Defense Inventory: Actions Needed to Improve Inventory Retention 
Management (25-MAY-06, GAO-06-512).				 
                                                                 
Maintaining the right amount and types of items in its		 
inventory--a key aspect of supply chain management--has been a	 
long-standing challenge for the Department of Defense (DOD) and  
has been on GAO's list of high-risk areas since 1990. DOD retains
inventory above its normal operating requirements for various	 
reasons including for contingency purposes or because it is more 
economical to keep items than dispose and repurchase them later. 
DOD's inventory levels have grown in recent years to almost $80  
billion in fiscal year 2005. GAO was asked to assess the	 
management of contingency retention inventory to determine	 
whether (1) the Army, Air Force, Navy, and Defense Logistics	 
Agency have followed inventory guidance and (2) DOD is providing 
oversight of inventory across these components. Also, GAO	 
provided an update on the progress DOD has made in implementing  
GAO's past recommendations on the components' management of	 
economic retention inventory.					 
-------------------------Indexing Terms------------------------- 
REPORTNUM:   GAO-06-512 					        
    ACCNO:   A54727						        
  TITLE:     Defense Inventory: Actions Needed to Improve Inventory   
Retention Management						 
     DATE:   05/25/2006 
  SUBJECT:   Inventory control					 
	     Inventory control systems				 
	     Military inventories				 
	     Military policies					 
	     Property and supply management			 
	     Supply chain management				 

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GAO-06-512

     

     * Results in Brief
     * Background
          * DOD Inventory Management Policies and Procedures Pertaining
          * DOD Inventory Management Policies and Procedures Pertaining
          * DOD's Inventory Management Agencies
     * Some DOD Inventory Management Centers Are Not Following Poli
          * Army's Aviation and Missile Command and Air Force's Ogden Ai
          * Some Inventory Management Centers Are Retaining Items in Con
          * Some DOD Inventory Management Centers Are Not Conducting Ann
     * DOD Is Not Providing Sufficient Oversight to Ensure That Com
     * DOD Has Made No Progress in Implementing Our 2001 Recommend
     * Conclusions
     * Recommendations
     * Agency Comments and Our Evaluation
     * Appendix I: Scope and Methodology
     * Appendix II: Comments from the Department of Defense
     * Appendix III: GAO Contact and Staff Acknowledgments
          * GAO Contacts
          * Acknowledgments
               * Order by Mail or Phone

Report to the Subcommittee on Readiness and Management Support, Committee
on Armed Services, U.S. Senate

United States Government Accountability Office

GAO

May 2006

DEFENSE INVENTORY

Actions Needed to Improve Inventory Retention Management

GAO-06-512

Contents

Letter 1

Results in Brief 4
Background 7
Some DOD Inventory Management Centers Are Not Following Policies and
Procedures in Managing Their Contingency Retention Inventories 12
DOD Is Not Providing Sufficient Oversight To Ensure That Components are
Conducting Annual Reviews of Contingency Retention Inventory 19
DOD Has Made No Progress in Implementing Our 2001 Recommendations on
Economic Retention Inventory Management 20
Conclusions 23
Recommendations 24
Agency Comments and Our Evaluation 26
Appendix I Scope and Methodology 29
Appendix II Comments from the Department of Defense 32
Appendix III GAO Contact and Staff Acknowledgments 36

Tables

Table 1: Primary Logistics Agency and Its Inventory Management Centers 12
Table 2: Examples Illustrating When DOD's Items Were Placed into Inventory
and the Last Reported Demand Date Through January 2006 16
Table 3: Component Ceilings on Economic Retention Inventories 21

Figure

Figure 1: Categorization of Inventory for an Air Force Circuit Card
Assembly 8

Abbreviations

DLA Defense Logistics Agency DOD Department of Defense LMI Logistics
Management Institute OUSD AT&L Under Secretary of Defense for Acquisition,
Technology, and Logistics

This is a work of the U.S. government and is not subject to copyright
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separately.

United States Government Accountability Office

Washington, DC 20548

May 25, 2006

The Honorable John Ensign Chairman The Honorable Daniel K. Akaka Ranking
Minority Member Subcommittee on Readiness and Management Support Committee
on Armed Services United States Senate

The Department of Defense (DOD) maintains a military force with
unparalleled capabilities but continues to confront a pervasive,
decades-old supply chain management1 problem that relates to retaining the
appropriate amount of inventory. At a time when our forces are expected to
perform missions in the homeland and abroad, it is necessary for DOD to
retain those inventory items that are needed to sustain current military
operations and dispose of those items that will no longer support current
and future operations. DOD reported that, as of September 2005, it owned
about $80 billion of secondary inventory.2 This represents a $17 billion,
or 27 percent, increase since fiscal year 2001, when the department had
about $63 billion in inventory. Because DOD is challenged to compete for
available resources in an increasingly fiscally constrained environment
and conduct high-level military operations, it is imperative that it has
good stewardship over the hundreds of billions of dollars invested in its
inventory. To ensure the sustainment of its missions, the Army, Navy, Air
Force, and the Defense Logistics Agency (DLA)3 each maintains separate
inventories of spare and repair parts above and beyond normal operating
requirements.4

1 DOD's supply chain management comprises several major functions,
including determining requirements; purchasing needed items; and storing,
maintaining, distributing, and disposing of inventory.

2 Secondary inventory includes reparable components, subsystems, and
assemblies, consumable repair parts, bulk items and material, subsistence,
and expendable end items, including clothing and other personal gear.

3 Hereafter referred to as DOD's components.

Inventory that exceeds the normal operating requirements is divided into
three categories:

           o  economic retention: excess inventory determined more economical
           to keep than to dispose of because it is likely to be needed in
           the future;
           o  contingency retention: inventory exceeding the economic
           retention level but retained for specific contingencies such as
           military (items needed to meet military contingencies), potential
           security assistance (items held for foreign military sales), and
           general contingency (items held based on potential usefulness,
           extreme reprocurement problems, or nonmilitary contingencies, such
           as civil emergencies or natural disaster relief); and
           o  potential reutilization and/or disposal materiel: inventory
           exceeding the contingency retention level but identified as either
           potentially reusable or disposable-typically through public sale.

           While DOD's components each have their own policies and procedures
           for managing their secondary inventories, DOD has an overarching
           policy-the DOD Supply Chain Materiel Management Regulation5-that
           provides the components with overall guidance.

           In 2001, we reported6 that the components did not have sound
           analytical support for determining which items should be kept in
           economic retention inventory. We also reported that the components
           were not conducting annual reviews of the methodologies they used
           to make economic retention inventory decisions, as required by the
           DOD regulation.7 At that time, we recommended that the components
           establish milestones for reviewing their economic retention
           approaches and that they conduct annual reviews of their
           approaches.

           As requested, this report focuses on DOD's inventory retention
           policies and procedures. Our objectives were to assess the
           management of contingency retention inventory to (1) determine the
           extent to which DOD components have followed departmentwide and
           individual components' policies and procedures to ensure they are
           retaining the appropriate amount of inventory, and (2) assess the
           extent to which DOD is providing oversight of inventory across the
           components. In addition, we are providing information on the
           progress that DOD has made in implementing our 2001
           recommendations on the components' management of economic
           retention inventory.

           To determine the extent to which DOD components have followed
           policies and procedures for retaining the appropriate amount of
           contingency retention inventory, we (1) reviewed the components'
           regulations and interviewed officials to determine how they
           implement these regulations; (2) obtained and analyzed secondary
           inventory (spare parts) retention records; and (3) visited four
           components' inventory management centers to assess their policies,
           procedures, and practices for managing contingency retention
           inventory. The results of our review cannot be generalized to the
           total contingency retention inventory population, due to the use
           of a nonprobability sample of 205 cases (national stock numbers)
           valued at $890 million. We assessed the reliability of DOD's
           automated inventory management system data by (1) obtaining
           information from the components' management on their data
           reliability procedures and (2) interviewing components' officials
           knowledgeable about the data. We determined the data were
           sufficiently reliable for the purposes of this report. Further, to
           assess the extent to which DOD is providing oversight of
           contingency retention inventory management across the components,
           we reviewed DOD regulations and directives and interviewed
           officials from the Office of the Deputy Under Secretary of Defense
           for Supply Chain Integration on their roles and responsibilities
           for supply chain materiel management. Also, to assess the progress
           that DOD has made in implementing our 2001 recommendations on the
           components' management of economic retention inventory, we
           reviewed related policies and procedures and interviewed officials
           from the Deputy Under Secretary of Defense for Supply Chain
           Integration. We conducted our review from May 2005 through May
           2006 in accordance with generally accepted government auditing
           standards. Further details on our scope and methodology are
           described in appendix I.

