Defense Inventory: Army Needs to Strengthen Internal Controls for
Items Shipped to Repair Contractors (13-DEC-05, GAO-06-209).	 
                                                                 
GAO has previously reported that the lack of control over	 
inventory shipments increases the Department of Defense's (DOD)  
vulnerability to undetected loss or theft. GAO evaluated the	 
Army's effectiveness in maintaining accountability of inventory  
shipped to repair contractors. To conduct its review, GAO	 
analyzed shipment data for fiscal year 2004, surveyed repair	 
contractors that were recipients of inventory shipments, and	 
assessed the Army's adherence to internal control procedures.	 
Inventory shipments included both secondary repair		 
items--components, assemblies, and subassemblies, other than	 
major end items, which may be sent to commercial facilities for  
repair, alteration, or modification--and government-furnished	 
materiel--assemblies, parts, and other items provided in support 
of this work.							 
-------------------------Indexing Terms------------------------- 
REPORTNUM:   GAO-06-209 					        
    ACCNO:   A43138						        
  TITLE:     Defense Inventory: Army Needs to Strengthen Internal     
Controls for Items Shipped to Repair Contractors		 
     DATE:   12/13/2005 
  SUBJECT:   Accountability					 
	     Department of Defense contractors			 
	     Internal controls					 
	     Inventory control					 
	     Inventory control systems				 
	     Military inventories				 
	     Military materiel					 
	     Records						 
	     Records management 				 
	     Surveys						 
	     Repair contracts					 
	     Military policies					 

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GAO-06-209

Report to Congressional Requesters

December 2005

DEFENSE INVENTORY

Army Needs to Strengthen Internal Controls for Items Shipped to Repair
Contractors

Contents

Tables

December 13, 2005Letter

The Honorable Richard J. Durbin The Honorable Tom Harkin United States
Senate

The Honorable Peter A. DeFazio The Honorable Carolyn B. Maloney House of
Representatives

Every year the Army ships thousands of items from its inventory to
commercial contractors for repair, alterations, or modification. These
items range from small components, such as circuit card assemblies, to
larger, expensive items like turbine engines. In addition, contractors may
receive parts from the Army supply system for use in this work. In fiscal
year 2004, for example, Army records show that the U.S. Army Aviation and
Missile Command and the U.S. Army Tank-automotive and Armaments Command
authorized shipment of about 70,000 items worth approximately $970 million
to repair contractors. To safeguard government-owned assets while they are
in transit, Department of Defense (DOD) and Army policies require Army
supply activities to follow specific procedures for managing and
maintaining accountability of inventory provided to commercial
contractors.

Since at least 1990, we have considered DOD supply chain and inventory
management to be a high-risk area due to ineffective management systems
and procedures. Among the issues facing the department has been a lack of
control over inventory shipments, which increases DOD's vulnerability to
undetected loss or theft and also increases the risk that millions of
dollars will be spent on procuring unnecessary items.

In response to your request, we evaluated the Army's effectiveness in
maintaining accurate accountability of inventory shipped to repair

contactors. Our review included shipments of both secondary repair items
and government-furnished materiel.1

This report is the third and last in a series of reports focusing on the
services' inventory management procedures for controlling materiel shipped
to repair contractors. In July 2002, we reported that the Air Force either
did not adhere to, or did not establish, effective controls for assets
shipped to its repair contractors for repair or for use in the repair of
other assets.2 More recently, we reported in July 2004 that the Naval
Inventory Control Point and its repair contractors did not follow a number
of DOD and Navy procedures for maintaining accountability and visibility
of government-furnished materiel provided to contractors.3

To perform our review, we analyzed Army inventory shipment data, surveyed
repair contractors that were recipients of inventory shipments, and
assessed the Army's adherence to policies for managing and maintaining
accountability for inventory shipments. We obtained fiscal year 2004
shipment data from two of the Army's three major inventory control
points-the U.S. Army Aviation and Missile Command and the U.S. Army
Tank-automotive and Armaments Command.4 For secondary repair items, we
analyzed the data to reconcile inventory shipment records with receipt
records. To assess the reliability of the Army data, we randomly selected
200 secondary repair item shipments for which the inventory shipment
records and receipt records had not been reconciled in the Army's
inventory management systems. We also randomly selected 200
government-furnished materiel shipments. Because these were random
samples, the results of our analysis can be projected to the entire
universe of shipments that met our selection criteria. Additionally, we
selected all shipments of classified items5-90 total shipments-that were
present in our data population.6 We then sent surveys to 72 Army
contractors requesting property record information on these shipments to
assess whether these items had been received and accounted for by the
contractors.7 We received and reviewed survey responses from 66 of the 72
contractors, representing 184 unclassified secondary repair item
shipments, or 92 percent of our randomly selected sample; 169 unclassified
government-furnished materiel shipments, or 85 percent of our randomly
selected sample; and 100 percent of the classified shipments. We followed
up with repair contractor officials and Army item managers to obtain
additional information on specific shipments where our survey data
indicated a potential loss of accountability. On the basis of the survey
results and our follow-up analysis, we believe that the data are
sufficiently reliable for our purposes. We conducted our review from
October 2004 through November 2005 in accordance with generally accepted
government auditing standards. Appendix I provides more details about our
scope and methodology. A copy of the survey we sent to repair contractors
is reprinted in appendix II.

