,
we examined DODï¿½s Financial Management Regulation to ensure that it
incorporated the Statement of Federal Financial Accounting Standards 
(SFFAS) No. 4 ï¿½Managerial Cost Accounting Standardsï¿½ (Feb. 28, 1997). 
We did not independently verify DODï¿½s financial information used in this
report. Prior GAO and Department of Defense Inspector General audit 
reports and Federal Managerï¿½s Financial Integrity Act reports have 
identified inadequacies in the fundï¿½s accounting and reporting. As 
discussed in our report on the results of our review of the fiscal year 
2001 Financial Report of the U.S. Government,[Footnote 6] DODï¿½s 
financial management deficiencies, taken together, continue to 
represent the single largest obstacle to achieving an unqualified 
opinion on the U.S. governmentï¿½s consolidated financial statements. 

Appendix II: Comments from the Department of Defense: 

Under Secretary Of Defense: 
Comptroller: 
1100 Defense Pentagon: 
Washington, DC 20301-1100: 

June 14, 2002: 

Mr. David R. Warren: 
Director, Defense Capabilities and Management: 
U.S. General Accounting Office: 
Washington, D.C. 20548: 

Dear Mr. Warren: 

This is the Department of Defense (DoD) response to the GAO draft 
report, GAO-02-582, "Defense Logistics: Better Fuel Pricing Practices 
Will Improve Budget Accuracy," dated May 10, 2002 (GAO Code 350045). 
The DoD partially concurs with one recommendation and concurs with 
comment on the other recommendation included in the draft report. 

The report focuses on the general principle that gains or losses to the 
Working Capital Fund because of actual fluctuations of fuel prices are 
to be covered by either decreases or increases in the stabilized fuel 
prices in the following budget year. The report overlooks the fact 
that, while this method may be a basic principle in establishing such 
prices, it is not often practical or reasonable to rely exclusively on 
this principle in considering fuel prices. Both the law and regulations 
permit transfers in and out of the Working Capital Fund to address 
exigencies arising during the course of the fiscal year. While 
transfers into and from the Working Capital Fund with respect to any 
fiscal year can have an impact on the establishment of the stabilized 
fuel price for the following budget year, the Department does not 
believe that this is any indication of any basic flaw in the process, 
but rather a recognition of the realities of budgetary formulation, the 
appropriations process, and budgetary execution. 

Comments on the draft report recommendations, along with additional 
comments concerning specific parts of the report that need 
clarification or correction are included in the enclosures. 

The Department appreciates the opportunity to comment on the draft 
report. 

Sincerely, 

Signed by: 

Dov S. Zakheim: 

Enclosures: As stated: 

GAO Draft Report Dated May 10, 2002: 
(GAO Code 350045)/OSD Case: 
"Defense Logistics: Better Fuel Pricing Practices Will Improve Budget 
Accuracy" 

Department Of Defense Comments To The GAO Recommendations: 

Recommendation 1: The GAO recommended that the Secretary of Defense 
direct the Comptroller to provide a rationale to Congress, consistent 
with language in the applicable appropriations act, to support the 
movement of funds from the working capital fund and to identify the 
affect [sic] on future prices. 

DOD Response: Partially concur. This recommendation overlooks two 
important factors concerning transfers that have been made with respect 
to fuel prices. 

The first is that the vast majority of transfers that have been made in 
the past are specific statutory transfers reflecting congressional 
action in connection with annual appropriations acts. Congress either 
acted on its own initiative or in response to information provided to 
the appropriations committees by the Department concerning fuel pricing 
issues. By both formal and informal means, the Department provides 
information to congressional committees concerning fuel price issues, 
including transfers. Therefore, we believe that Congress is clearly 
aware of the impacts of all issues, including issues presented by 
transfers, that might have an impact on both current and future fuel 
prices. 