           Some DOD inventory management centers have not followed
           departmentwide and individual components' policies and procedures
           to ensure they are retaining the appropriate amount of contingency
           retention inventory. To ensure DOD inventory management centers
           are retaining the appropriate amount and types of items, inventory
           retention policies require the components to (1) use category
           codes that describe reasons to retain items in contingency
           retention inventory,8 (2) hold items that correspond to current
           and future force level requirements,9 and (3) perform annual
           reviews of their contingency inventory decisions.10 It is also an
           objective of DOD's policy that items from the inventory that no
           longer support DOD's mission be removed. According to DOD policy,
           DOD places serious emphasis on purging from its inventory items
           which no longer support the mission and needlessly consume
           warehouse space.11 However, several inventory management centers
           are not following policy. For example, we identified that

           o  The Army's Aviation and Missile Command is not properly
           assigning category codes that describe the reasons they are
           holding items in contingency retention inventory. While the Army
           inventory retention policy requires the use of codes to identify
           the reasons to hold items in contingency retention inventory, we
           found that the Aviation and Missile Command does not consistently
           assign these codes to categorize the reasons for holding items in
           contingency retention inventory. We identified items valued at
           $193 million that did not have codes to identify the reasons why
           they were being held, and therefore we were unable to determine
           the contingency retention category for the items. Furthermore,
           according to Command officials, the Army's current inventory
           management system is not programmed to categorize some contingency
           retention inventory items. However, we identified that the system
           does have codes that designate the reasons items are held in
           contingency retention inventory, but the Army is not currently
           using these codes.

           o  Some inventory management centers are retaining items in
           contingency retention inventory that have experienced little or no
           recent demands. For example, the Aviation and Missile Command is
           retaining items in contingency retention inventory that (1) have
           experienced no demands since the mid 1990s and (2) no longer meet
           operational needs. For example, we found that the Command
           continued to retain items to support an early warning sensor that
           was phased out by the Army in June 2003. Command officials told us
           that they retained these items in contingency retention because
           they did not receive direction from the Army to remove them from
           the inventory.

           o  Some inventory management centers are not conducting annual
           reviews as required to verify reasons for retaining contingency
           retention inventory. For example, the Defense Supply Center
           Richmond had not conducted annual reviews since 2000 to verify the
           reasons for retaining some items in contingency retention
           inventory. We identified from the Center's entire population of
           contingency retention items that approximately 2,200 items had not
           been reviewed since 2000. According to Center officials, the
           reviews were not conducted because the items had no stock on hand
           or had experienced no recent demands or requests from customers.
           As a result of our review, the Defense Supply Center Richmond
           initiated disposal actions to potentially remove 40 stock
           numbers-a total quantity of about 26,000 items valued at over
           $742,500.

           Since some DOD inventory management centers are not following
           policies and procedures for managing their contingency
           inventories, they may be retaining unnecessary inventory, which
           results in the needless consumption of warehouse space. Moreover,
           while our work only focused on a limited number of inventory
           management centers, it is unknown whether these issues are
           occurring at other DOD inventory management centers. However,
           every inventory management center where we conducted audit work
           was not following policies. Furthermore, by not conducting annual
           reviews of their inventory retention decisions, the inventory
           management centers cannot be certain that they are retaining the
           appropriate spare parts to support military operations and
           readiness. Also, without complying with inventory retention
           policies and procedures, the DOD inventory management centers can
           accumulate high levels of inventory without knowing whether they
           meet warfighter requirements in the most efficient manner.

           DOD is not providing sufficient oversight to ensure that
           components are conducting annual reviews of their contingency
           retention inventory. According to the DOD Supply Chain Materiel
           Management Regulation issued by the Office of the Deputy Under
           Secretary of Defense for Logistics and Materiel Readiness,
           components are required to annually review the contingency
           retention decisions. The regulation does not state, however, who
           is responsible for ensuring the components conduct these reviews.
           Another policy, the DOD's Supply Chain Materiel Management
           Policy12 requires that the Under Secretary of Defense for
           Acquisition, Technology, and Logistics (OUSD AT&L) ensure that DOD
           materiel management policies are implemented in a uniform manner
           throughout the department. OUSD AT&L officials said they rely on
           DOD's Supply System Inventory Report13 as their oversight
           mechanism to review DOD components' reported inventory retention
           levels and ensure the components are conducting the annual
           reviews. However, while the annual Supply System Inventory Report
           provides DOD with financial inventory information, it does not
           provide the department with the information it needs to ensure
           that all of the components are conducting annual reviews of
           contingency retention inventory decisions. For example, DOD's
           failure to recognize the inventory management centers'
           noncompliance with DOD's regulation requiring them to conduct
           annual reviews of their contingency retention decisions
           illustrates DOD's insufficient oversight. By not ensuring that the
           components are conducting annual reviews of their contingency
           retention decisions, DOD cannot be certain that all components are
           retaining the right amount of contingency retention inventory to
           meet the military's operating requirements in the most effective
           and efficient manner.

           DOD had made no progress in implementing our 2001 recommendations
           concerning the components' management of economic retention
           inventory.14 We reported then that (1) components were not
           properly documenting their approaches in making economic retention
           decisions, (2) they lacked sound analytical support for the
           maximum levels of economic inventory they used in calculating how
           much inventory should be retained, and (3) they had not annually
           reviewed their approaches as required by DOD policy.15 After we
           issued our report, DOD determined that further review was
           necessary to determine appropriate approaches to economic
           retention inventory decisions and subsequently tasked the
           Logistics Management Institute (LMI) in 2001 and again in 2003 to
           examine whether current economic retention policy requirements and
           procedures could be improved. While LMI's review yielded similar
           recommendations to ours, DOD's components are still not conducting
           annual reviews of economic retention decisions. According to some
           DOD component officials, they have not been conducting annual
           reviews of their economic retention decisions because of either
           the cost to conduct these reviews, manpower limitations, or other
           competing priorities. We continue to believe that DOD should
           implement the recommendations to make meaningful improvements to
           its economic retention management practices.

           We are recommending that the Secretary of Defense direct the Under
           Secretary of Defense for Acquisition, Technology, and Logistics to
           ensure the DOD inventory management centers properly categorize
           the reasons for holding items in contingency retention inventory,
           determine whether items no longer needed should be disposed, and
           conduct annual reviews of contingency retention inventory as
           required by DOD's Supply Chain Materiel Management Regulation and
           the components' policies. In addition, we are recommending that
           the Under Secretary revise DOD's Supply Chain Materiel Management
           Regulation to make clear who is responsible for providing
           recurring oversight to ensure that the inventory management
           centers are performing annual reviews of their contingency
           retention inventory decisions. In reviewing a draft of this
           report, DOD concurred with six of our recommendations and
           partially concurred with one. The Department's responses are
           reprinted in appendix II and our evaluation of them appears later
           in the report.

           DOD divides secondary inventory into two categories: active
           inventory and inactive inventory. Active inventory is materiel
           that DOD budgets for and consists of the approved acquisition
           objective: items needed to meet current operating requirements,
           items that are expected to be used within the budget period (2
           years), and items purchased to meet specific war reserve
           requirements. Items that exceed the approved acquisition objective
           are referred to as inactive inventory. Inactive inventory is
           materiel that is not expected to be consumed within the budget
           period but is likely to be utilized in future years.16 These items
           preclude future procurement and repairs and do not impact
           components' budgets because the costs were incurred when the items
           were initially procured. Inactive inventory levels are categorized
           as economic retention, contingency retention, and potential
           reutilization and/or disposal materiel.

           An Air Force circuit card assembly used on the 968H Air Early
           Warning System, for example, illustrates DOD's inventory
           categories. On March 31, 2005, the Air Force had 18 of these
           circuit card assemblies on hand, each valued at $2,172. As shown
           in figure 1, 4 of the circuit card assemblies satisfied the item's
           approved acquisition objective. Of the remaining 14 circuit card
           assemblies, 3 were held as economic retention stock, 1 was held as
           contingency retention stock, and 10 were categorized as potential
           reutilization and/or disposal materiel.

