    Currency Paper Procurement: Meaningful Competition Unlikely Under Current
    Conditions (Chapter Report, 08/28/98, GAO/GGD-98-181).

    Pursuant to a legislative requirement, GAO provided information on the:
    (1) optimum circumstances for the procurement of distinctive currency
    paper; (2) effectiveness of the Bureau of Engraving and Printing's (BEP)
    efforts to encourage competition in the procurement of currency paper;
    (3) fairness and reasonableness of prices paid for currency paper by BEP
    and the quality of the paper purchased; and (4) potential for disruption
    to the U.S. currency paper supply from BEP's reliance on a single
    source.

    GAO noted that: (1) the optimum circumstances for the procurement of
    distinctive currency paper would include an active, competitive market
    for such paper, where a number of responsible sources would compete for
    BEP's requirements; (2) however, these circumstances have not existed
    because of the unique market for currency paper and some statutory
    restrictions; (3) BEP has been aware of the need to increase competition
    and has made some efforts recently to do so in areas under its control;
    (4) however, BEP must procure currency paper within the current
    statutory framework, which limits currency paper contracts to 4 years,
    prohibits currency paper production outside of the United States, and
    prohibits purchase of currency paper from foreign-owned or controlled
    entities; (5) of the 20 paper manufacturers that responded to GAO's
    survey, 12 said they were interested in and have the capability now, or
    could be made capable in the near future, of supplying at least part of
    BEP's currency paper needs if existing statutory requirements and some
    of BEP's solicitation terms were changed; (6) 7 of the 12 are domestic
    paper manufacturers, and 5 are located in foreign countries; (7)
    although the long-term relationship between BEP and Crane & Co., Inc.
    has historically resulted in quality currency paper, BEP was unable to
    determine that it had obtained fair and reasonable prices for 13 of the
    17 contract actions awarded from 1988 to 1997; (8) BEP sometimes
    accepted prices even though it was unable to determine that they were
    fair and reasonable because it had no other source for currency paper;
    (9) GAO believes that BEP's assessments of the fairness and
    reasonableness of Crane's proposed prices were hampered by a number of
    factors, including the lack of market prices for currency paper and the
    limited analyses of proposed costs and prices it performed; (10) as the
    government's agent for acquiring currency paper, BEP is responsible for
    ensuring that the government's supply of paper is not disrupted; (11)
    although the potential for disruption in the supply of currency paper
    exists, there have been no such disruptions; (12) however, for many
    years, because BEP did not maintain a reserve inventory of paper to
    provide for contingencies, it was more vulnerable to adverse
    consequences if a disruption had occurred and was at a disadvantage in
    its contract negotiations because it lacked an alternative source for
    currency paper; and (13) BEP has recently been purchasing paper to build
    a 3-month reserve supply and, under the Conte Amendment, could buy paper
    from a foreign source if no domestic source exists.

    --------------------------- Indexing Terms -----------------------------

     REPORTNUM:  GGD-98-181
         TITLE:  Currency Paper Procurement: Meaningful Competition Unlikely
                 Under Current Conditions
          DATE:  08/28/98
       SUBJECT:  Currency and coinage
                 Procurement practices
                 Printing or duplicating
                 Federal procurement
                 Sole source procurement
                 Buy national policy
                 Competitive procurement
                 Surveys

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    Cover
    ================================================================ COVER

    Report to Congressional Requesters

    August 1998

    CURRENCY PAPER PROCUREMENT -
    MEANINGFUL COMPETITION UNLIKELY
    UNDER CURRENT CONDITIONS

    GAO/GGD-98-181

    Currency Paper Procurement

    (240251)

    Abbreviations
    =============================================================== ABBREV

      BEP - Bureau of Engraving and Printing
      CAP - Contractor Acquired Property
      DCAA - Defense Contract Audit Agency
      DOD - Department of Defense
      FAR - Federal Acquisition Regulation
      IG - Inspector General

    Letter
    =============================================================== LETTER

    B-278747

    August 28, 1998

    Congressional Requesters

    In response to section 9003 of the 1997 Emergency Supplemental
    Appropriations Act\1 and your requests, this report addresses (1) the
    optimum circumstances for the procurement of distinctive currency
    paper, (2) the effectiveness of the Bureau of Engraving and
    Printing's (BEP) efforts to encourage competition in the procurement
    of currency paper, (3) the fairness and reasonableness of prices paid
    for currency paper by BEP and the quality of the paper purchased, and
    (4) the potential for disruption to the U.S.  currency paper supply
    from BEP's reliance on a single source.

    This report contains matters for congressional consideration and
    recommendations to the Secretary of the Treasury.

    We are sending copies of this report to the Chairman and Ranking
    Minority Member of the House Committee on Banking and Financial
    Services, Subcommittee on Domestic and International Monetary Policy;
    the Chairman and Ranking Minority Member of the Senate Committee on
    Banking, Housing, and Urban Affairs; the Director of the Office of
    Management and Budget; the Secretary of the Treasury; the Director of
    BEP; the Chairman, Board of Governors of the Federal Reserve System;
    the Chief Executive Officer of Crane & Co.  (the current supplier of
    currency paper); and other interested parties.  We will also make
    copies available to others upon request.

    If you have any questions about this report, please contact me at
    (202) 512-8387.  Major contributors to this report are listed in
    appendix VIII.

    Bernard L.  Ungar
    Director, Government Business
     Operations Issues

    List of Requesters

    The Honorable Ted Stevens
    Chairman
    The Honorable Robert Byrd
    Ranking Minority Member
    Committee on Appropriations
    United States Senate

    The Honorable Ben Nighthorse
     Campbell
    Chairman
    The Honorable Herb Kohl
    Ranking Minority Member
    Subcommittee on Treasury,
     General Government, and Civil
     Service
    Committee on Appropriations
    United States Senate

    The Honorable Jim Kolbe
    Chairman
    The Honorable Steny Hoyer
    Ranking Minority Member
    Subcommittee on Treasury, Postal
     Service, and General Government
    Committee on Appropriations
    House of Representatives

    The Honorable Robert Livingston
    Chairman
    The Honorable David Obey
    Ranking Minority Member
    Committee on Appropriations
    House of Representatives

    The Honorable Dan Burton
    Chairman, Committee on Government
     Reform and Oversight
    House of Representatives

    The Honorable John F.  Kerry
    The Honorable Edward M.  Kennedy
    The Honorable Alfonse M.  D'Amato
    The Honorable Lauch Faircloth
    The Honorable William H.  Frist
    The Honorable Ernest F.  Hollings
    The Honorable Kay Bailey Hutchison
    The Honorable Frank Lautenberg
    The Honorable Barbara A.  Mikulski
    The Honorable Fred Thompson
    United States Senate

    The Honorable Joseph P.  Kennedy II
    The Honorable John W.  Olver
    The Honorable Rosa L.  DeLauro
    The Honorable John M.  McHugh
    The Honorable Gerald B.  H.  Solomon
    The Honorable James A.  Traficant, Jr.
    House of Representatives

    --------------------
    \1 Public Law 105-18, 111 Stat.  158, 196 (1997).

    EXECUTIVE SUMMARY
    ============================================================ Chapter 0

       PURPOSE
    ---------------------------------------------------------- Chapter 0:1

    Since 1879, the Bureau of Engraving and Printing (BEP) of the
    Department of the Treasury has bought virtually all of the paper used
    to print U.S.  currency from a single supplier.  Concerned about the
    lack of competition in the procurement of currency paper, fairness
    and reasonableness of prices paid, and possibility of disruptions to
    paper supplies, Congress directed GAO, in the 1997 Emergency
    Supplemental Appropriations Act, to complete a comprehensive analysis
    of the "optimum circumstances for government procurement of
    distinctive currency paper" and report its findings to the House and
    Senate Committees on Appropriations.  GAO received three other
    requests for a review of the procurement of currency paper.  To
    fulfill the mandate and the requests, GAO focused on the following
    objectives:

      -- Have BEP's efforts to encourage competition for procuring
         currency paper been effective?