Results in Brief

The Army has not maintained accurate accountability for inventory shipped
to repair contractors, thereby placing these assets at risk of loss or
theft. Although DOD policy requires the military services to confirm
receipt of all assets shipped to contractors, the Army is not consistently
recording shipment receipts in its inventory management systems. In our
analysis of fiscal year 2004 shipment data obtained from two Army
inventory control points, we could not reconcile materiel shipment records
with receipt records for 42 percent of the unclassified secondary repair
item shipments, with a value of $481.7 million, or for 37 percent of the
classified secondary repair item shipments, with a value of $8.1 million.
These data show that the Army, on the basis of receipt records maintained
in its inventory management systems, cannot confirm that a substantial
portion of inventory items shipped to repair contractors were in fact
received. The Army's data contained no receipts for government-furnished
materiel.

Our survey results showed that repair contractors could confirm receipt of
most, but not all, of the shipments. Specifically, on the basis of our
survey results and follow-up work, we estimated that about 15 percent of
the unclassified secondary repair item shipments in our population could
not be confirmed as being received. We estimated that these lost or
unaccounted for shipments have a value of approximately $68 million. All
shipments of classified government-furnished materiel and secondary repair
items were reported as received by the contractors in our survey. For
shipments of unclassified government-furnished materiel, almost all
shipments were reported by the contractors in our survey as being
received.

The Army's accountability for shipments of items sent to repair
contractors is impeded by three internal control weaknesses. First, Army
inventory control points lack systematic procedures for (1) obtaining and
documenting contractor receipt of shipments of secondary repair items, (2)
following up in cases where receipt was not confirmed by the contractors,
and (3) providing advance notification of shipments to contractors.
Second, the Army does not confirm receipt of government-furnished materiel
shipments, reflecting a discrepancy between the Army's practices and DOD
regulations regarding the need to confirm receipt of these shipments. DOD
regulations require receipts for all shipments, including
government-furnished materiel. Third, inventory control points do not
provide the Defense Contract Management Agency (DCMA) with required
quarterly reports that show the status of government-furnished materiel
shipments. As a result, DCMA officials may lack data to corroborate
contractor-generated data during their inventory audits. These weaknesses
in the Army's ability to account for inventory shipped to repair
contractors increase the risk of undetected loss or theft because the Army
cannot ensure control over assets after they have been shipped from its
supply system. Moreover, inaccurate and incomplete receipt records
diminish asset visibility and can distort on-hand inventory balances,
leading to unnecessary procurement of items.

We are making recommendations to strengthen the Army's accountability over
secondary repair items and government-furnished materiel shipped to its
repair contractors. In written comments on a draft of this report, DOD
concurred with six of our recommendations and nonconcurred with one. We
have deleted this recommendation based on follow-up work by the Army
showing that the Army had erroneously provided a duplicate shipment
record. DOD's comments are discussed in the "Agency Comments and Our
Evaluation" section.

Background

Responsibility for controlling and accounting for materiel shipped to
repair contractors is shared between the Army and its contractors. Army
inventory control points within the Army Materiel Command manage the
movement of assets from the Army supply system to commercially operated
repair facilities. The Army's three major inventory control points for
secondary repair items are the U.S. Army Aviation and Missile Command, the
U.S. Army Tank-automotive and Armaments Command, and the U.S. Army
Communications-Electronics Command. Repair contractors are generally
required to establish and maintain a property control system for the
control, use, maintenance, repair, protection, and preservation of
government property in their possession.8

Inventory control points, as part of their materiel management functions,
maintain the Army's data systems that support inventory and financial
management, requirements determination, maintenance planning, and
procurement. These inventory management systems retain the accountable
records for inventory transactions, including shipment and receipt
records. The U.S. Army Aviation and Missile Command and the U.S. Army
Tank-automotive and Armaments Command use the Commodity Command Standard
System as their inventory management system. This system will eventually
be replaced with the Logistics Modernization Program, which will integrate
inventory functions performed by legacy inventory management systems. The
U.S. Army Communications-Electronics Command uses the Logistics
Modernization Program.