           Figure 1: Categorization of Inventory for an Air Force Circuit
           Card Assembly

           The DOD Supply Chain Materiel Management Regulation provides the
           components with overarching guidance on how to manage contingency
           retention inventory. The DOD regulation requires that (1)
           components be able to provide the rationale for holding items in
           contingency inventory, (2) items are retained in accordance with
           current and future force level requirements, and (3) the
           methodology for making decisions to hold items in contingency
           retention be reviewed and validated annually.17 In addition, the
           regulation says that components should categorize the contingency
           retention items as (1) military contingency if the assets are
           retained to meet military contingencies for U.S. forces; (2)
           general contingency if the procurement problems or for other
           special considerations involvinonmilitary contingencies, such as
           civil emergencies or natural disastrelief; or (3) potential
           security assistance (also referred to as foreign military sales)
           if the assets are held in expectation of foreign military
           demand.18 Each component has policies and procedures that describe
           their respective personnel should manage contingency retention
           inventory.

           contingency retention inventory, each of the components has its
           own policies and procedures for determining what items to retain
           for potencontingencies. Most DOD components categorize contingency
           retention inventory in one of these categories: military, foreign
           military, or general contingency. Also, they retain contingency
           retention inventory for additional reasons. For example, DLA19
           retains items with applicatiospecific weapon systems to preclude
           them from disposal at the request othe military services. Military
           services use some of the following reasons for excluding items
           with application to specific weapons systems from disposal: aging
           weapon system not planned for phase-out in the near future; parts
           that have very infrequent use, but with expected
           demandout-of-production, sole source items. Additionally, the Air
           Force policy20 allows for retention of assets in contingency
           retention inventory when a one-time buy has been made for an
           explicit reason or when the decision tretain was made by
           Headquarters Air Force Materiel Command. In addition to the three
           contingency categories described in the DOD pthe Army's secondary
           item retention policy21 authorizes item managers to retain
           chemical, biological, nuclear, or serviceable or unserviceable
           hazardous materiel based on the Department of the Army or
           DOD-levdirectives in contingency retention inventory. The Navy22
           uses several categories to retain and protect inventory from
           disposal. A few of the reasons include: retention of assets for
           cannibalization for lower assemretention of assets to support a
           weapon system throughout its expected life cycle (life of system
           buy); and retention of excess assets for nuclear reactor plans. In
           addition, the DOD components have policies and procedures to
           conduct annual reviews to ensure the decisions to hoitems in
           contingency retention inventory are valid. The components
           alsrequire justification for the retention decision to be
           maintained on file.

           no prescribed methodologies to determine contingency retention
           inventory levels.23 Instead, DOD component officials rely on
           subjecreasoning to determine and justify retaining items in
           contingency retentinventories in support of their missions. While
           there is no established DOD process for identifying and reviewing
           contingency requirements and decisions, the components follow
           similar processes. Typically an itemmanager will make the decision
           to retain assets in contingency, althoughin some cases, the
           decision may be made by a component's headquarters or another
           component. For example, a component's materiel commands or another
           service may request that certain assets be retained in contingency
           retention inventory to meet future needs. Upon identassets on hand
           that exceed an item's approved acquisition objective and economic
           retention requirement, the item manager determines if some orall
           of the assets need to be retained in contingency retention
           inventory for a specific reason. If so, the item manager will then
           determine the level of assets needed to be retained in contingency
           and establish a requirement. Some of the common criteria item
           managers use to determine the retention of items in contingency
           retention inventory include: the expected life span or age of the
           weapon system the asset supports;wear-out rate of the item; the
           nonrecurring or unpredictable demand of item; the potential sale
           or transfer of items to a foreign country; or diminishing
           manufacturing sources for an item.

           determines if there is a continued need to retain all or some of
           the assein contingency retention. If the item manager makes the
           decision to retainassets in contingency retention, the item
           manager's rationale for the current retention decision must be
           available upon request and is maintained in the item file or
           inventory management system. If it is determined there is no
           longer a need for an item's contingency retention requirement, the
           assets that exceed the approved acquisition objectiveconomic
           retention requirement will be allocated as potential reuand/or
           disposal materiel. According to the DOD guidance, an economic
           analysis used to calculate whether to retain an inven

           a

           their economic analysis the cost of retaining items, the potential
           long-term demand for the items, potential repurchase costs, and
           for items essential to the operation of a weapon system, the
           expected life of the weapon system, and the number of systems in
           use. As the amount of inactive stoincreases, the cost of retention
           increases (more items cost more to hold) and the cost of disposal
           decreases (with greater amounts of an item on hand, the likelihood
           of having to repurchase the items becomes less). Equilibrium is
           reached when the additional cost of retention equals that of
           disposal. This equilibrium level of inventory is the economic
           retention level--the largest amount of an item that can be
           justified by economic analysis.24 DOD relies on a number of
           individual processes and activities, known collectivel

           a

           Materiel Command, (2) the U.S. Air Force Materiel Command, (3) the
           Defense Logistics Agency, and (4) the Naval Inventory Control
           Point. Table 1 shows each primary logistics agency and its
           inventory management centers. 
		   
		   Table 1: Primary Logistics Agency
           and Its Inventory Management Centers Primary logistics invento

           Ogden Air Logistics Center

           locations.

           Some DOD components' inventory management centers are not
           following policies and procedures in managing their contingency retention
           inventories. For example, we found some inventory centers do not
           properly categorize the reasons items are kept for contingency retention
           purposes, as required by DOD policy. Also, some inventory centers
           are retaining items that have not experienced any recent demands
           andlonger meet operational needs. In addition, some DOD inventory
           management centers have not complied with DOD's policy as well as
           their own policies, which require them to conduct annual reviews
           of contingency retention inventory to ensure the reasons for
           retaining inventory are valid. As a result, there is the
           likelihood for them to inventory for a number of years and
           accumulate high levels of inventory that may not be needed to meet
           current and future operational nMoreover, while our work only
           focused on the inventory managemencenters we reviewed, it is
           unknown whether these issues are occurring aother DOD inventory
           management centers. The Army's Aviation and Missile Command and
           Air Force's Ogden Air Logistics Center are not properly assigning
           category codes that describthe reasons they are holding items in
           contingency retention inventory. DOD policy requires DOD
           components to id

           that identifies why contingency retention inventory should be in
           the military, foreign military sales, and general category.25 Some
           DOD components use codes in their inventory management systems to
           identithe reasons to hold items in contingency retention
           inventory. The codes are reviewed to validate the contingency
           retention decisions. We found, however, that the Army's Aviation
           and Missile Commannot consistently assign codes to categorize the
           reasons for holding items incontingency retention inventory. Of
           the 55 Army Aviation and Missile Command items we selected for
           review, 50 of the items valued at $1

           and therefore we were unable to determine the contingency
           retention category for the items. Furthermore, according to
           Command officials, the Army's current inventory management system,
           the Commodity CommaStandard System, is not programmed to
           categorize some contingency retention inventory.26 However,
           according to Army Materiel Command officials, the contingency
           retention code was added to the Commodity Command Standard
           System27 in the mid-1990s but the functionality to use the code in
           the system was not completed because of the planned replacement of
           the Commodity Command Standard System with the Logistics
           Modernization Program in 1999. Army officials stated that it
           isunlikely any updates or modifications to the current system to
           ensure thfunctionality of the coding feature will be approved to
           properly categorize contingency retention inventory. While the new
           system is expectedcontingency retention codes, the Army is not
           currently planning to complete fielding the Logistics
           Modernization Program until 2009, whichmeans that it will not be
           using codes at least until then. As an interim solution, Army
           Material Command officials have indicated that they will
           reemphasize that item managers use the manual contingency
           retention approval forms that will include the codes. However,
           without the usthe codes in the inventory management system, the
           Army's Aviation and Missile Command will not be able to (1)
           readily identify the reasons foholding items in contingency
           retention inventory and know whether the items they are retaining
           are useful for current and future operations and(2) analyze trends
           in contingency levels that may require management scrutiny and
           attention. Also, at the Army's Aviation and Missile Command, we
           identified 30 itemsthat were retained for anticipated foreign
           military sales. Of the 30 items valued at $134 million, only 5 had
           the proper coding. At the time of our review, several item ma

           items to be identified with a specific code. We informed Command
           inventory materiel management officials that some item managers
           were unaware of this policy. The officials identified this as a
           training issue anplan to develop a training module for item
           managers that will address thismatter. However, at the time we
           completed our audit work in January 2006, the Command had not
           developed the training. We also found that the Air Force's Ogden
           Air Logistics Center had some contingency retention inventory
           items that were not properly categorized and, as a result, the
           items had been inappropriately retained in contingency retention
           inventory. Specifically, we ide