      -- Have prices paid for currency paper been fair and reasonable,
         and has the quality of the paper been ensured?

      -- Is there potential for disruption to the U.S.  currency paper
         supply from BEP's reliance on a single supplier?

       BACKGROUND
    ---------------------------------------------------------- Chapter 0:2

    BEP, a bureau of the Department of the Treasury, buys currency paper
    from the private sector and prints the nation's currency at
    production facilities in Washington, D.C., and Ft.  Worth, Texas.  In
    recent years, the currency paper contract has been about $75 million
    per year.  The Department of the Treasury oversees BEP's production
    of currency.  BEP reports to the Secretary of the Treasury through
    the U.S.  Treasurer who is consulted on policy issues affecting BEP
    and serves as the national spokesperson on such issues as currency
    redesign.  The U.S.  Secret Service, another Treasury bureau, works
    with BEP in assessing the security of BEP's money production
    facilities and works with it on currency redesign.  The Federal
    Reserve sets monetary policy for the nation and obtains new currency
    from BEP and distributes it to the public through depository
    institutions.  In 1997, the Federal Reserve ordered 9.6 billion
    currency notes of various denominations from BEP, at an estimated
    production cost of $383 million.

    For the last 119 years, Crane & Co., Inc., (Crane) of Dalton,
    Massachusetts, has supplied paper for U.S.  currency.  It currently
    supplies the three types of cotton paper being used.  The first type,
    distinctive currency paper, does not have any security thread or
    watermark and is used to print all 1- and 2-dollar notes.  The second
    type contains a security thread and is currently used for 5-, 10-,
    and 20-dollar notes.  The third type, new currency design paper with
    a watermark and security thread, was introduced in 1995 and is used
    for the newly redesigned 100-, 50-, and 20-dollar notes.  The newly
    redesigned 20-dollar notes are scheduled to be put into circulation
    later this year.  BEP plans to use this new currency design paper for
    newly redesigned 5- and 10-dollar notes next year.  In addition,
    Treasury has initiated a study to project the future demand for
    currency that it expects to be completed by November 30, 1998.

    The procurement of currency paper is subject to an appropriations
    limitation, called the Conte Amendment, enacted in December 1987 and
    set forth at 31 U.S.C.   5114 note.  In effect, the Conte Amendment
    requires that distinctive paper for U.S.  currency and passport paper
    be manufactured in the United States and prohibits the purchase of
    currency and passport paper from a supplier owned or controlled by a
    foreign entity unless the Secretary of the Treasury determines that
    no domestic source exists.  The procurement of currency paper is
    subject to another statutory limitation, set forth at 31 U.S.C.
    5114, which prohibits the Secretary of the Treasury from entering
    into a contract in excess of 4 years for manufacturing distinctive
    currency paper.

    The United States' reliance on a single source for currency paper is
    not unique; most of the other G-7 nations\2 also rely on single
    domestic suppliers for their banknote paper.

    --------------------
    \2 The other G-7 nations are Canada, England, France, Germany, Italy,
    and Japan.

       RESULTS IN BRIEF
    ---------------------------------------------------------- Chapter 0:3

    The optimum circumstances for the procurement of distinctive currency
    paper would include an active, competitive market for such paper,
    where a number of responsible sources would compete for BEP's
    requirements.  However, these circumstances have not existed because
    of the unique market for currency paper and some statutory
    restrictions.  BEP has been aware of the need to increase competition
    and has made some efforts recently to do so in areas under its
    control.  However, BEP must procure currency paper within the current
    statutory framework, which limits currency paper contracts to 4
    years, prohibits production of currency paper outside of the United
    States, and prohibits purchase of currency paper from foreign-owned
    or controlled entities.  Of the 20 paper manufacturers that responded
    to GAO's survey, 12 said they were interested in and have the
    capability now, or could be made capable in the near future, of
    supplying at least part of BEP's currency paper needs if existing
    statutory requirements and some of BEP's solicitation terms were
    changed.  Seven of the 12 are domestic paper manufacturers, and 5 are
    located in foreign countries.

    Although the long-term relationship between BEP and Crane has
    historically resulted in quality currency paper, BEP was unable to
    determine that it had obtained fair and reasonable prices for 13 of
    the 17 contract actions awarded from 1988 to 1997.  BEP sometimes
    accepted prices even though it was unable to determine that they were
    fair and reasonable because it had no other source for currency
    paper.  GAO believes that BEP's assessments of the fairness and
    reasonableness of Crane's proposed prices were hampered by a number
    of factors, including the lack of market prices for currency paper
    and the limited analyses of proposed costs and prices it performed,
    especially on earlier contracts in GAO's sample.  In addition,
    certain BEP practices, such as understating the quantities of
    currency paper needed, caused, or may have caused, the government to
    pay more for currency paper than it should have.

    As the government's agent for acquiring currency paper, BEP is
    responsible for ensuring that the government's supply of paper is not
    disrupted.  Although the potential for disruption in the supply of
    currency paper exists, there have been no such disruptions.  However,
    for many years, because BEP did not maintain a reserve inventory of
    paper to provide for contingencies, it was more vulnerable to adverse
    consequences if a disruption had occurred and was at a disadvantage
    in its contract negotiations because it lacked an alternative source
    for currency paper.  BEP has recently been purchasing paper to build
    a 3-month reserve supply and, under the Conte Amendment, could buy
    paper from a foreign source if no domestic source exists.

       PRINCIPAL FINDINGS
    ---------------------------------------------------------- Chapter 0:4

          FACTORS THAT HAVE AFFECTED
          COMPETITION
    -------------------------------------------------------- Chapter 0:4.1

    Obtaining competition in currency paper procurement is challenging,
    partly because of the uniqueness of the currency paper, which
    requires a relatively large investment in capital equipment.  In
    addition, special statutory provisions govern the acquisition of
    currency paper, which provide a 4-year limit to contracts for the
    manufacture of currency paper, require that it be manufactured in the
    United States, and prohibit the purchase of currency paper from
    foreign-owned or controlled entities.

    Treasury and BEP completed studies in 1983 and 1996 to determine what
    it would take to encourage competition for procuring currency paper.
    The studies identified the following elements that have affected
    competition, the first three of which could be addressed in part by
    BEP:  (1) the high cost of the initial capital investment to build or
    retrofit a plant to produce currency paper, (2) an inadequate
    start-up period to meet specified paper deliveries, (3) the absence
    of a guaranteed minimum production commitment sufficient to cover the
    cost of constructing and equipping a plant, and (4) the ownership and
    control provision in the Conte Amendment.

    Twelve of the 20 paper manufacturers responding to GAO's survey of 30
    cotton paper manufacturers who said they are capable now, or could be
    in the near future, of supplying at least part of BEP's currency
    paper needs also said that they would be interested in supplying
    currency paper to BEP if certain conditions were met.  Nine of the 12
    said that the length of currency paper contracts would have to be
    more than 4 years so that they could recover the necessary capital
    investment, or BEP would have to offer to finance the capital
    equipment cost.  Six of the 12 said the ownership and control
    provision of the Conte Amendment would have to be relaxed.  Five of
    the 12 said the amount of start-up time allowed to start delivering
    the paper had to be longer than BEP has provided in the past.