The inventory shipment data we obtained from the U.S. Army Aviation and
Missile Command and U.S. Army Tank-automotive and Armaments Command
included shipments of secondary repair items and government-furnished
materiel sent to contractor facilities located in the continental United
States during fiscal year 2004. Many shipments contained multiple items.
According to these records, the inventory control points together
authorized shipments of more than 25,000 secondary repair items worth
approximately $852 million to repair contractors. The records show they
also authorized shipments of more than 44,000 government-furnished
materiel items valued at approximately $118 million. The survey population
we used to draw our sample included all shipments of secondary repair
items for which we could not identify matching receipt records for
corresponding inventory shipment records,9 all shipments of
government-furnished materiel, and all shipments of classified
government-furnished materiel and secondary repair items. Table 1 shows
the population of shipments from which we drew our samples.

Table 1: Fiscal Year 2004 Shipments of Government-Furnished Materiel and
Secondary Repair Items Used to Draw Our Samples

                                        

           Shipment type            Number of        Value 
                                    Shipments              Items 
Government-furnished materiel                                 
Classified                              11    500              $2,596, 972 
Unclassified                         3,476 43,954             $115,777,299 
Secondary repair items                                        
Classified                             82a    323              $21,695,757 
Unclassified                         1,076 13,175             $481,697,529 
Total                                4,645 57,952             $621,767,557 

Source: GAO analysis of Army inventory control point data.

aBecause we could not determine the contractor that received three of the
secondary repair item shipments, we excluded them from our survey. After
we obtained comments on a draft of this report, the Army conducted an
analysis and discovered that one of the classified secondary repair item
shipments in our survey population, valued at $16,938, was a duplicate
shipment record that the Army had erroneously provided to us. Thus, we
have deleted this shipment from our analysis.

DOD has established policies for maintaining accountability for assets
shipped to repair contractors.10 Under these policies, for example,
contractors are responsible for posting receipts in their property control
records and notifying the appropriate inventory control point once they
have received shipped assets. The inventory control point establishes a
"due-in" record when a shipment is issued to track inventory that will
eventually return to the Army supply system. Once notified of receipt by
the contractors, the inventory control point processes receipt of a
transaction in its inventory management system to reflect the contractors'
receipt of the shipment. If the inventory control point is not notified of
receipt within 45 days of shipment, it is required to follow up with the
intended recipient to determine shipment status. Without a confirmation of
receipt, the status of a shipment is uncertain. In addition, DOD policy
states that the military services may establish requirements for their
inventory control points to provide advance notification of scheduled
shipments to repair contractors.

DOD also requires inventory control points to submit quarterly reports to
DCMA identifying quantities and types of government-furnished materiel
provided to repair contractors.11 DCMA assesses the accuracy of repair
contractor records and accounts for government property furnished to
contractors. The quarterly reports are intended to help contract officers
verify that repair contractors have maintained accountability for all
government-furnished materiel shipped to their facilities without relying
strictly on contractor inventory records.

The Army has established a system for formally reporting errors in
shipments. Under DOD and Army regulations, recipients of repair materiel
are required to investigate and report shipment discrepancies, such as
incorrect quantities and types of items and items sent to the wrong

location.12 If the discrepancy results from shipper error, the recipient
submits a supply discrepancy report to the appropriate inventory control
point.13 Inventory control point officials review and validate these
reports and provide recipients with instructions for resolving the
discrepancy. For example, the customer may be instructed to return
misdirected items to the Army supply system or to retain items for future
repair work.

In addition to these policies, the Army is obligated to establish and
maintain effective internal control systems. The Federal Managers'
Financial Integrity Act of 1982 requires GAO to issue standards for
internal control in the federal government.14 According to these
standards, internal controls are an integral component of an
organization's management that provide reasonable assurance that assets
are being safeguarded and other objectives are being met. Internal
controls should be designed to provide reasonable assurance regarding
prevention or prompt detection of unauthorized acquisition, use, or
disposition of an agency's assets. Effective and efficient internal
control activities help ensure that an agency's control objectives are
accomplished. Control activities are the policies, procedures, techniques,
and mechanisms that enforce management directives, such as the process of
adhering to DOD requirements for receipting of shipped assets and
generation of quarterly government-furnished status reports.