           Materiel Command directed the Center to retain in contingency
           retentioninventory that were not properly categorized. When we
           brought this to theattention of the Air Force Materiel Command,
           officials discoverthese 3 items were among a larger population of
           974 items that had beeimproperly coded. Upon investigation,
           officials found that in 2001 the contingency retention codes were
           removed from the weapon systems thatthese items supported, but not
           from the items themselves. According to the Air Force Materiel
           Command, the 974 items are managed at the OgdAir Logistics Center,
           as well as the Warner Robins and Oklahoma City AirLogistics
           Centers. The Command officials explained that due to a
           systedeficiency in the Air Force's Application Programs, Indenture
           system, it did not remove the items' codes when the weapon
           systems' codes were removed and, as a result, the items continued
           to be categorized as contingency retention inventory. As a result
           of these items being inappropriately retained in contingency
           retention inventory, the contingency retention inventory level has
           been overstated. We estimatedin 2006 that the Air Force's
           contingency retention inventory value includ$138 million worth of
           items, the value of the 974 contingency retentitems that should
           not have been included. As a result of our reviewForce Materiel
           Command system programming activity correcteddeficiency in March
           2006 by removing the codes from the system. According to Command
           officials, the items support some weapon systemthat are still used
           in the Air Force, but some items support the F-111 aircraft that
           the Air Force retired in the mid-1990s. When the codes areremoved
           for this aircraft, some of the 974 items that are no longer n

           to retain these items for foreign military sales. Air Force policy
           indicates that the failure to remove items from contingency
           retention inventoryare no longer needed can cause too much
           inactive inventory to negativeaffect warehouse costs and spaces.
           Also, by not properly categorizing the reasons for holding items
           in contingency retention inventory, some DOD components are unable
           to determine the rationale for holding the items and do not
           readily know the potential usefulness of their contingency
           retention inventories and whether the items could meet components'
           operational needs. Some DOD inventory management centers are
           retaining items in contingency retention inventory that have
           experienced little or no recedemands. For exam

           5

           customers in over 10 years. There is the likelihood for the
           inventomanagement centers to retain items that no longer meet
           operational needs. Table 2 shows for each inventory management
           center we rexamples of when items were placed into the inventory
           and the last reported demand through January 2006.

4 Operating requirements consist of the approved acquisition objective:
items needed to meet current needs, items expected to be used within 2
years, and items to meet war requirements.

5 Office of the Deputy Under Secretary of Logistics and Materiel
Readiness, Department of Defense Supply Chain Materiel Management
Regulation, DOD 4140.1-R (May 2003).

6 GAO, Defense Inventory: Approach for Deciding Whether to Retain or
Dispose of Items Needs Improvement, GAO-01-475 (Washington, D.C.: May
2001).

7 DOD 4140.1-R, Section C2.8.1.1.2.

                                Results in Brief

8 DOD 4140.1-R, Section C2.8.1.2.4. and C2.8.1.2.6.

9 DOD 4140.1-R, Section C2.8.1.1.2.

10 DOD 4140.1-R, Section C2.8.1.2.6.

11 DLA, Department of Defense, Defense Inactive Item Program, DOD
4140.32-M, Foreword (Aug. 13, 1992).

12 Department of Defense Directive 4140.1, Supply Chain Materiel
Management Policy (April 22, 2004).

13 This annual financial report summarizes DOD secondary inventory by
component and inventory category and is used as a management tool to
monitor changes in inventory levels.

14 GAO, Defense Inventory: Approach for Deciding Whether to Retain or
Dispose of Items Needs Improvement, GAO-01-475 (Washington, D.C.: May
2001).

15 GAO-01-475 .

                                   Background

16 Office of the Deputy Under Secretary of Defense for Logistics and
Materiel Readiness, Department of Defense Materiel Supply Chain Management
Regulation, DOD 4140.1-R, appendix 1 (May 2003).

DOD Inventory Management Policies and Procedures Pertaining to Contingency
Retention Inventory

17 DOD 4140.1-R, Section C2.8.1.1.1.3 and C2.8.1.1.2.

19Defense Logistics Agency Invprovides the guidance for the agency's The

20 The Air Force Materiel Command Manual 23-1, Requirements for Secondary
Items, (Mar. 16, 2005), and the Air Force Manual 23-110, Volume 3, Part 1
(Jan. 1

the guidance for the Air Force's contingency retention activities. 21
Inventory Management: Centralized Inventory Management of the Army Supply
System, Army Regulation 710-1 (Sept. 6, 2005) and the Memorand

Army Materiel Command, subject: Revised Secondary Item Retention Policy
(Oct. 28, 2005), provide the guidance for the Army's contingency retention
activities. 22 Ship Parts Control Center Instruction 4400.47D, 27 (May
1994), provides the guidancefor the Navy's contingency retention
activities.

23 According to the DOD regulation, DOD 4140.1-R, Section C2.8.1.2.1, the
methodology used to calculate economic retention levels should be based on
an economic analysis that balances the cost of retention and the cost of
disposal.

Economic RetenInventory

24 Logistics Management Institute and Center for Naval Analysis,
Independent Study of Secondary Inventory and Parts Shortages, LG009R1
(McLean, Va.: July 2001), and Logistics Management Institute: Economic
Retention Within the Department of Defense, LG301T1 (McLean, Va.: December
2003).

Warner Robins Air Logistics Center                                         
Army Materiel Commanda                                                     
                                                                              
Aviation and Missile Life Cycle Man                                        
                                                                              
Communications-Electronics Life Cy                                         
                                                                              
Tank-automotive and Armaments Lif                                          
Defense Logistics Agency                                                   
                                                                              
Defense Supply Center Columbus                                             
                                                                              
Defense Supply Center Philadelphia                                         
                                                                              
Defense Supply Center Richmond                                             
Naval Inventory Control Poin                                               
                                                                              
Naval Inventory Control Point Mecha                                        
                                                                              
Naval Inventory Control Point Philadel                                     
ce: GAO analysis of DOD data. a                                            
                                                                              
Sometimes these commands are referred to as the Aviation and               
MiCommunications-Electronics Command, and the Tank                         
                                                                              
bThe Naval Inventory Control Point is carried out by                       

     Policies and Procedures in Managing Their Contingency Retention Inven

Properly CategorizingReasons to Hold Items in Contingency Retention Inventory

25 DOD 4140.1-R, Sections C2.8.1.1.1.3 and C2.8.1.2.6.

26 While the inventory management system does not allow the Command to use
codes to categorize military and general contingency retention inventory,
it does provide a code to identify items designated for foreign military
sales.

27 The Commodity Command Standard System is also used at the
Tank-automotive and Armaments Command.

Inventory that HaExperienced Little or No Recent Demands

Table 2: Examples Illustrating When DOD's Items Were Placed into Inventory
and the Last Reported Demand Date Through January 2006

                                                                       Number 
                                            Year item                      of 
                                              entered Number of   Year  years 
Inventory                                     into  years in     of   from 
management      Name of    Name of       inventory inventory   last   last 
center          item       weapon system    system    system demand demand 
Air Force's     Electronic Missile            1968        38   1984     22 
Ogden Air       switch     Warning and                              
Logistics                  Defense                                  
Center                     Division                                 
                              System                                   
Army's Aviation Spur gear  Target             1990        16   1995     11 
and Missile                Acquisition                              
Command                    Designation                              
                              Sight and                                
                              Pilot Night                              
                              Vision Sensor                            
Navy Inventory  Rod        Battleship         1953        53   1999    N/A 
Control Point   assembly   Guns                                     
Mechanicsburga                                                      
Defense Supply  Direct     Airlifter         1971b        35   2002      4 
Center Richmond current    Aircraft                                 
                   motor                                               

Source: GAO analysis of DOD data.

aThe Navy's inventory management system does not retain demand (request)
information beyond 5 years, and therefore, we were unable to determine
when these items were actually last requested.

bIndicates the year Defense Logistics Agency assumed management of the
item from a DOD component.