    BEP has recently taken steps to stimulate competition in areas under
    its control.  For example, its latest solicitation provides for up to
    a 4-year performance period with multiple-award scenarios that allow
    offerors to submit an offer on various-sized lots.  The solicitation
    also provides that BEP will consider "innovative acquisition and
    financing arrangements" proposed by offerors and up to 24 months for
    a start-up period, although any required start-up period is to be
    deducted from the 4-year production period.

    Other agencies have used other options for promoting competition that
    BEP has not been successful with, such as creating a second supplier.
    Most of the other G-7 nations rely on single domestic suppliers for
    their banknote paper.

          BEP HAS ENSURED QUALITY BUT
          HAS NOT DEMONSTRATED THAT IT
          HAS OBTAINED FAIR AND
          REASONABLE PRICES
    -------------------------------------------------------- Chapter 0:4.2

    BEP said that Crane has been a reliable source for currency paper and
    has not missed a paper delivery in over 100 years.  Nevertheless, BEP
    has had problems negotiating prices with Crane.  GAO's review of
    BEP's currency paper contracts from 1988 to 1997, which included 5
    contracts consisting of 17 procurement actions, showed that BEP
    determined the price to be fair and reasonable for 4 actions and was
    unable to determine that the prices for 5 actions were fair and
    reasonable.  BEP did not reach agreement with Crane but used Crane's
    interim prices on the remaining eight actions.  The interim prices
    were subsequently reduced about 4 percent by an arbitrator, and Crane
    returned $12.7 million to BEP.  A primary disagreement between BEP
    and Crane has centered on Crane's profit rates.  Recently, BEP agreed
    to higher profit levels on the premise that the supplier's investment
    in capital equipment would reduce labor costs and the government
    would benefit through lower prices and improved quality.  However,
    BEP's procurement records did not reflect any data as to how the
    prices would be lower or how the government would otherwise benefit.

    Determining the fairness and reasonableness of currency paper prices
    is challenging for a number of reasons, including the lack of a
    domestic market against which to compare prices and the lack of
    information on currency paper prices in foreign countries.  To
    determine whether prices were fair and reasonable for most of the
    contracts GAO reviewed, BEP therefore relied primarily on reviewing
    (1) costs questioned by government audits of Crane's price proposals
    and (2) Crane's proposed profits.  The audits and analyses of
    proposed profits gave BEP a basis from which to make its
    determinations and to raise concerns about proposed prices and
    profits.  However, BEP has not obtained audits of Crane's estimating
    system, and many audits of cost proposals that were requested pointed
    out problems in Crane's cost accounting system.  In addition, until
    recently, BEP's analyses of Crane's proposed costs were limited in
    scope; it generally did not do price analyses; and its analyses of
    profit, in some cases, were incomplete.

    Unrelated to the issue of fair and reasonable prices, GAO identified
    three other BEP business practices that caused or may have caused the
    government to pay more for currency paper than it should have.
    First, BEP significantly understated the quantities of currency paper
    it needed, which sometimes resulted in it paying a higher price than
    it should have.  Second, it did not even out the quantities of paper
    it ordered over time, causing inefficiencies in its contractor's
    operations.  Third, BEP did not obtain royalty-free data rights for
    the security thread used in its currency paper.

          BEP IS BUILDING AN INVENTORY
          OF CURRENCY PAPER AS A
          CONTINGENCY
    -------------------------------------------------------- Chapter 0:4.3

    No disruption in the supply of currency paper has occurred to date.
    Nonetheless, BEP has been vulnerable to such disruptions and in a
    weak negotiating position because it did not have a second source for
    currency paper or have a reserve inventory of currency paper if
    negotiations were to require more time than expected.  BEP continued
    to buy paper from Crane when BEP's contracting officers were unable
    to determine whether the prices were fair and reasonable.  Although
    the Conte Amendment provides relief to BEP in that it allows BEP to
    obtain currency paper from a foreign source if no domestic source
    exists, BEP officials said the foreign sources would require at least
    3 months to deliver currency paper.  BEP recently decided to change
    its "just-in-time" approach to one of maintaining an inventory with a
    3-month supply of all three types of currency paper.  As of May 1998,
    BEP officials reported that it has achieved its inventory goals with
    the exception of the currency paper required for the newly redesigned
    20-dollar note, which BEP expects to reach during calendar year 1999.

       RECOMMENDATIONS TO THE
       SECRETARY OF THE TREASURY
    ---------------------------------------------------------- Chapter 0:5

    To strengthen BEP's capacity to ensure fair and reasonable prices,
    GAO recommends that the Secretary direct that BEP improve its
    procurement practices in the areas of oversight and audit of the
    contractor's cost accounting and estimating systems, improved
    analysis and documentation of the basis for acceptance of prices and
    profits, and post-award auditing.  In addition, GAO recommends that
    the Secretary ensure that in all future currency paper procurements,
    solicitations more accurately reflect the expected amounts of paper
    needed and orders are placed for paper quantities that permit
    supplier(s) to maintain a steady production level and minimize the
    equipment they have to acquire.

       MATTERS FOR CONGRESSIONAL
       CONSIDERATION
    ---------------------------------------------------------- Chapter 0:6

    To assist the Secretary in obtaining competition from domestic
    sources, Congress may wish to consider lengthening the 4-year limit
    for currency paper contracts to give potential offerors a longer time
    to recover their capital investments.  If adequate price competition
    among two or more suppliers can be achieved, concerns over whether
    the prices paid are fair and reasonable should be reduced.

    Finally, because BEP's past efforts to encourage domestic competition
    for currency paper have been unsuccessful and future efforts are
    uncertain, and because BEP has been unable to determine that it
    obtained fair and reasonable prices from the current supplier in some
    past procurements, GAO has concluded that BEP may need additional
    authority to protect the government's interests in obtaining currency
    paper.  Specifically, GAO concluded that Congress may want to
    consider revising the Conte Amendment, which allows the Secretary of
    the Treasury to obtain currency paper from a foreign-owned source
    only if no domestic supplier is available, to permit the Secretary to
    obtain currency paper from a foreign-owned source on a temporary
    basis if it is determined that no domestic supplier will provide
    paper at fair and reasonable prices.  Such a provision should improve
    the likelihood that fair and reasonable prices could be obtained.

       AGENCY AND CONTRACTOR COMMENTS
    ---------------------------------------------------------- Chapter 0:7

    GAO provided copies of a draft of this report to the Chairman, Board
    of Governors of the Federal Reserve System; BEP; the Department of
    the Treasury; and Crane for comment.  GAO received written comments
    from BEP that included input from Treasury (see app.  VI), written
    comments from Crane (see app.  VII), and oral comments from the
    Federal Reserve.  BEP and Crane also provided technical comments,
    which are incorporated in appropriate sections throughout the report.
    GAO's summary of agency and Crane's comments and GAO responses are
    included at the end of chapter 5, and GAO's detailed responses to
    Crane's comments are in appendix VII.

    The Federal Reserve said GAO's analysis and recommendations were
    reasonable.  BEP emphasized its compliance with the Federal
    Acquisition Regulation in the award of the five contracts GAO
    reviewed and generally disagreed with GAO's proposed recommendations
    or said action had already been initiated.  Crane said GAO's proposed
    recommendations to BEP to encourage competition have already been
    adopted and no further action was necessary.  Crane agreed that the
    4-year limit on currency paper contracts could be lengthened but
    disagreed that consideration be given to revising the Conte
    Amendment.  Crane also said its prices were fair and reasonable.

    GAO considered BEP's and Crane's views, made some modifications to
    reflect these views, but believes that additional congressional
    action to encourage competition and additional congressional and
    Treasury actions to ensure prices are fair and reasonable are
    appropriate.  GAO's review did not focus on compliance issues.
    Although GAO did not determine whether prices were fair and
    reasonable because this is BEP's responsibility, GAO noted that BEP's
    contracting officers were unable to make this determination in 13 of
    17 contracting actions GAO reviewed, primarily because BEP considered
    Crane's profits high.