Internal Control Weaknesses Impede Army's Accountability for Inventory
Shipments

Internal control weaknesses have impeded the Army's accountability for
assets shipped to repair contractors. Army inventory control points do not
consistently record receipts for secondary repair items shipped to repair
contractors. Furthermore, the Army does not verify receipt of
government-furnished materiel. In addition, the Army does not provide
shipment status reports to DCMA as required under DOD regulations. A lack
of accurate accountability for shipments of secondary repair items and
government-furnished materiel places these assets at risk of loss or
theft, diminishes asset visibility and can distort on-hand inventory
balances, leading to unnecessary procurement of items.

Army Does Not Consistently Record Receipts for Secondary Repair Item
Shipments

Army inventory control points are not consistently recording receipts of
shipments of secondary repair items in their inventory management systems.
In our analysis of fiscal year 2004 shipment data obtained from two Army
inventory control points, we could not reconcile shipment records with
receipt records for 1,076 (42 percent) of the unclassified secondary
repair item shipments, with a value of $481.7 million, or for 30 (37
percent) of the classified secondary repair item shipments, with a value
of $8.1 million. In this analysis, we identified shipments that lacked a
matching receipt record as well as those shipments for which there was a
discrepancy between the number of items shipped and the number receipted.
Table 2 displays the results of our analysis for shipments of unclassified
secondary repair items.

Table 2: Fiscal Year 2004 Unclassified Secondary Repair Item Shipments
That Lacked Matching Receipts or Showed Discrepancies with Receipt Records

                                        

                                                       Number      Percentage 
Receipt Record                                             
No receipt                                             583            54.2 
Receipt(s) for fewer items than shipped                302            28.1 
Receipt(s) for more items than shipped                 191            17.8 
Total                                                1,076           100.0 

Source: GAO analysis of Army inventory control point data.

Note: Percentages do not total because of rounding.

These data show that Army inventory control points, on the basis of
receipt records maintained in its inventory management systems, cannot
confirm that a substantial portion of inventory items shipped to repair
contractors were in fact received. In the absence of accurate and complete
receipt records, the Army lacks inventory transaction data needed for
maintaining accurate accountability for an asset as it moves through the
repair cycle. Furthermore, inaccurate or incomplete receipt records can
lead to a distortion of on-hand inventory balances, thus placing the Army
at risk of procuring more items than are needed to support the warfighter.
The Army Audit Agency, in September 2004, noted that the Army lacked
accurate receipt records for shipments both to contractors and to
government-owned depot facilities, and that, as a result, on-hand
inventory balances for some items were understated by about $40.8
million.15

Our survey results showed that repair contractors could confirm receipt of
most, but not all, of the fiscal year 2004 shipments. On the basis of our
analysis of the survey results and follow-up work with contractors and
Army item managers, we estimated that about 15 percent of the unclassified
secondary repair item shipments in our survey population could not be
confirmed as being received. We estimated that these lost or unaccounted
for shipments have a value of approximately $68 million.16 For example,
our sample of secondary repair items included a shipment of 30 aircraft
rotary wing components with a total value of $8.3 million. The Army's
inventory management system did not show a receipt for this shipment, and
the contractor had no record of receiving the shipment. On the basis of
our work, the status of this shipment remains uncertain.

For classified items, the contractor confirmed receipt for 79 of the 80
secondary repair item shipments but could not confirm receipt for 1
shipment in our survey population with a value of about $17,000. In a
subsequent analysis conducted by the Army to determine the status of this
classified shipment, the Army discovered that it had erroneously provided
us with a duplicate shipment record, causing this shipment to appear
unaccounted for based on the original data that the Army had provided for
this review. According to the Army, this was not a classified shipment
sent to the contractor for repair, but rather a shipment record that
pertained to a repaired asset coming from the contractor back into its
inventory. The Army provided documentation to confirm the receipt of this
asset back into its inventory. On the basis of this data, we deleted this
record from our analysis. Thus, all shipments of classified secondary
repair items were received by the contractors.

Although required to obtain confirmation of receipt from repair
contractors, Army inventory control points lack systematic procedures for
obtaining and documenting receipt of shipments of secondary repair items
and for following up within 45 days in cases where receipt was not
confirmed by the contractors. Army regulations concerning receipt
notification do not specify the method or form by which contractors are to
notify the inventory control point when they receive shipments. Moreover,
multiple individuals at the inventory control points may become involved
in the receipting process. Item managers, who manage specific inventory
items and authorize shipments of secondary repair items to contractor
facilities, are generally responsible for ensuring repair contractors
receive shipments. We found that various methods are used to confirm
receipt. Some item managers rely on routine reports provided by the
contractors or on data obtained from contractors' inventory data systems.
Other item managers confirm receipt by telephone calls to contractor
officials. Once the receipt confirmation is obtained, the item manager may
pass the receipt information to other inventory control point personnel,
who then update the record in the inventory management system. In most
cases, these personnel enter the receipt information into the inventory
management system manually.17 Manual updating increases the probability of
inaccuracies in receipt data.