We also reported28 in 2004 that some items had inventory categorized as
either economic or contingency retention stock and had been in the
inventory system for 15 or more years. Some of the items had been placed
in service prior to 1989 and some placed during the 1960s. These items
included antennae, aircraft rudders, auxiliary power units, propeller
blades, and circuit card assemblies that were used on versions of the Air
Force's C-130 and F-15 aircraft, the Army's UH-60 helicopter, and other
weapon systems.

In addition, we found that the Aviation and Missile Command is retaining
items in contingency retention inventory, which further demonstrates how
components can retain items that have experienced (1) no recent demands
and (2) no longer meet operational needs. DOD policies require that items
held in contingency retention should correspond to current and future
force levels.29 It is also an objective of DOD's policy that items from
the inventory system that no longer support DOD's mission should be
removed.30 During our review, we identified 4 out of 55 contingency
retention items that support an obsolete early warning sensor that was
phased out by the Army in June 2003. According to Command officials these
items were retained in contingency retention because officials did not
receive direction from the Army to remove the obsolete items from the
inventory. Also, Command officials stated that they are considering
offering the weapon system and support items to the foreign military sales
program. If the foreign military sales program does not assume management
of the items, the Command officials said they will initiate the disposal
process. While we do not know the extent to which this is a predominant
condition at the Command because we only identified 4 items which the
Command is retaining that do not support a current requirement and have
not experienced any recent demands, it is possible that the Army may be
retaining several other contingency retention items that no longer meet
operational needs. According to DOD policy, items that no longer support
DOD's mission needlessly consume warehouse space that will impact total
supply operations and DOD places serious emphasis on the purging of
unneeded items from the inventory.31

28 GAO, Defense Inventory: Analysis of Consumption of Inventory Exceeding
Current Operating Requirements Since September 30, 2001, GAO-04-689
(Washington, D.C.: Aug. 2, 2004).

Some DOD Inventory Management Centers Are Not Conducting Annual Reviews to
Verify Reasons for Retaining Contingency Retention Inventory

The Defense Supply Center Richmond, the Naval Inventory Control Point
Mechanicsburg, and the Army's Aviation and Missile Command are not
conducting annual reviews to verify the reasons for retaining items in
contingency retention inventory. DOD's and the components' policies
require the components to conduct annual reviews so that the components
can validate their reasons for retaining items in this inventory category.
Additionally, we found that one of the Defense Logistics Agency's centers,
the Defense Supply Center Richmond, had not conducted reviews since 2000
on some contingency retention items. We found that no annual reviews had
been conducted for 35 of the 48 items we reviewed from the Center's 2004
total population of contingency retention inventory. We later identified
from the Center's total population of contingency retention inventory that
approximately 2,200 items had not been reviewed since 2000. According to
Center officials, the reviews were not conducted because the items had no
stock on hand or they had experienced no recent demands from customers.
Based on our review, the Defense Supply Center Richmond initiated actions
to (1) review the stock numbers, (2) remove their contingency retention
levels if required, and (3) establish a review cycle that would identify
these types of items in the future. After the Center reviewed the items,
it proposed disposal actions to remove 40 stock numbers: a total quantity
of about 26,000 items valued at over $742,500.

29 DOD 4140.1-R, Section C2.8.1.1.2.

30 DOD 4140.32-M, Foreword.

31 DOD 4140.32-M, Foreword.

Also, the Naval Inventory Control Point Mechanicsburg had not conducted
annual reviews for some contingency retention inventory established by the
weapon system program manager. Like the other components, Navy policy
requires an annual review of the reasons for retaining an item in
contingency inventory. However, we identified 4 out of 45 items in our
review for which weapon system program managers had not conducted annual
reviews for the contingency retention inventory. At the time of our
review, these items had not been reviewed since 2000. For example, one
Navy program manager had not conducted annual reviews for 3 items in our
review since 2000 because the date to conduct the reviews in the inventory
management system was not set for every year. Navy inventory management
officials were unaware that some weapon system program managers were not
conducting annual reviews of contingency retention inventory. As a result
of our review, the Naval Inventory Control Mechanicsburg revised the
policy for weapon system program managers to conduct annual reviews.

Furthermore, we found that the Army Materiel Command has not conducted
reviews of some items in contingency retention inventory specifically
retained for foreign military sales. For example, we identified 10 out of
the 55 selected Army Aviation and Missile Command contingency items
(valued at $10.1 million) that had not been reviewed annually by the
component to verify the reasons for retaining the items in contingency
retention. Army policy requires an annual review of contingency
requirement decisions for all items including items retained for foreign
military sales. These 10 items support the Hawk and Chaparral Missile
Systems and are retained for the foreign military sales program. A 2003
memorandum of agreement between the Army's Aviation and Missile Command's
Missile System Directorate and the Security Assistance Management
Directorate directs the Army to retain management of the items until the
quantities on hand have been depleted. Once this occurs, the Security
Assistance Management Directorate assumes inventory accountability for the
items. According to the Army Aviation and Missile Command officials, these
items are managed by the Army because the Security Assistance Management
Directorate is not authorized to procure assets from the Command in
anticipation of foreign military sales demands. Also, Command officials
indicated that annual reviews were not conducted because the missile
systems' items were retained due to direction of the memorandum of
agreement. The purpose of these annual reviews would be to identify
whether these items are still needed to support the weapon systems in the
foreign military sales program. By not conducting annual reviews, the
Command is not in compliance with DOD and Army policies and procedures.

    DOD Is Not Providing Sufficient Oversight to Ensure That Components Are
          Conducting Annual Reviews of Contingency Retention Inventory

DOD is not providing sufficient oversight to ensure that components are
conducting annual reviews of contingency retention inventory across the
components. According to the DOD Supply Chain Materiel Management
Regulation issued by the Office of the Deputy Under Secretary of Defense
for Logistics and Materiel Readiness, the DOD components are required to
annually review and validate the contingency retention inventory. However,
the regulation does not state who bears responsibility for ensuring the
components conduct these annual reviews. The DOD's Supply Chain Materiel
Management Policy requires the Under Secretary of Defense for Acquisition,
Technology, and Logistics (OUSD AT&L) to ensure that DOD materiel
management policies are implemented in a uniform manner throughout the
department. This policy applies to all phases of materiel management, from
an item's introduction into the supply system to operational requirements
through the weapon system phase-out and retirement. Also, the OUSD AT&L is
responsible for monitoring the overall effectiveness and efficiency of the
DOD logistics system, and for continually developing improvements. In
addition, the Standards for Internal Control in the Federal Government
recommend that ongoing monitoring occur in the course of normal operations
to ensure policies and procedures are enforced. OUSD AT&L officials said
that they rely on the DOD's Supply System Inventory Report as their
oversight mechanism to ensure DOD components conduct annual reviews. While
the annual Supply System Inventory Report provides DOD with financial
inventory information, it does not specifically provide the information
DOD needs to determine whether the components are conducting annual
reviews of contingency retention inventory. OUSD AT&L officials said that
if the report identifies noticeable changes in the components' contingency
retention inventory levels, they would ask the components to explain those
changes.

Also, OUSD AT&L officials said that several additional measures could be
taken to determine why the components' contingency retention inventory
levels have increased. For example, DOD officials said they may request
assistance from the Department of Defense Inspector General's Office,
establish a joint process review team, or request contractor support to
examine noticeable changes in the components' inventory levels. We found
that the Department of Defense Inspector General's Office has not
conducted any recent reviews on contingency retention inventory. According
to DOD officials, they are currently using a contractor to determine why
DOD components' inventory levels have increased. However, DOD's failure to
recognize the inventory management centers' noncompliance with DOD's
regulation requiring them to conduct annual reviews of their contingency
retention decisions illustrates DOD's insufficient oversight of inventory
management at the departmentwide level. There is no requirement for the
components to report the results of their annual reviews to DOD, and the
Supply System Inventory Report does not address the annual reviews.
Because DOD does not provide the oversight to ensure that components are
conducting annual reviews of their contingency retention decisions, DOD
cannot be certain that components are retaining the right amount of
contingency retention inventory to meet the military's operating
requirements.