    INTRODUCTION
    ============================================================ Chapter 1

    Concerns about the procurement of currency paper resulted in Congress
    including in the 1997 Emergency Supplemental Appropriations Act a
    requirement that we complete a comprehensive analysis of the "optimum
    circumstances for government procurement of distinctive currency
    paper" and report our findings to the House and Senate Committees on
    Appropriations.  In the conference report accompanying the
    appropriations bill,\3 the Conference Committee expressed concern
    over the fact that the Bureau of Engraving and Printing (BEP) of the
    Department of the Treasury has bought virtually all of its paper for
    the nation's currency from a single supplier for over 100 years.  The
    Conference Committee directed that we report on any limitations on
    competition in currency paper procurement and possible alternatives
    to the way BEP has been buying the paper, the fairness and
    reasonableness of prices paid for the paper, the potential for
    disruption of the availability of currency paper from BEP's reliance
    on a single supplier, and other matters.

    In June 1997, the Chairman of the House Government Reform and
    Oversight Committee asked that we also report our findings to that
    Committee because of its interest in federal procurement matters, and
    Senator Lautenberg requested that we report our findings to his
    office as well.  In September 1997, 16 members of Congress informed
    us of their interest in our analysis and expressed their opinion that
    a review of the potential benefits and drawbacks of a single-supplier
    relationship would be appropriate.

    --------------------
    \3 H.R.  Report No.  105-119, 105th Cong., 1st Sess., at 108-110
    (1997).

          SEVERAL AGENCIES ARE
          INVOLVED WITH THE
          ACQUISITION OF CURRENCY
          PAPER
    -------------------------------------------------------- Chapter 1:0.1

    BEP buys currency paper from the private sector.  It then prints the
    nation's currency at production facilities in Washington, D.C., and
    Ft.  Worth, Texas.  In recent years, currency paper purchases have
    been about $75 million per year.  Before 1861, state-chartered
    private banks issued paper money, and the federal government produced
    only coins.  Partly because of the need to finance the Civil War and
    a shortage of coins, Congress authorized the Secretary of the
    Treasury to have notes engraved and printed by private bank note
    companies in 1862.  The actual printing of currency notes by Treasury
    employees began in 1863.  In 1869, Congress authorized BEP to produce
    currency notes.

    The U.S.  Secret Service, another Treasury bureau created in 1865, is
    also involved in currency paper matters.  The mission of the Secret
    Service includes protecting the President and Vice President, their
    families, and visiting foreign dignitaries; and enforcing laws
    relating to U.S.  money and securities, as well as those relating to
    electronic funds transfer and credit card fraud.  The Secret Service
    works with BEP in assessing the security of the BEP's money
    production facilities and works with it on currency redesign.

    The Department of the Treasury performs four basic functions:
    formulating and recommending national economic, financial, tax, and
    fiscal policies; serving as a financial agent for the U.S.
    government; enforcing laws under the jurisdiction of Treasury
    bureaus; and overseeing the production of coins and currency.  BEP
    reports to the Secretary of the Treasury through the U.S.  Treasurer
    and the Assistant Treasury Secretary for Management and Chief
    Financial Officer.  Among other responsibilities, the U.S.  Treasurer
    is consulted on policy issues affecting BEP, is a member of
    Treasury's Advanced Counterfeit Deterrence Committee, and serves as a
    spokesperson to the public for BEP on issues such as currency
    redesign.

    In addition to Treasury, the Federal Reserve is involved in currency
    paper matters.  The Federal Reserve sets monetary policy for the
    nation and obtains new currency from BEP and distributes it to the
    public through depository institutions.  The Federal Reserve banks
    also identify counterfeit currency and destroy currency that is unfit
    for circulation.  In 1997, the Federal Reserve ordered 9.6 billion
    currency notes of various denominations from BEP at an estimated
    production cost of $383 million (which includes the $75 million
    currency paper cost).

          BEP HAS RELIED PRIMARILY ON
          A SINGLE SUPPLIER FOR OVER
          100 YEARS
    -------------------------------------------------------- Chapter 1:0.2

    According to BEP officials, virtually all of the paper used in
    currency has been bought from a single supplier, Crane & Co., of
    Dalton, Massachusetts, since 1879.  According to a 1983 Treasury/BEP
    study on currency paper procurement, during the 1960s, BEP attempted
    to develop a second source of paper by contracting with Gilbert Paper
    in Wisconsin for about 3 percent of its annual requirements.  This
    supplier declined to submit an offer on subsequent procurements of
    currency paper because its prices for a portion of the BEP's needs
    were not competitive with Crane's prices for the entire BEP currency
    paper requirement.  The study also stated that BEP endeavored again
    in 1982 to encourage competition when it issued a solicitation that
    would have split the paper requirement among two or more suppliers.
    This effort also failed because Crane offered a substantially lower
    price, according to the study.

    In the early 1980s, a British paper manufacturer, Portals, Ltd.,
    sought to sell currency paper to BEP and built a manufacturing plant
    in Hawkinsville, Georgia.  However, the plant closed several years
    after it was built without receiving any paper contracts from BEP.

    In 1991 and again in 1995, BEP entered into developmental contracts
    with another firm, Crown Vantage Paper Co.  (formerly the
    Communications Paper Division of the James River Paper Company),
    which had a paper mill in New Jersey, to develop currency paper with
    an advanced counterfeit deterrence device.  However, these efforts
    did not lead to another currency paper source because (1) BEP
    discontinued using the paper that Crown was developing; and (2) Crown
    had problems in meeting BEP's fold endurance specifications and
    needed technology that was available only from foreign sources to be
    able to meet requirements of the current solicitation, according to
    BEP officials.

    The Treasury Department and BEP studied the currency paper market in
    1983 and in 1996 in an effort to increase competition.  These studies
    identified a limited number of firms capable of producing the
    cotton/linen fiber paper (also called "rag" paper).  Treasury/BEP
    reported that the rag paper industry is an old and stable industry,
    characterized by 15 independent paper mills producing about 90
    percent of the domestic rag paper capacity.  In addition to the
    domestic producers, Treasury/BEP identified a number of foreign
    suppliers.  Treasury/BEP identified a number of firms, both domestic
    and foreign, capable of producing currency paper, some of whom might
    be interested in furnishing all or part of BEP's needs.  For security
    reasons, Treasury/BEP and the Secret Service thought purchasing
    currency paper produced offshore would be problematic.  Treasury/BEP
    also identified foreign firms interested in joint venturing with
    domestic firms to supply currency paper from locations in the United
    States but concluded that the capital investment required would be
    too costly for this to be successful.  The firms interviewed by
    Treasury/BEP indicated that significant BEP subsidies for capital
    investment, long-term production guarantees, and economic price
    redeterminations in contracts would be crucial to any decision to
    build or retrofit a currency paper plant in the United States.

    The 1996 Treasury/BEP report concluded that rather than invest in
    developing alternative source(s) of currency paper, it would be less
    costly to work with the long-standing single supplier of paper.
    However, the report also concluded that BEP should continue to
    explore the marketplace through competitive solicitations to
    determine if there were viable alternative sources.  The 1996 study
    also reported that a number of other countries, such as England and
    Germany, used single domestic sources to provide paper for the
    nations' banknotes.