Although we could not reconcile 42 percent of the shipments in the Army's
data with matching receipt records, our follow-up survey with repair
contractors indicated they were able to confirm receipt for a majority of
the shipments. In addition, on the basis of our survey of repair
contractors, we estimate that for 82 percent of the shipments, contractors
stated they had notified the Army of shipment receipt.18 However, these
receipt notifications were not always recorded in the Army's inventory
management systems. Systematic follow-up within 45 days of shipment by the
Army inventory control points could have identified these confirmed
receipts, enabling an update of the inventory record to accurately reflect
the shipment status.

While contractors are required to report shipment discrepancies through
the Army's supply discrepancy reporting program, we found that this
practice does not always occur. In our survey, repair contractors noted
discrepancies in shipments that were not formally reported through the
Army's reporting program. It is unclear why all discrepancies were not
reported. One explanation provided by several contractors was that Army
officials do not routinely provide advance notification to contractors
prior to shipment. Because the Army had not notified them in advance of
the shipments, they did not expect the shipments to arrive and, therefore,
did not file supply discrepancy reports. Some contractors said they only
became aware of certain shipments sent to them when they received our
survey. Neither DOD nor Army regulations require inventory control points
to provide advance notification to repair contractors at the time of
shipment. However, DOD regulations state that the military services may
require their inventory control points to provide advance notification.19

Army Does Not Confirm Receipt of Government-Furnished Materiel

Army inventory control points are not confirming receipt of
government-furnished materiel shipments as required under DOD regulation.
For shipments of government-furnished materiel, almost all shipments were
reported by the contractors in our survey as being received. On the basis
of our survey, we estimate that repair contractors could not confirm about
2 percent of all unclassified government-furnished materiel shipments with
an approximate value of $3.2 million.20 These shipments, therefore, are
unaccounted for, and thus are vulnerable to loss or theft. Repair
contractors confirmed receipt of all 11 shipments of classified
government-furnished materiel.

DOD regulations require Army inventory control points to obtain receipt
confirmation for all shipments, including government-furnished materiel,21
and require Army inventory control points to conduct follow-ups if receipt
is not confirmed within 45 days of shipment. Army regulations require
receipt and follow-up for secondary repair item shipments but do not
explicitly address receipting for government-furnished materiel.22
According to inventory control point officials, the data systems used to
manage government-furnished materiel shipments do not store receipting
information. Furthermore, these officials told us they do not obtain
receipt notification from contractors for government-furnished materiel
shipments but, instead, assume contractors receive shipments of
government-furnished materiel unless the contractors notify them
otherwise. During our review, we noted that the Army's data systems for
managing government-furnished materiel shipments provide automated checks
of requisitions to ensure their validity.23 However, without receipt data,
the Army inventory control points lack assurance that contractors have
received government-furnished materiel, and as a result, they cannot
conduct follow-up within the required time frame to determine whether
corrective action is necessary. Moreover, while our analysis shows that
contractors could confirm receipt for the majority of the
government-furnished materiel shipments, the Army needs to maintain
effective internal controls to safeguard its assets and to ensure optimal
management of its resources, in accordance with the Federal Managers'
Financial Integrity Act of 1982.

Army Does Not Provide Shipment Status Reports to DCMA

According to DCMA officials, inventory control points do not provide DCMA
with quarterly reports showing the status of government-furnished materiel
shipments as required under DOD regulation. As a result, DCMA officials
may lack data to corroborate contractor-generated data during their
inventory audits. Both DOD and Army regulations require inventory control
points to generate and submit reports on requisitioned
government-furnished materiel to DCMA.24 The purpose of the reports is to
assist DCMA in independently verifying contractor records of
government-furnished materiel. These reports are required to identify
items under contract, requisitions that have been rejected, quantities and
dollar values of shipments, and the number of shipments for which receipts
are unknown. However, we found in our work that the inventory control
points do not have procedures in place to ensure that this reporting
requirement is implemented as required. As result, DCMA officials commonly
rely on contractor-generated data to conduct inventory audits and lack an
independent data source to corroborate those data.