 DOD Has Made No Progress in Implementing Our 2001 Recommendations on Economic
                         Retention Inventory Management

DOD has made no progress in implementing our 2001 recommendations32 on
economic retention inventory management. We recommended that DOD (1)
establish milestones for reviewing their approaches for making economic
retention decisions, and (2) conduct annual reviews of their approaches,
as directed by the DOD regulation,33 to ensure they have sound support for
determining economic retention inventory levels. In 2001, we reported that
components had not properly documented the approaches they have taken in
making economic retention decisions, lacked sound analytical support for
the maximum levels they used, and had not annually reviewed their
approaches. We also reported that while DOD components, with the exception
of the Air Force, developed individual economic models designed to place
inactive inventory in economic status as early as 1969, they had not used
the models since 1994. Instead, components lowered maximum levels of
inventory-known as ceilings-to make economic retention determinations that
would help achieve agency inventory reduction goals. We also reported that
the components judgmentally developed their ceilings for economic
retention inventory, which differed and had yielded lower levels of
economic retention inventory than the levels calculated by the economic
retention models. In addition, we reported that while components' ceilings
varied in the span of years of demand, they also varied in the total years
of inventory covered.

32 GAO, Defense Inventory: Approach for Deciding Whether to Retain or
Dispose of Items Needs Improvement, GAO-01-475 (Washington, D.C.: May
2001).

33 DOD 4140.1-R, Section C2.8.1.1.2.

During 1994-96, the components established different ceilings for items in
economic retention. A ceiling imposes an upper constraint on years of
demand-the quantity needed on an annual basis to meet requirements-and how
much inactive inventory can be retained. For example, the Army ceiling is
applied to inventories above active inventory requirements. The Air Force,
Navy, and Defense Logistics Agency ceilings apply to their entire
inventory requirements, including active inventory. The ceilings currently
used by the components are summarized in table 3.

Table 3: Component Ceilings on Economic Retention Inventories

Component                Ceilings levels used to retain inventory          
Air Force                13 years of total maximum demand for all items    
Army (By Life Cycle      CECOM, 7 years of demand above requirements for   
Management Commands)a    serviceable reparables, 6 years for unserviceable 
                            reparables, 5 years of demand above requirements  
                            for all other items AMCOM and TACOM, 83.25 years  
                            of demand above requirements for serviceable and  
                            unserviceable reparables                          
Navy                     12 years of total attrition demand for new        
                            weapons systems                                   
                                                                              
                            8 years of total attrition demand for "steady"    
                            weapon systems                                    
                                                                              
                            4 years of total attrition demand for weapons     
                            systems approaching obsolescence                  
Defense Logistics Agency 6 years of total demand                           

Source: GAO analysis of DOD data.

aArmy has three major subordinate commands that manage spare parts for
major weapon systems. They include the Aviation and Missile Life Cycle
Management Command (AMCOM), Communications-Electronics Life Cycle
Management Command (CECOM), and the Tank-automotive and Armaments Life
Cycle Management Command.

DOD partially concurred with our 2001 recommendations, agreeing that its
components needed to annually review the appropriateness of their economic
retention inventory levels. In response to a 2001 congressionally mandated
study, the Logistics Management Institute (LMI) examined whether the
current economic retention policy requirements and procedures could be
improved.34 Specifically, the study concluded that DOD could possibly
achieve additional cost savings by determining economic retention levels
using heuristics35 based on years of no demand when determining economic
retention levels rather than using economic retention models and years of
supply. LMI attributed the problems of using a generalized economic
retention model to the uncertainty of long-term demand, the negligible
marginal cost of storage, and the small return from disposal. In addition,
the LMI study suggested DOD employ a new standard of 7 years of inactivity
to determine economic retention levels. DOD determined that further review
was necessary to determine appropriate approaches to economic retention
inventory decisions and subsequently tasked LMI to examine whether current
economic retention policy requirements and procedures could be improved.
LMI conducted a follow-up study on economic retention in 2003 and found
that even though the economic retention models used by DOD components
allow for demand variability, they assume the average demand for items is
relatively stable from year to year. The study also stated that if the
average demand is not stable, future demand cannot be predicted and
retention limits will not be accurate.

Based on its 2003 independent study, LMI recommended that DOD procedural
guidance for setting economic retention limits should call for the use of
minimum-retention limits as a viable means of dealing with the uncertainty
in forecasting long-term demand. In addition, LMI recommended that in
accordance with the DOD regulation, the DOD components should review their
retention methodologies at least annually and adapt the general models and
options in the study's analysis to their specific items.36 DOD did not
advise the components to adopt recommendations from the 2003 LMI study
because, according to an official with the Office of the Assistant Deputy
Under Secretary of Defense, they were designed to show components how best
to determine economic retention. A program director with LMI said DOD
indicated that they were still looking at ways to implement
recommendations from the 2003 study, but competing demands from Operation
Iraqi Freedom, the Base Realignment and Closure Act for 2005, the
Quadrennial Defense Review, and other activities have taken priority.
Furthermore, while DOD agreed with our 2001 recommendations to comply with
DOD policy and perform annual reviews of the economic retention
methodologies, we found that some of the components were not complying
with the DOD regulation to review and validate their methodologies for
economic retention decisions. For example, at the time of our review, the
Army and Defense Logistics Agency had not reviewed and validated their
methodologies for economic retention decisions within the last year, nor
were they able to provide documentation illustrating when the last review
had been conducted. A Defense Logistics Agency official stated that other
competing priorities and a focus on the agency's new inventory management
system have prevented them from conducting annual reviews. However,
according to an official with the Defense Logistics Agency, a plan to
revise their economic retention model and ceilings will begin in late
2006. We also found that the Air Force had not conducted annual reviews
and validated its methodologies for economic retention decisions since
1991. According to Air Force officials, annual reviews of economic
retention decisions are not conducted because it is an expensive
undertaking and because of manpower limitations. The Air Force is
currently conducting a study of its economic retention model. In addition,
in 2005, the Navy conducted a review of its economic retention model and
recommended the following actions: (1) find methods to improve cost
estimates in retention decisions, and (2) explore reductions in minimum
retention limits.

34 National Defense Authorization Act for Fiscal Year 2000, Pub. L. No.
106-65, S: 362 (1999) directed the Department of Defense to sponsor an
independent study on secondary inventory and spare parts.

35 Heuristics is a rule of thumb, simplification, or educated guess that
is offered as a decision-making tool.

36 Logistics Management Institute, Economic Retention Within the
Department of Defense, LG301T1 (McLean, Va.: December 2003).

                                  Conclusions

DOD's inventory management centers are using subjective reasons to justify
which items they retain in their contingency retention inventories in
support of their missions. While each center has policies and procedures
to review and validate their inventory retention decisions, they are not
complying with these policies and therefore cannot ensure that they are
retaining the appropriate amount of contingency retention inventory for
current and future operations. For example, since some inventory
management centers do not properly assign reasons for holding the
contingency retention inventory, they do not know whether the
justifications to hold items are consistent with the reasons prescribed in
their existing policies and procedures. Similarly, until some DOD
inventory management centers determine whether retained items support
their operational needs, they could be retaining inventory that needlessly
consumes valuable warehouse space for many years. Without periodic reviews
that verify the reasons for holding items in contingency retention
inventory, there is the potential for the DOD centers to use this
inventory category to justify accumulating high levels of inventory
without knowing whether the items they are retaining are potentially
useful for current and future force operating requirements. The
components' inventory retention policies and procedures are in place to
help meet the needs of the warfighter. Until the components comply with
these policies and procedures, they will be unable to take meaningful
steps to improve their inventory management processes to support the
warfighter. Moreover, while our work only focused on the inventory
management centers we reviewed, it is unknown whether these issues are
occurring at other DOD inventory management centers.