          APPLICABLE LAWS
    -------------------------------------------------------- Chapter 1:0.3

    Title III of the Federal Property and Administrative Services Act of
    1949 (Property Act), as amended,\4 as implemented by the Federal
    Acquisition Regulation (FAR),\5

    generally governs BEP acquisitions.  As expressed in FAR, part 15,
    when contracting in a competitive environment, agencies are to obtain
    supplies or services from responsible sources at fair and reasonable
    prices that result in the best value to the government.  To
    accomplish this, agencies are directed to use competitive procedures
    to obtain full and open competition in most acquisitions above
    $100,000.  The Property Act provides for several exceptions to full
    and open competition, one of which may be used when supplies or
    services are available from only one responsible source and no other
    supplier can satisfy the agency requirement.  Alternatively, an
    agency may exclude a particular source from a contract action to
    establish or maintain an alternative source of supply.  Such an
    exclusion may be based on a determination that to do so would
    increase competition in the longer term and reduce overall cost or
    would ensure the continuous availability of a reliable source.

    When competitive procedures are used and a market consisting of a
    number of responsible sources for the government's needs exists, the
    expected result would be adequate price competition so that an agency
    would be likely to obtain supplies at a fair and reasonable price.
    For negotiated contracts, the agency must evaluate the reasonableness
    of the prices submitted.  When there is adequate price competition
    the agency should use price analysis.  Generally, when there is not
    adequate price competition, both price and cost analyses are to be
    used.\6 If a contractor insists on a price or demands a profit that
    the agency's contracting officer considers unreasonable during
    contract negotiations, the contracting officer is to refer the
    contract action to a level above the contracting officer for
    disposition.  This determination may include consideration of the
    feasibility of developing an alternative source.  In making the
    determination, factors such as ensuring the continuous availability
    of a reliable source of supplies may outweigh cost considerations.
    If cost is the major consideration, one of the difficult questions is
    to what extent the agency can expect competition to reduce the cost
    of supplies.

    The procurement of currency paper is subject to an appropriations
    restriction, called the Conte Amendment, enacted in December 1987 and
    set forth at 31 U.S.C.   5114 note.  In effect, the Conte Amendment
    requires that U.S.  currency and passport paper be manufactured in
    the United States and prohibits the purchase of currency and passport
    paper from a supplier owned or controlled by a foreign entity unless
    the Secretary of the Treasury determines that no domestic source
    exists.  According to the Conference Report accompanying the Conte
    Amendment, the requirement was to enhance the security capabilities
    of U.S.  law enforcement agencies.\7

    The procurement of currency paper is subject to another statutory
    requirement, set forth at 31 U.S.C.   5114, which prohibits the
    Secretary of the Treasury from entering into a contract in excess of
    4 years for manufacturing distinctive currency paper.  Although this
    provision restricts the length of contracts, according to BEP, the
    provision originated in 1916 and was enacted to increase the previous
    1-year limitation on Treasury contracts to improve the United States'
    ability to purchase linen and ink pigments from European sources in
    the event war broke out.

    --------------------
    \4 41 U.S.C.   251-266.

    \5 FAR implements the procurement statutes and provides uniform
    policies and procedures for acquisitions by all executive agencies.

    \6 See chapter 3 for an explanation of the differences between cost
    and price analysis.

    \7 H.R.  Report No.  100-498, 100th Cong., 1st Sess., at 1177-1178
    (1987).

          THREE TYPES OF PAPER ARE
          USED FOR U.S.  CURRENCY
    -------------------------------------------------------- Chapter 1:0.4

    BEP currently uses three types of paper for U.S.  currency.
    Distinctive currency paper is used to print all 1- and 2- dollar
    notes.  This paper, which does not have any security thread or
    watermark, was used to print all currency denominations before
    1991.\8 A second type of paper is called distinctive currency paper
    with security thread.  This paper was first bought in production
    quantities in 1991 and was originally used for all denominations
    above the 2-dollar note; but it is now used only for 5-, 10-, and
    20-dollar notes.  The third type of paper, called new currency design
    paper with a watermark and security thread, was introduced in 1995
    and is being used to print the redesigned 100- and 50-dollar notes
    that are currently in circulation and the newly redesigned 20-dollar
    note that is scheduled to be introduced into circulation in the fall
    of 1998.  BEP plans to use this paper for newly redesigned 5- and
    10-dollar notes next year.

    Until recently, the manufacturing and purchasing of currency paper
    was relatively simple because only one type of paper was used to
    print all U.S.  currency.  Common paper manufacturing equipment was
    used in the process.  BEP annually contracted for estimated
    quantities of paper needed and subsequently ordered it to print the
    Federal Reserve's currency requirements.  Federal Reserve currency
    needs, in turn, were driven by the requirement to replace soiled
    currency removed from circulation and provide for increased currency
    demands.

    The threaded currency paper and the threaded currency paper with a
    watermark were developed as anticounterfeit deterrents.  According to
    the Secret Service, counterfeiting is becoming more of a problem as
    electronic technologies advance and become available to the public.
    In the past, counterfeiters had to have access to a printing press to
    counterfeit money.  Today, counterfeiters use color copiers, digital
    scanners, personal computers, and ink jet color printers to replicate
    money.  As a result, counterfeiters need less skill than before and
    have more access to machinery capable of counterfeiting, and the cost
    to counterfeit is much less.  For example, the Secret Service said
    that in fiscal year 1995, the Federal Reserve discovered $32 million
    in counterfeit currency that was passed on to the public, of which
    0.5 percent was made with computer equipment.  In fiscal year 1998,
    the Secret Service expects that $45 million to $50 million of
    counterfeit currency will be passed, and 40 percent of it is expected
    to have been made with the use of computer technologies.

    Using more sophisticated paper is one method of making our currency
    more difficult to counterfeit.  Other nations and BEP are also
    considering other materials, such as plastic, on which to print
    currency to increase its durability and anticounterfeiting features.

    Throughout the world, currency paper is produced using two processes,
    fourdrinier and cylinder mold.  In both processes, cotton fibers and
    other materials are mixed into a pulp with water and formed into a
    slurry, which is spread on a wire mesh where the water content is
    greatly reduced, and formed into paper.  In the fourdrinier process,
    which is used by Crane for all BEP currency and is also used for the
    vast majority of all types of paper produced, including newsprint,
    the slurry is sprayed onto a large horizontal wire cloth.  As the
    slurry moves along horizontally, water is drained through the wire
    cloth, and the fibers bind together into a sheet formation.  In the
    cylinder mold process, used for many European and other nations'
    banknotes, a fine wire cloth is stretched around a cylinder, which
    serves as a strainer and rotates within a vat containing the pulp and
    water.  As the cylinder is rotated, water is removed from the inside
    of the cylinder and a layer of fibers is formed on the outside.

    --------------------
    \8 Security thread is a thin, clear, polyester strip placed in the
    paper during its manufacture.  The thread contains an identifiable
    printed pattern and is not observable in reflected light, but it is
    observable in transmitted light and cannot be reproduced by copiers.
    Watermarks are images of the portrait on the currency paper and are
    made when the paper is formed by varying the density of the paper.
    The watermark is visible in transmitted light.  Both security threads
    and watermarks are examples of anticounterfeiting features and are
    difficult for counterfeiters to reproduce.

       OBJECTIVES, SCOPE, AND
       METHODOLOGY
    ---------------------------------------------------------- Chapter 1:1

    The overall objective of our review as stated in the 1997 Emergency
    Supplemental Appropriations Act was to analyze the "optimum
    circumstances for government procurement of distinctive currency
    paper." However, because that objective was broad and numerous
    congressional parties were interested in this review, we met with the
    interested Members' and committees' offices to determine the specific
    issues they wanted addressed as well as approaches to address those
    issues.  Although we identified a number of concerns and issues, they
    are all covered under the following three objectives:

      -- Have BEP's efforts to encourage competition for procuring
         currency paper been effective?