Conclusions

The Army has not implemented all the internal controls required to ensure
that assets shipped to repair contractors are being received. Although DOD
has established policies for controlling these assets, we found the Army
lacked systematic procedures for implementing the policies, resulting in
inaccurate and incomplete receipt records. Moreover, on the basis of our
analysis of Army data and survey of repair contractors, some assets remain
lost or unaccounted for.

The Army could improve accountability for inventory shipments by
strengthening its internal control procedures for receipting secondary
repair items and following up in cases where the contractor has not
provided notification that items were received, obtaining and documenting
receipts for government-furnished materiel, and providing required status
reports on government-furnished materiel to DCMA. In addition, DOD
guidance for providing advance notification to recipients at the time of
shipment, while not a requirement, offers another potential internal
control for maintaining accountability of shipments. As the Army continues
to move from its legacy inventory management systems to the Logistics
Modernization Program, strong internal control procedures will be critical
to ensuring that data transferred into the new system are accurate and
complete.

Recommendations for Executive Action

To improve accountability of inventory shipped to Army repair contractors,
we recommend that the Secretary of Defense direct the Secretary of the
Army to instruct the Commanding General, Army Materiel Command, to take
the following six actions:

o Establish systematic procedures to obtain and document contractors'
receipt of secondary repair item shipments in the Army's inventory
management systems, and to follow up on unconfirmed receipts within 45
days of shipment.

o Institute policies, consistent with DOD regulations, for obtaining and
documenting contractors' receipt of government-furnished materiel
shipments in the Army's inventory management systems.

o Provide quarterly status reports of all shipments of Army
government-furnished materiel to DCMA, in compliance with DOD regulations.

o Examine the feasibility of implementing DOD guidance for providing
advance notification to contractors at the time of shipment and, if
warranted, establish appropriate policies and procedures for
implementation.

o Analyze receipt records for secondary repair items shipped to
contractors and take actions necessary to update and adjust inventory
management data prior to transfer to the Logistics Modernization Program.
These actions should include investigating and resolving shipments that
lack matching receipts to determine their status.

o To ensure consistent implementation of any new procedures arising from
the recommendations in this report, provide periodic training to
appropriate inventory control point personnel and provide clarifying
guidance concerning these new procedures to the command's repair
contractors.

Agency Comments and Our Evaluation

In written comments on a draft of this report, the Department of Defense
concurred with six of the recommendations and cited specific actions it
plans to take to implement these recommendations. DOD also specified
implementation timelines for five of its proposed actions. Specifically,
DOD reported that the Army intends to create the functionality within the
Army's new Logistics Modernization Program by fiscal year 2007 to (1)
create automated suspense files for following-up on nonreceipted
shipments, (2) establish receipting capability for government-furnished
materiel shipments, and (3) produce quarterly government-furnished
materiel status reports and submit them to DCMA. The Army also plans to
establish Integrated Product Teams to examine the feasibility and
availability of a Web-based query capability to make advanced shipment
information available to contractors, and to develop training to ensure
that Army inventory management personnel understand the procedures that
are in place to strengthen the internal controls for items shipped to
repair contractors. These teams are expected to have their results by July
2006. DOD also stated that the Army is currently taking actions to improve
the accuracy of the data contained in its inventory management system;
however, a timeframe for when this process would be completed was not
provided. We believe that these actions cited by DOD are generally
responsive to our recommendations.

DOD did not concur with our recommendation in a draft version of this
report to investigate and resolve the status of a shipment of an
unserviceable classified secondary repair asset that appeared lost or
unaccounted for on the basis of our review. However, DOD's response
indicates that the Army complied with our draft recommendation by
analyzing its inventory management system records. This analysis showed
that the contractor had received the shipment in question, repaired the
unserviceable classified item, and later returned this item to the Army's
inventory. In subsequent follow-up work, we obtained the Army inventory
data supporting the information cited in DOD's response. During further
analysis of this classified shipment, the Army discovered that the data
used in our analysis was a duplicate shipment record that it had
erroneously provided to us. On the basis of the new information provided,
we were able to verify the status of the classified shipment in question.
Consequently, we have deleted this recommendation from our report. DOD's
written comments are reprinted in appendix III.

We are sending copies of this report to the appropriate congressional
committees, and it will be available at no charge on GAO's Web site at
http://www.gao.gov. If you or your staff have any questions on the matters
discussed in this report, please contact me at (202) 512-8412 or
[email protected]. Contact points for our Offices of Congressional Relations
and Public Affairs may be found on the last page of this report. GAO staff
who made major contributions to this report are listed in appendix IV.