DOD's insufficient oversight to ensure the inventory management centers
are conducting annual reviews of contingency retention inventory shows the
lack of DOD accountability to ensure materiel management polices and
procedures are implemented in a uniform manner throughout the department.
The lack of DOD's accountability stems from DOD's Supply Chain Materiel
Management Regulation, which does not clearly assign responsibility for
ensuring the inventory management centers conduct the annual reviews.
Although DOD has several measures to monitor contingency retention
inventory levels, they do not provide assurance that the reviews of
contingency retention decisions are conducted. Without sufficient
oversight, DOD does not have the information it needs to understand why
components may not be following certain inventory retention policies or
procedures. Furthermore, the department cannot be assured that it has a
complete and accurate picture of its inventory retention management and
may be unable to identify areas that need attention to improve the
department's supply chain management.

                                Recommendations

We are recommending that the Secretary of Defense take the following seven
actions:

To ensure DOD inventory management centers properly assign codes to
categorize the reasons to retain items in contingency retention inventory,
direct the Under Secretary of Defense for Acquisition, Technology, and
Logistics to:

           o  Direct the Secretary of the Army to instruct the Army Materiel
           Command to modify the Commodity Command Standard System so it will
           properly categorize the reasons for holding items in contingency
           retention inventory.
           o  Direct the Secretary of the Air Force to instruct the Air Force
           Materiel Command to correct the Application Programs, Indenture
           system's deficiency to ensure it properly categorizes the reasons
           for holding items in contingency retention inventory.

           To ensure that the DOD inventory management centers retain
           contingency retention inventory that will meet current and future
           operational requirements, direct the Under Secretary of Defense
           for Acquisition, Technology, and Logistics to:

           o  Direct the Secretary of the Army to instruct the Army Materiel
           Command to require the Aviation and Missile Command to identify
           items that no longer support operational needs and determine
           whether the items need to be removed from the inventory. The Army
           Materiel Command should also determine whether its other two
           inventory commands, the Communications-Electronics Command and
           Tank-automotive and Armaments Command, are also holding obsolete
           items, and if so, direct those commands to determine whether the
           disposal of those items is warranted.

           To ensure that DOD inventory management centers conduct annual
           reviews of contingency retention inventory as required by DOD's
           Supply Chain Materiel Management Regulation, direct the Under
           Secretary of Defense for Acquisition, Technology, and Logistics
           to:

           o  Direct the Director of the Defense Logistics Agency to require
           the Defense Supply Center Richmond to conduct annual reviews of
           contingency retention inventory. The Defense Logistics Agency
           should also determine whether its other two centers, the Defense
           Supply Center Columbus and the Defense Supply Center Philadelphia,
           are conducting annual reviews, and if not, direct them to conduct
           the reviews so they can ensure the reasons for retaining the
           contingency retention inventory are valid.
           o  Direct the Secretary of the Navy to instruct the Naval
           Inventory Control Point Mechanicsburg to conduct annual reviews of
           contingency retention inventory. The Naval Inventory Control Point
           should also determine if its other organization, Naval Inventory
           Control Point Philadelphia, is conducting annual reviews and if
           not, direct the activity to conduct the reviews so it can ensure
           the reasons for retaining the contingency retention inventory are
           valid.
           o  Direct the Secretary of the Army to instruct the Army Materiel
           Command to require the Aviation and Missile Command to conduct
           annual reviews of contingency retention inventory. The Army
           Materiel Command should also determine if its other two inventory
           commands, the Communications-Electronics Command and
           Tank-automotive and Armaments Command, are conducting annual
           reviews and if not, direct the commands to conduct the reviews so
           they can ensure the reasons for retaining the contingency
           retention inventory are valid.

           To ensure that DOD inventory management centers implement
           departmentwide policies and procedures for conducting annual
           reviews of contingency retention inventories, direct the Office of
           the Deputy Under Secretary of Defense for Logistics and Materiel
           Readiness to take the following action:

           o  Revise the DOD's Supply Chain Materiel Management Regulation to
           make clear who is responsible for providing recurring oversight to
           ensure the inventory management centers conduct the annual reviews
           of contingency retention inventory.

           In written comments on a draft of this report, DOD concurred with
           six of our recommendations and partially concurred with one. Also,
           DOD cited specific actions it plans to take to implement the six
           recommendations. Specifically, DOD indicated that the Air Force
           has corrected the system deficiency in the Applications Program,
           Indenture, by removing all remaining system-deferred disposal
           codes from the system. Also, DOD stated that the Army will review
           contingency retention inventory for items that no longer support
           operational needs. Furthermore, DOD noted that the Army, the Navy,
           and the Defense Logistics Agency plan to conduct annual reviews of
           contingency retention inventories to ensure the reasons for
           retaining the items are valid.

           DOD partially concurred with our recommendation to instruct the
           Army Materiel Command to modify the Commodity Command Standard
           System so it will properly categorize the reasons for holding
           items in contingency retention inventory. The department said that
           it does not plan to modify the current legacy system to include
           the contingency retention codes. Instead, the department prefers
           to devote its resources to implementing the Army's Logistics
           Modernization Program that will include the category contingency
           retention codes. However, we reported that the department does not
           plan to implement the new system until 2009, and as an interim
           remedy, it plans to have item managers use manual contingency
           retention approval forms that will include the codes. We do not
           believe this remedy will allow the Army to readily (1) identify
           the reasons for holding items in contingency retention inventory
           and (2) know whether they are retaining items that are useful for
           current and future operations. Therefore, we continue to believe
           that the Army should modify the current system to properly
           categorize the reasons for holding items in contingency retention
           inventory.

           While DOD concurred with our recommendation to revise DOD's Supply
           Chain Materiel Management Regulation to clarify who is responsible
           for providing recurring oversight to ensure the inventory
           management centers conduct the annual reviews of contingency
           retention inventory, its response focused on updating the
           regulation to rely on the military services and Defense Logistics
           Agency headquarters to ensure the reviews are conducted. The
           intent of our recommendation, however, was to clarify who bears
           responsibility for ensuring the components conduct annual reviews.
           We continue to believe that DOD (Under Secretary of Defense for
           Acquisition, Technology, and Logistics) should perform this
           oversight responsibility to obtain a complete and accurate picture
           of inventory retention management in the department.

           DOD also provided a technical comment for our consideration in the
           final report and we incorporated changes as appropriate. DOD's
           formal comments appear in appendix II.

           We are sending copies of this report to the Secretary of Defense;
           Secretaries of the Air Force, Army, and Navy; and the Director,
           Defense Logistics Agency. We will also provide copies to others
           upon request. In addition, this report will be available at no
           charge on the GAO Web site at http://www.gao.gov .

           If you or your staff have any questions about this report, please
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           of this report. GAO staff who made major contributions to this
           report are listed in appendix III.

           William M. Solis Director Defense Capabilities and Management

           The objectives of our audit were to (1) determine the extent to
           which Department of Defense (DOD) inventory components have
           followed departmentwide and individual component policies and
           procedures to ensure they are retaining the appropriate amount of
           contingency retention inventory, and (2) assess the extent to
           which DOD is providing oversight of contingency retention
           inventory management across the components. We also provided
           updated information on the progress that DOD has made in
           implementing our 2001 recommendations on the components'
           management of economic retention inventory. We obtained current
           DOD and component guidance on retaining inventory that exceed
           operating requirements. Also, we interviewed officials from Office
           of the Secretary of Defense (OSD) for Acquisition, Technology, and
           Logistics, Arlington, Virginia; Air Force Materiel Command,
           Wright-Patterson Air Force Base, Ohio; Defense Logistics Agency,
           Ft. Belvoir, Virginia; Defense Supply Center Richmond, Virginia;
           U.S. Army Materiel Command, Ft. Belvoir, Virginia; Naval Inventory
           Control Point Mechanicsburg, Pennsylvania; and Ogden Air Logistics
           Center, Hill Air Force Base, Utah, and the U.S. Army Aviation and
           Missile Command, Huntsville, Alabama, to discuss their roles and
           responsibilities, as well as the criteria and guidance they used
           in performing their duties for managing, reviewing and validating
           reasons for retaining contingency retention inventory.

           To evaluate whether the components have followed departmentwide
           and individual component policies and procedures with respect to
           contingency retention inventory, we obtained secondary inventory
           (spare parts) retention inventory records from the following DOD
           components' automated inventory management systems:

                        o  Defense Logistics Agency's Standard Automated
                        Materiel Management System;
                        o  Navy's Uniform Inventory Control Point;
                        o  Air Force's Central Secondary Item Requirement
                        System; and
                        o  Army's Commodity Command Standard System.