      -- Have prices paid for currency paper been fair and reasonable and
         has the quality of the paper been ensured?

      -- Is there potential for disruption to the U.S.  currency paper
         supply from BEP's reliance on a single supplier?

    To address these objectives, we reviewed federal procurement statutes
    and regulations and specific laws related to currency paper.  We
    reviewed various indicators of the competitiveness of the currency
    paper market, such as the number of paper manufacturers who said they
    were capable of supplying currency paper to BEP, and the factors that
    make it difficult for them to provide currency paper.  We also
    reviewed BEP studies of the currency paper market and obtained
    information from other federal agencies, such as the Secret Service
    and the Department of Defense (DOD).

    To address the first two objectives, we reviewed BEP's currency paper
    procurement files for paper contracts in effect from 1988 to 1997,
    analyzed how BEP bought currency paper during this period, and
    compared certain BEP actions with requirements in the FAR and
    applicable laws.  We surveyed 30 domestic and foreign cotton paper
    manufacturers on their interests in supplying currency paper and
    factors that prevented them from competing for BEP currency paper
    contracts, and we surveyed other G-7 nations on how they procured
    banknote paper.  We interviewed numerous officials of BEP, Treasury,
    the Secret Service, the Federal Reserve, Crane, and other agencies.
    We also interviewed several of the domestic and foreign cotton paper
    manufacturers that were included in our survey.

    To help us analyze the fairness and reasonableness of prices paid by
    BEP for currency paper, we analyzed how BEP used audits of the single
    supplier's costs and proposals in its negotiations and evaluated
    whether BEP had an appropriate basis for determining the fairness and
    reasonableness of prices it paid for currency paper over the last 10
    years.  We toured paper mills of two cotton paper manufacturers, as
    well as BEP printing facilities in Washington, D.C., and Ft.  Worth,
    TX, to observe how paper was produced and currency was printed.

    To address the third objective, we interviewed officials at BEP, the
    Federal Reserve, and Crane; reviewed BEP's contingency plan for
    critical materials; and asked other G-7 nations what type of
    contingency reserves of banknote paper they maintained.

    We did our work in accordance with generally accepted government
    auditing standards from July 1997 to August 1998.  We requested
    comments on a draft of this report from the Chairman, Board of
    Governors of the Federal Reserve System; the Secretary of the
    Treasury; and the Chief Executive Officer of Crane.  We received
    written comments from BEP's Acting Director that incorporated
    comments from the Treasury Department, written comments from Crane,
    and oral comments from the Federal Reserve.  BEP's and Crane's
    comments are reprinted in appendixes VI and VII, respectively.  Our
    summary of agency and Crane's comments and GAO's responses are
    discussed at the end of chapter 5.  BEP and Crane also provided
    technical comments, which have been incorporated as appropriate in
    the report.  A more detailed discussion of our objectives, scope, and
    methodology is contained in appendix I.

    SEVERAL FACTORS RESULTED IN
    LIMITED COMPETITION
    ============================================================ Chapter 2

    The optimum circumstances for the procurement of distinctive currency
    paper would include an active, competitive market for such paper
    where a number of responsible sources would compete for BEP's
    requirements.  However, this is currently not the case because of the
    unique market for currency paper and some statutory restrictions.
    After over 100 years of relying on a single source, Treasury and BEP
    completed studies in 1983 and 1996 on what it would take to encourage
    competition for procuring currency paper, and BEP recently took steps
    to encourage competition in matters under its control.  However,
    several paper manufacturers told us that they would compete for BEP
    paper contracts if additional changes were made, such as allowing
    foreign-owned companies to compete to supply currency paper and
    extending the length of contracts to more than 4 years.  These
    changes would require existing statutory limitations to be amended.
    There are also other options for obtaining competition that are
    allowed under procurement laws and have been used by other federal
    agencies.

       COMPETITION IS THE OPTIMUM
       CIRCUMSTANCE FOR THE
       PROCUREMENT OF CURRENCY PAPER
    ---------------------------------------------------------- Chapter 2:1

    When the government purchases common commercially available goods and
    services, obtaining competition is relatively easy.  However, when
    the government purchases goods that serve only the government's
    needs, competition is less likely to occur.  In currency paper
    procurements, obtaining competition is challenging, partly because
    there are few cotton paper manufacturers, currency paper is unique to
    the governments' needs, and a large investment in capital equipment
    is required.

       BEP HAS IDENTIFIED FACTORS
       INHIBITING COMPETITION
    ---------------------------------------------------------- Chapter 2:2

    Factors that inhibited competition were identified in the 1996
    Treasury/BEP currency paper study.  These factors include (1) the
    cost of the initial capital investment to build or retrofit a plant
    to produce currency paper; (2) the short start-up period required to
    comply with specified paper deliveries; (3) the risks and
    uncertainties inherent in entering a limited, government-controlled
    market; and (4) the restriction on acquiring distinctive currency
    paper from foreign-owned or controlled companies contained in the
    Conte Amendment.  Potential suppliers told BEP that it would take
    between $20 million and $150 million to build or retrofit the
    necessary plant and equipment to provide currency paper to BEP; and
    that because of the risks inherent in entering a limited,
    government-controlled market, some form of financial assistance from
    BEP would be necessary.  The 1996 study also cited delivery
    requirements, usually requiring delivery starting at or shortly after
    contract award, as a significant inhibitor, given that manufacturers
    said it takes 1 to 2 years to become operational.

    The 1996 Treasury/BEP study also found that the absence of a
    guaranteed minimum production commitment sufficient to cover the cost
    of constructing and equipping a plant was an inhibitor.  Potential
    suppliers told Treasury/BEP they would require a long-term commitment
    to manufacture a minimum of 40 percent of BEP's requirements in order
    to begin production.  According to BEP, Treasury currently has a
    study under way aimed at projecting the future demand for currency.
    The study is being done by representatives from Treasury, BEP, the
    Mint, and the Federal Reserve.  The study is expected to be done by
    November 30, 1998.

       BEP DID NOT OBTAIN COMPETITION
       FOR CURRENCY PAPER CONTRACTS
       AWARDED FROM 1988 TO 1997
    ---------------------------------------------------------- Chapter 2:3

    BEP awarded five separate contracts to Crane for currency paper from
    1988 to 1997.  Two of these contracts, 95-23 and 97-10, were awarded
    to Crane on a sole-source basis.  The other three contracts, 88-205,
    91-18, and 93-14, were also awarded to Crane because BEP did not
    receive any other offers in response to its solicitations.
    Additionally, in accordance with the Conte Amendment, BEP was
    precluded from awarding a currency paper contract to foreign-owned or
    controlled firms.  Although some matters affecting competition in the
    currency paper market are beyond BEP's control, BEP's solicitations
    for currency paper before 1997 did not attempt to encourage
    competition by using means within its control.  As shown in table
    2.1, some of BEP's solicitations contained a 1 or 2 year production
    period and required potential suppliers to start providing currency
    paper shortly after contract award.  Although offerors can always
    request that financial assistance be provided, BEP did not offer to
    provide potential offerors financial assistance for capital equipment
    in its solicitations.

                                        Table 2.1

                           Selected Terms of BEP Currency Paper
                         Contracts/Solicitations for 1988 to 1997

                                     Contracts/solicitations
              ----------------------------------------------------------------------
    Terms of
    solicita
    tion      88-205      91-18       93-14       95-23       97-10       97-13\a
    --------  ----------  ----------  ----------  ----------  ----------  ----------
    Length    2 years     1 year      1 year      1 year      2 years     4 years
    of        with two    with three  with four   with two
    contract  1-year      1-year      1-year      6-month
              options     options     options     options

    Amount    None        None        None        30 days     30-60 days  Up to 24
    of                                                                    months
    start-
    up time
    provided

    Sole      CS          CS          CS          Sole        Sole        CS
    source                                        Source      Source
    or
    Competit
    ive
    Solicita
    tion
    (CS)

    Financia  None        None        None        None        None        Proposals
    l         offered     offered     offered     offered     offered     invited\b
    assistan
    ce
    --------------------------------------------------------------------------------
    \a This is a solicitation for which BEP plans to award a contract in
    December 1998.