William M. Solis Director Defense Capabilities and Management

Scope and Methodology Appendix I

To evaluate the Army's effectiveness in maintaining accountability of
inventory shipped to repair contactors, we analyzed Army inventory
shipment data, surveyed repair contractors that were recipients of
inventory shipments, and assessed the Army's adherence to policies for
managing and maintaining accountability for inventory shipments. Our
review included shipments of both secondary repair items and
government-furnished materiel.

We reviewed Department of Defense (DOD) and Army regulations pertaining to
shipped inventory, and discussed inventory management procedures with
officials from the following locations: Headquarters, Army Materiel
Command, Fort Belvoir, Virginia; the U.S. Army Aviation and Missile
Command, Redstone Arsenal, Alabama; the U.S. Army Tank-automotive and
Armaments Command, Warren, Michigan, and Rock Island, Illinois; the U.S.
Army Communications-Electronics Command, Fort Monmouth, New Jersey; the
Surface Deployment and Distribution Command, Fort Eustis and Alexandria,
Virginia; and the Defense Contract Management Agency (DCMA), Alexandria,
Virginia.

To identify the quantity, value, and security classification of assets
shipped to repair contractors, we obtained electronic records from
inventory management databases at the U.S. Army Aviation and Missile
Command and the U.S. Army Tank-automotive and Armaments Command. We
obtained records for Army-owned assets shipped during fiscal year 2004
(Oct. 1, 2003 through Sept. 30, 2004). The records contained descriptive
information about each shipment, including item nomenclature, national
stock number, unit price, date of shipment, and quantity shipped. Records
for secondary repair item shipments also listed the quantity of items
received in each shipment. We did not obtain inventory data from U.S. Army
Communications-Electronics Command because at the time of our review its
inventory management system was undergoing stabilization and could not
provide all data elements needed for our audit.

To assess the reliability of the inventory data, we performed manual and
electronic testing for errors in accuracy and completeness in the records.
When we found discrepancies in the data, such as missing data elements,
illogical shipment date sequences, or abnormal data entries, we contacted
inventory control point officials to obtain explanations for the
discrepancies. As needed, the officials provided corrections to discrepant
data. We also reviewed the data to ensure that shipments occurred in
fiscal year 2004, were directed to contractor facilities located in the
continental United States, and comprised assets that met our criteria for
item class and condition code. For secondary repair items, we analyzed the
Army data to reconcile shipments for which the receipt record and shipment
record had the same document number and suffix,1 where applicable;
national stock number; and quantity. In cases of multiple receipt records
for a given shipment, we eliminated all receipt records associated with
supply depot transactions and totaled all contractor receipt records,
including inventory reversals. When the adjusted quantity receipted, which
included the quantity for multiple inventory reversals, did not total the
quantity shipped, we classified the shipment as unmatched.

After the validation process, we drew samples of the data population for
review. Our sampling methodology enabled us to independently verify the
accuracy of the Army's data on secondary repair items and
government-furnished materiel provided to repair contractors. To select
repair contractors and items shipped to them, we randomly selected 200
shipments of unclassified secondary repair items from a total population
of 1,076 shipments that did not have receipt records that corresponded to
shipment records in the Army's inventory management system. We also
randomly selected 200 shipments of unclassified government-furnished
materiel from a total population of 3,476 shipments. In addition, we
selected all shipments of classified items that appeared in the inventory
records, including 11 government-furnished materiel shipments and 79
secondary repair items shipments.2 For this data sample, we sent a survey
to 72 repair contractors, of which 66 responded to the survey. See
appendix II for a copy of the survey. The results of our analysis can be
projected to the entire universe of shipments that met these selection
criteria.

To determine whether repair contractors had received and accounted for the
selected shipments, we surveyed each randomly selected contractor to
assess whether item types and quantities had been received as documented
in Army inventory records. Furthermore, our survey also asked contractors
to note any discrepancies between the Army's data and data in their
property control records, and to explain what actions they took to resolve
discrepancies such as shipments of incorrect items or quantities. In
following up on the survey results, we reviewed survey responses for
logical inconsistencies and incomplete data, such as document number,
national stock number, quantity shipped, and date receipted, to determine
whether the contractor responses were accurate. In cases where one or more
of these data fields were inconsistent with data provided from the Army
inventory system, we identified the shipment as not received by the
contractor and adjusted our estimate of unaccounted for assets. We also
obtained data from DOD's supply tracking system to determine whether the
transportation carriers showed proof of delivery for these assets. We also
followed up with contractors and Army item managers regarding specific,
high-value shipments. On the basis of this follow-up work, we adjusted our
initial survey results.