The second is that, in the case of a general statutory transfer under 
either the Department's general transfer authority provision (e.g., 
section 8005 of the FY 2002 Appropriations Act) or the general 
provision specifically providing transfer authority for working capital 
funds (e.g., section 8006 of the FY 2002 Appropriations Act) transfers 
are only made to meet the needs and exigencies of the fiscal year in 
which they are made. If such transfers involve fuel pricing issues, the 
congressional committees would be aware of any impact of such transfers 
on fuel costs and charges. 

Finally, the comments in the draft report concerning such general 
transfers indicate that they deal with matters that would be applicable 
to the Department's general transfer authority (FY 2002 section 8005), 
rather than the specific working capital fund transfer authority 
provision (FY 2002 section 8006). In fact, in the last 9 years only one 
of the Working Capital Fund transfers has involved the use of the 
general transfer authority general provision. In either case, however, 
the Department believes that the notification procedures that have 
case, however, the Department believes that the notification procedures 
that have been developed over the years are sufficient to provide the 
congressional committees with the information that they need with 
respect to transfers under either of the provisions. We also believe 
that the committees share this view. 

Recommendation 2: The GAO recommended that the Secretary of Defense 
direct the Comptroller to require the Defense Logistics Agency and the 
Defense Energy Support Center to develop and maintain sound 
methodologies that fully account for the surcharge costs consistent 
with DoD's Financial Management Regulation (FMR) and maintain adequate 
records to support the basis for all surcharge costs included in the 
stabilized annual fuel price. 

DOD Response: Concur, with comment. To the extent that the 
recommendation concerns maintenance of records beyond the period 
generally established under the Federal Records Retention Schedules, it 
is overly broad. 

With respect to the foregoing, General Records Schedule 5 "Budget 
Preparation, Preservation, and Apportionment Records" appears to be the 
applicable schedule with respect to the type of records involved. Under 
this schedule, information concerning the surcharge costs for any 
particular fiscal year (developed in connection with the Department's 
budget request) would appear to fall within either the category of 
"Budget Correspondence Files," (destruction authorized when 2 years 
old) or "Budget Background Records" (destruction authorized when 1 year 
old). While records relating to the basis on which the surcharge is 
calculated are only relevant to one fiscal year, the Department 
recognizes that there might be some need for some historical 
information beyond the period authorized for the destruction of such 
records. Accordingly, we plan to maintain such historical records in 
detail for 5 years after they were created. 

[End of section] 

Appendix III: GAO Contacts and Staff Acknowledgments: 

GAO Contacts: 

Richard G. Payne (757) 552-8119: 
Dudley C. Roache, Jr. (757) 552-8117: 

Acknowledgments: 

In addition to those named above, Bob Coleman, Jane Hunt, Patricia
Lentini, Charles Perdue, Greg Pugnetti, Chris Rice, Gina Ruidera, 
Malvern Saavedra, and John Van Schaik made key contributions to this 
report. 

[End of section] 

Footnotes: 

[1] Crude oil cost estimates are forecasted crude oil prices provided 
by the Office of Management and Budget. Cost to refine is the Defense 
Energy Support Centerï¿½s calculated estimate of the cost to refine crude 
oil. Adjustments are increases and decreases to the price to account 
for a variety of factors such as prior year fund losses, legal 
judgments, and rounding. Surcharges are comprised of DLA overhead costs 
and Defense Energy Support Center operational costs such as 
transportation, labor, and maintenance. 

[2] Because of wide variations, volatility of fuel prices, and their 
corresponding impact on the budget, GAO provides periodic updated 
information to appropriation and authorization committees that shows 
the impact of more recent fuel price estimates on the servicesï¿½ budget 
requests. 

[3] Section 8005, P.L. 107-117, is the most current iteration of this 
authority. Appropriations acts for recent fiscal years include similar 
provisions. 

[4] Budgets are developed using stabilized prices established about a 
year in advance for any given fiscal year. 

[5] Volume 2B, chapter 9, paragraph 090203 C. 

[6] U.S. General Accounting Office, U.S. Government Financial 
Statements - FY 2001 Results Highlight the Continuing Need to 
Accelerate Federal Financial Management Reform [hyperlink, 
http://www.gao.gov/products/GAO-02-599T], Apr. 9, 2002. 

[End of section] 

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