    \b The solicitation contained a statement that offerors would be free
    to propose "innovative acquisition and financing arrangements."

    Source:  BEP 1988 to 1997 currency paper procurement files.

    In 1997, BEP made significant changes to its solicitation for
    currency paper.  Solicitation 97-13, issued in May 1997, provided for
    up to a 4-year contract with multiple award scenarios that allowed
    competitors to submit an offer on various-sized lots and it also
    provided up to 24 months for a start-up period, under certain award
    scenarios.  Because of BEP's concerns about violating the 4-year
    limit on contracts for manufacturing currency paper, the solicitation
    provided that any required start-up period would be deducted from the
    4-year production period.  In addition, solicitation 97-13 also
    provided that BEP will consider "innovative acquisition and financing
    arrangements" proposed by offerors.

       PAPER MANUFACTURERS REPORT THAT
       COMPETITION CONTINUES TO BE
       INHIBITED
    ---------------------------------------------------------- Chapter 2:4

    Although BEP has taken actions to encourage competition in
    solicitation 97-13, such as providing for a longer contract
    performance period than in past solicitations and allowing a 24-month
    start-up time, some paper manufacturers responding to our survey told
    us there were other matters that prevented them from competing for
    the currency paper contract.  Some manufacturers said they need an
    even longer guaranteed contract period, or financial assistance
    provided by the government, to recover the capital investment
    required to purchase the equipment to produce the paper.  Several
    paper manufacturers also would like to be able to enter into joint
    ventures with a foreign paper manufacturer to produce currency paper,
    but they are unable to do so because of the Conte Amendment, as
    interpreted by Treasury.\9

    Twelve of the 20 paper manufacturers responding to our survey of 30
    worldwide firms said that they would be interested in supplying
    currency paper to BEP and are capable now, or would be in the near
    future, of supplying at least part of BEP's currency paper needs, but
    several matters prevent them from competing.  Some of these matters
    are the same as those identified in BEP's 1996 currency paper study.
    None of the 12 interested paper manufacturers said that the size of
    the currency paper market would make it difficult for them to
    compete.  Table 2.2 summarizes the factors inhibiting competition
    reported by the 12 paper manufacturers that said they would be
    interested in supplying currency paper to BEP.

                                   Table 2.2

                    Factors Affecting Competition Identified
                    by 12 Paper Manufacturers Interested in
                                 BEP Contracts

                                                           Number of paper
    Factors affecting competition                 manufacturers responding
    ----------------------------------------  ----------------------------
    The length of BEP manufacturing                                      9
     contracts is too short to recover
     necessary capital investments.
    The requirement that joint ventures with                             6
     foreign firms must be 90 percent U.S.
     owned or controlled.
    Lack of financial assistance by BEP for                              6
     capital investment.
    BEP's allowed start-up time is too                                   5
     short.
    Security requirements for the                                        3
     manufacturing process.
    The technology required to incorporate                               3
     anticounterfeiting features in currency
     paper.
    License or royalty payments to holder(s)                             3
     of anticounterfeiting features.
    ----------------------------------------------------------------------
    Source:  1997 GAO survey of cotton paper manufacturers.

    --------------------
    \9 As discussed later in this chapter, Treasury interprets the Conte
    Amendment as precluding it from entering into any contracts for
    currency paper production with any entity that is more than 10
    percent foreign-owned or controlled.

             LENGTH OF CURRENCY PAPER
             CONTRACTS
    ------------------------------------------------------ Chapter 2:4.0.1

    Nine of the 12 interested manufacturers said the performance period
    in BEP's currency paper contracts has been too short to recover the
    necessary capital investment.  One paper manufacturer said that it is
    not possible to recover start-up costs in less than 5 years.  A
    second domestic paper manufacturer told us the major reason it did
    not submit a proposal was that the contract period was too short to
    recover capital investment, and it believed it was unlikely that this
    situation could be improved.  As a result, this paper manufacturer
    decided that continuing its investment in product development was too
    risky and decided not to submit a proposal.

    According to another domestic paper manufacturer, the amount of
    capital investment necessary to meet BEP's requirements cannot be
    recovered through the price of paper sold to BEP over a 2- to 4-year
    contract.  This paper manufacturer told us that if BEP extends the
    length of the currency paper contract to at least 10 years it would
    consider submitting an offer.

    BEP's currency paper contracts have generally been for 1 to 2 years
    with three 1-year options, with the exception of the current
    solicitation 97-13, which has a performance period of up to 4 years.
    By law, the contract term to purchase U.S.  currency paper cannot
    exceed 4 years.  Additionally, U.S.  money order paper contracts are
    for 5 years; and U.S.  passport paper contracts are for 3 base years,
    with two 1-year options.  Both passport and money order paper have
    security features (i.e., watermarks and security thread) similar to
    those of currency paper.

             CONTE AMENDMENT AFFECTS
             COMPETITION
    ------------------------------------------------------ Chapter 2:4.0.2

    The Conte Amendment provides that:

         "None of the funds made available by this or any other Act with
         respect to any fiscal year may be used to make a contract for
         manufacture of distinctive paper for United States currency and
         securities pursuant to section 5114 of title 31, U.S.C., with
         any corporation or other entity owned or controlled by persons
         not citizens of the United States, or for the manufacture of
         such distinctive paper outside the United States or its
         possessions.  This subsection shall not apply if the Secretary
         of the Treasury determines that no domestic manufacturer of
         distinctive paper for United States currency or securities
         exists with which to make a contract and if the Secretary of the
         Treasury publishes in the Federal Register a written finding
         stating the basis for the determination."\10

    Although the Conte Amendment itself does not specify ownership and
    control requirements, the accompanying Conference Report states that
    BEP may not enter into such a contract with an entity if 10 percent
    or more of the entity is owned or controlled by a group of foreign
    persons.  In 1995, the report of the House Appropriations
    Committee\11 that accompanied the Treasury, Postal Service, and
    General Government Appropriations Act for fiscal year 1996 attempted
    to redefine the intended meaning of the Conte Amendment.  The report
    stated that a domestic corporation or other entity is one "created
    under the laws of the United States or any one of its states or
    possessions, and .  .  .  more than 50 percent of [which] is held by
    United States citizen(s)." Treasury's Office of General Counsel
    concluded in a March 1997 legal opinion that the 1995 House
    Appropriations Committee Report language cannot modify the
    constraints established in the Conte Amendment and the
    contemporaneous explanation of the provision in the 1987 conference
    report.

    As part of our review, the House Appropriations Subcommittee on
    Treasury, Postal Service, and General Government asked us to review
    Treasury's position that the Conte Amendment precludes BEP from
    entering into a contract for the manufacture of distinctive currency
    paper with an entity of which 10 percent or more is owned or
    controlled by a foreign company.  Because the language designating a
    10-percent limitation on foreign ownership or control is in the 1987
    conference report and is not specified in the statute itself,
    Treasury's interpretation is not mandated by the statute.
    Nevertheless, in the absence of language in the statute defining what
    constitutes foreign ownership and control, it is reasonable for
    Treasury to rely on the 1987 conference report as guidance for
    interpreting and applying the statutory language.  Thus, we believe
    that Treasury's interpretation of the restriction in the Conte
    Amendment is within its discretion.