           For each of the DOD component systems used in our work, we
           assessed the reliability of the data by (1) obtaining information
           from the component management on their data reliability
           procedures, (2) reviewing system documentation, (3) reviewing
           related audit agency reports, and (4) performing electronic
           testing of the contingency retention inventory data to identify
           obvious errors in accuracy and completeness. We verified database
           control totals, where appropriate. Based on these procedures, we
           determined that the DOD data were sufficiently reliable for
           purposes of our analysis and findings. The contingency retention
           inventory data we obtained covered different periods, depending on
           the DOD component providing the data. Although the period for the
           components' data was from the years 2004 and 2005, the data we
           obtained had different cutoff dates as follows:

                        o  For Defense Logistics Agency, the cutoff date was
                        October 1, 2004.
                        o  For the Army, the cutoff date was November 14,
                        2005.
                        o  For the Navy, the cutoff date July 19, 2005.
                        o  For the Air Force, the cutoff date was March 31,
                        2005.

           To illustrate how inventory management centers establish and
           review contingency retention inventory, we conducted case studies
           of a nonprobability sample of inventory management centers
           including the Defense Supply Center Richmond, Virginia; Naval
           Inventory Control Point Mechanicsburg, Pennsylvania; Ogden Air
           Logistics Center, Hill Air Force Base, Utah; and U.S. Army
           Aviation and Missile Command, Huntsville, Alabama. We selected
           these centers for review based on the number of items and value of
           contingency retention inventory. At each center, we reviewed the
           population of inventory retention data, and developed a
           nonprobability sample of inventory retention items (spare parts)
           at each center for further review, based on the number, types, and
           costs of inventory at each location. For example, we selected for
           review spare parts with (1) highest and lowest dollar value, (2)
           date of earliest and latest request date, (3) earliest and latest
           date items placed into inventory record, and (4) highest and
           lowest quantity. The selection resulted in a review of 205 cases
           (national stock numbers) for the centers we visited, and equates
           to 1.6 million spare parts valued at $890 million. Also, we used a
           data collection instrument to assist the team in gathering
           information and interviewing officials at the four locations. The
           purpose of the data collection instrument was to help the team
           ensure consistent, accurate, and complete recording of information
           at each location. Although the case study approach does not enable
           us to generalize findings to all centers, it does provide in-depth
           information about problems at selected centers, which may provide
           insight into problems with contingency retention inventory
           management in general.

           To determine DOD's oversight responsibility for ensuring the DOD
           inventory management centers implement the contingency retention
           policies and procedures, we reviewed DOD regulations and
           directives and interviewed officials from the Office of the Deputy
           Under Secretary of Defense for Supply Chain Integration on their
           roles and responsibilities for supply chain materiel management.
           Also, we reviewed GAO's Standards for Internal Control in the
           Federal Government, which provides the overall framework for
           establishing and maintaining internal control and for identifying
           and addressing major performance and management challenges.

           To assess the progress that DOD has made in implementing the
           recommendations from our 2001 report on the components' management
           of economic retention inventory, we obtained copies of DOD's and
           the components' policies and procedures for retaining economic
           retention inventories and discussed this with DOD officials. We
           also analyzed DOD's and its components policies and procedures to
           determine their internal controls/oversight functions and
           responsibilities for validating and annually reviewing their
           methodologies for making economic retention decisions. Also, we
           reviewed reports from GAO and the Logistics Management Institute
           on economic retention inventory. In addition, we conducted
           interviews with component officials from each of the following
           offices: the Office of Secretary of Defense Acquisition,
           Technology, and Logistics, Arlington, Virginia; the Army Materiel
           Command, Fort Belvoir, Virginia; the Army's Aviation and Missile
           Command, Huntsville, Alabama; the Air Force Materiel Command,
           Wright-Patterson Air Force Base, Ohio; the Air Force's Ogden Air
           Logistics Center, Hill Air Force Base, Utah; Defense Logistics
           Agency Headquarters, Fort Belvoir, Virginia; Defense Supply Center
           Richmond, Virginia; and, the Naval Inventory Control Point
           Mechanicsburg, Pennsylvania.

           We performed our review from May 2005 through May 2006 in
           accordance with generally accepted government auditing standards.

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

           In addition to the contact named above, David Schmitt, Assistant
           Director; Sarah Baker; Carleen Bennett; Alissa Czyz; Curtis
           Groves; K. Nicole Harms; Latrealle Lee; Rebecca Shea; and Darby
           Smith made key contributions to this report.

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                       Agency Comments and Our Evaluation

Appendix I: Scope and Methodology

Appendix II: Comments from the Department of Defense

Appendix III: GAO Contact and Staff Acknowledgments

                                  GAO Contacts

                                Acknowledgments

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Highlights of GAO-06-512 , a report to the Subcommittee on Readiness and
Management Support, Committee on Armed Services, U.S. Senate

May 2006

DEFENSE INVENTORY

Actions Needed to Improve Inventory Retention Management

Maintaining the right amount and types of items in its inventory-a key
aspect of supply chain management-has been a long-standing challenge for
the Department of Defense (DOD) and has been on GAO's list of high-risk
areas since 1990. DOD retains inventory above its normal operating
requirements for various reasons including for contingency purposes or
because it is more economical to keep items than dispose and repurchase
them later. DOD's inventory levels have grown in recent years to almost
$80 billion in fiscal year 2005. GAO was asked to assess the management of
contingency retention inventory to determine whether (1) the Army, Air
Force, Navy, and Defense Logistics Agency have followed inventory guidance
and (2) DOD is providing oversight of inventory across these components.
Also, GAO provided an update on the progress DOD has made in implementing
GAO's past recommendations on the components' management of economic
retention inventory.

What GAO Recommends

GAO recommends that DOD direct the inventory centers to take the steps
necessary to follow existing inventory management policies and procedures
and provide oversight to ensure the components' compliance. In reviewing a
draft of this report, DOD generally agreed with GAO's recommendations.

Some DOD inventory management centers have not followed DOD-wide and
individual policies and procedures to ensure they are retaining the right
amount of contingency retention inventory. While policies require the
centers to (1) use category codes to describe why they are retaining items
in contingency inventory, (2) hold only those items needed to meet current
and future needs, and (3) perform annual reviews of their contingency
inventory decisions, one or more centers has not followed these policies.
For example, the Army's Aviation and Missile Command is not properly
assigning category codes that describe the reasons they are holding items
in contingency inventory because the inventory system is not programmed to
use the codes. GAO found that items valued at $193 million did not have
codes to identify the reasons why they were being held, and therefore GAO
was unable to determine the items' contingency retention category. GAO
also found that some inventory centers have held items such as gears,
motors, and electronic switches, even though there have been no requests
for some of them by the services in over 10 years. Moreover, some centers
are not annually reviewing their contingency retention decisions. Navy
Inventory Control Point Mechanicsburg's officials, for example, were
unaware that program managers had not conducted the required reviews until
GAO brought this to their attention. Since GAO's work only focused on the
centers it reviewed, it is unknown if these issues are occurring at other
DOD inventory centers. By not following policies for managing contingency
inventory, DOD's centers may be retaining items that are needlessly
consuming warehouse space, and they are unable to know if their
inventories most appropriately support current and future operational
needs.

DOD has provided insufficient oversight of inventory retention management
across the components. DOD's Supply System Inventory Report, which DOD
uses to oversee the components' inventory management, only requires the
components to report to DOD financial information about their inventories
and does not capture if the components are following management policies.
Without sufficient oversight of the components' inventory retention
practices, DOD cannot be certain that the components have the correct
amount or type of items in contingency retention inventory.

Lastly, DOD has made no progress to implement GAO's 2001 recommendations
requiring the components to (1) establish milestones for reviewing their
approaches for making economic retention inventory decisions, and (2)
conduct annual reviews of these approaches, as required by DOD policy. At
the time GAO issued its report, DOD agreed with the recommendations but
stated that further review was necessary before it implemented changes.
While subsequent studies reaffirmed the recommendations, DOD has still not
taken action. GAO continues to believe that DOD should implement the
recommendations to make meaningful improvements to its economic retention
management practices.
*** End of document. ***