To evaluate the Army's compliance with DOD regulations requiring
submission to DCMA of quarterly government-furnished materiel status
reports, we interviewed DCMA officials who oversee contracts for the items
included in our statistical sample of government-furnished materiel
shipments. These officials were located at DCMA field offices and
contractor facilities throughout the United States.

We conducted our review from October 2004 through November 2005 in
accordance with generally accepted government auditing standards.

GAO Contractor Survey Appendix II

Comments from the Department of Defense Appendix III

GAO Contact and Staff Acknowledgments Appendix IV

William Solis, (202) 512-8365 or [email protected]

In addition to the contact named above, Thomas Gosling, Assistant
Director; Arthur James; Stanley Kostyla; Jacqueline McColl; Marjorie
Pratt; and Paul Rades made key contributions to this report.

(350541)

www.gao.gov/cgi-bin/getrpt?GAO-06-209.

To view the full product, including the scope

and methodology, click on the link above.

For more information, contact William M. Solis at (202) 512-8412 or
[email protected].

Highlights of GAO-06-209, a report to congressional requesters

December 2005

DEFENSE INVENTORY

Army Needs to Strengthen Internal Controls for Items Shipped to Repair
Contractors

GAO has previously reported that the lack of control over inventory
shipments increases the Department of Defense's (DOD) vulnerability to
undetected loss or theft. GAO evaluated the Army's effectiveness in
maintaining accountability of inventory shipped to repair contactors. To
conduct its review, GAO analyzed shipment data for fiscal year 2004,
surveyed repair contractors that were recipients of inventory shipments,
and assessed the Army's adherence to internal control procedures.
Inventory shipments included both secondary repair items-components,
assemblies, and subassemblies, other than major end items, which may be
sent to commercial facilities for repair, alteration, or modification-and
government-furnished materiel-assemblies, parts, and other items provided
in support of this work.

What GAO Recommends

GAO recommends that the Army take actions to strengthen its accountability
over secondary repair items and government-furnished materiel shipped to
its repair contractors. DOD concurred with six of GAO's recommendations
and nonconcurred with one. GAO has deleted this recommendation based on
follow-up work by the Army showing that the Army had erroneously provided
a duplicate shipment record.

The Army has not maintained accurate accountability for inventory shipped
to repair contractors, thereby placing these assets at risk of loss or
theft. Although DOD policy requires the military services to confirm
receipt of all assets shipped to contractors, the Army is not consistently
recording shipment receipts in its inventory management systems. In an
analysis of fiscal year 2004 shipment data obtained from two Army
inventory control points, GAO could not reconcile shipment records with
receipt records for 42 percent of the unclassified secondary repair item
shipments, with a value of $481.7 million, or for 37 percent of the
classified secondary repair item shipments, with a value of $8.1 million.
These data show that the Army cannot confirm that all inventory items
shipped to repair contractors were received. The Army's data contained no
receipts for government-furnished materiel.

GAO survey results showed that repair contractors could confirm receipt of
most, but not all, of the shipments. Specifically, on the basis of its
survey results and follow-up work, GAO estimated that about 15 percent of
the unclassified secondary repair item shipments in the survey population
could not be confirmed as being received. GAO estimated that these lost or
unaccounted for shipments have a value of approximately $68 million. All
shipments of classified government-furnished materiel and secondary repair
items were reported as received by the contractors in our survey. For
shipments of unclassified government-furnished materiel, almost all
shipments were reported by the contractors in our survey as being
received.

The Army's accountability for shipments of items sent to repair
contractors is impeded by three internal control weaknesses. First, Army
inventory control points lack systematic procedures for (1) obtaining and
documenting contractor receipt of shipments of secondary repair items, (2)
following up in cases where receipt was not confirmed by the contractors,
and (3) providing advance notification of shipments to contractors.
Second, the Army does not confirm receipt of government-furnished materiel
shipments, reflecting a discrepancy between the Army's practices and DOD
regulations regarding the need to confirm receipt of these shipments. DOD
regulations require receipts for all shipments, including
government-furnished materiel. Third, inventory control points do not
provide the Defense Contract Management Agency with required quarterly
reports that show the status of government-furnished materiel shipments.
As a result, Defense Contract Management Agency officials may lack data to
corroborate contractor-generated data during their inventory audits. These
weaknesses in the Army's ability to account for inventory shipped to
repair contractors increase the risk of undetected loss or theft.
Moreover, inaccurate receipt records can diminish asset visibility and
distort on-hand inventory balances, leading to unnecessary procurement of
items.
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