    Six of the 12 paper manufacturers we surveyed that were interested in
    supplying currency paper stated that their decisions not to respond
    to BEP solicitations had been influenced by the Conte Amendment
    restriction on foreign ownership.  Three of the five foreign paper
    manufacturers saw this as an issue.  According to one domestic
    manufacturer, the need to have 90-percent U.S.  ownership limits a
    foreign entity from participating in a fashion that gives it any kind
    of financial incentive.  One foreign manufacturer commented that as a
    foreign paper company, it would want a larger participation than the
    10 percent currently allowed.  Similarly, two domestic paper
    manufacturers commented to BEP in 1995 that the restriction on
    foreign ownership limited their capability to gain access to the only
    source of currency paper manufacturing expertise, particularly for
    security threads and watermarks, outside of Crane.  Of the 12
    interested firms responding to our survey, only 3 foreign firms said
    they can currently produce all 3 types of currency paper.

    According to BEP, there are four major currency paper manufacturers
    that are internationally recognized in currency paper manufacturing
    and security.  Only one of the four, Crane, is located in the United
    States.  The other three, Portals Ltd., Papierfabrik Louisenthal, and
    Arjo-Wiggins, are located overseas.  Portals Ltd., located in the
    United Kingdom, said it has over 300 years of experience in supplying
    currency paper to the British government and 40 other countries.
    Papierfabrik Louisenthal, located in Germany, has supplied banknote
    paper to Germany since 1967.  Arjo-Wiggins, located in France, has
    supplied banknote paper to France since 1789.

    American companies that we surveyed said that under the 90 percent
    U.S.-owned or controlled interpretation, they have difficulty
    attracting the interest of foreign companies in a joint venture in
    which their expertise in currency production could be shared.
    Similarly, Portals, a foreign-owned paper manufacturer, told us it
    built a paper manufacturing facility in Hawkinsville, GA, in 1980 for
    two market segments:  U.S.  currency paper and high-security
    documents.  According to Portals officials, they had been visiting
    BEP for a number of years regarding their interest in providing
    upgraded security features for U.S.  currency paper.  Portals
    officials stated that on the basis of the favorable reception from
    BEP, Portals built the Hawkinsville mill, which was capable of
    producing 2,500 tons of paper a year immediately and had the
    potential to move quickly up to 10,000 tons of paper a year.
    Ultimately, it was the passage of the Conte Amendment that caused
    Portals to sell the Hawkinsville mill in 1988, according to Portals
    officials.

    Reliance on a single domestic supplier for currency paper is not
    unique to the United States.  In our survey of the other G-7
    countries, Germany, France, and Italy said they restrict their
    purchases of banknote paper to suppliers located in their countries.
    England and Canada said that they do not restrict their purchases of
    banknote paper only to suppliers located in their countries.
    However, England has historically always purchased its paper from
    Portals; and Canada competes both the manufacture of banknote paper
    and the printing of the notes.  In Japan, the Japanese government is
    responsible for producing the paper and printing banknotes.

    Secret Service officials strongly oppose any production of U.S.
    currency paper outside the United States because the Secret Service
    does not have authority to exercise security oversight of the
    personnel or plant facility in a foreign country.  The Secret Service
    further stated that although it may be able to make agreements
    allowing for such oversight, a foreign country's law could preclude
    any investigative action or oversight by United States law
    enforcement personnel.  The Secret Service also pointed out that the
    logistics of moving a critical material across borders via a variety
    of transportation modes would pose additional security risks.  BEP
    security officials told us that they share the same concerns.  Secret
    Service officials pointed out that they did not believe that the
    percentage of foreign ownership would pose a security problem as long
    as the paper is produced on U.S.  soil.  Officials from both the
    Secret Service and BEP's Office of Security stated that because of
    their concern about a catastrophe, they would be in favor of having
    more than one supplier of currency paper, but they would strongly
    prefer that suppliers be located in the United States.

    We agree that the Secret Service and BEP security officials have
    valid concerns about the manufacture of U.S.  currency paper outside
    the United States.  However, there are other components used for
    currency production in the United States that are supplied by foreign
    companies.  For example, BEP prints U.S.  currency on Swiss-designed
    sheet-fed Intaglio printing presses made by De La Rue Giori; and it
    buys the sheet currency inspection system and interim currency
    inspection system from Giesecke & Devrient, located in Germany.
    Currency ink is bought from Sicpa, a Swiss-owned company, which has
    facilities in the United States.  Additionally, the Federal Reserve's
    high speed currency processing machines are made in Germany.

    --------------------
    \10 Part B of the Conte Amendment contains a similar restriction on
    passport paper.

    \11 H.R.  Report No.  104-183, 104th Cong.  1st Sess., at 22 (1995).

             HIGH CAPITAL EQUIPMENT
             COST
    ------------------------------------------------------ Chapter 2:4.0.3

    Six of the 12 interested paper manufacturers we surveyed said that
    given the short length of a currency paper contract, the high cost to
    finance capital equipment inhibits their ability to compete.
    Financing arrangements to assist these manufacturers could involve
    extraordinary measures, such as the government sharing in the cost of
    obtaining the capital equipment needed to build a currency plant by
    providing government-furnished property or by financing contractor
    acquired property (CAP).\12

    According to one domestic manufacturer, a new supplier would incur
    significant capital expenditures in order to meet BEP's requirements,
    and the use of CAP would be essential to mitigate the capital
    investment needed.  According to the 1996 Treasury/BEP study, the
    estimated capital investment needed to produce currency paper
    averaged $40 million and ranged from a low of $20 million to a high
    of $150 million, depending on whether an existing mill could be
    retrofitted or a new mill needed to be built.  Moreover, the
    Treasury/BEP 1996 currency paper study also suggested that government
    financing of potential contractors' equipment might be necessary to
    secure competition for currency paper.

    In July 1996, BEP posted a draft of solicitation 97-13 on the
    Internet stating that BEP would consider the feasibility of providing
    CAP.  However, in May 1997, Treasury's former Director of Procurement
    decided to remove CAP from the solicitation because, in his view, in
    the form that it was being proposed by BEP, CAP would not have
    increased competition.  The Treasury Procurement Director concluded
    that a 4-year contract, inclusive of start-up time, would not allow
    enough actual production time to generate sufficient revenues for the
    contractors to make it worthwhile for them to risk the substantial
    investment required to compete, even using CAP.  Treasury recommended
    that BEP revise solicitation 97-13 to state that offerors would be
    free to propose "innovative acquisition and financing arrangements."

    One interested paper manufacturer told us that the removal of CAP
    from the final solicitation and replacement with language that said
    BEP would consider "innovative acquisition and financing
    arrangements" left too much uncertainty about the capital investment
    issue for the manufacturer to proceed with a proposal.  Two other
    interested paper manufacturers said they would still be interested in
    competing for the contract without CAP, if the length of the contract
    were to be extended to at least 5 years.

    --------------------
    \12 Under CAP, the government would advance some or all of the funds
    needed to acquire or construct needed facilities.  This advance would
    be factored into the evaluation of the price submitted by the
    offeror, and the government could recover its CAP payment over the
    life of the contract through decreased prices paid for paper it
    ordered and would have title to the property acquired.  FAR allows
    the use of CAP as a means to achieve competition but also requires
    the elimination of any competitive advantage that this might create.

             LENGTH OF START-UP PERIOD
    ------------------------------------------------------ Chapter 2:4.0.4

    The start-up period historically allowed by BEP is too short,
    according to five of the paper manufacturers we surveyed who were
    interested in competing for BEP currency paper contracts.  One
    domestic paper manufacturer said that a short start-up period permits
    only the incumbent to submit an offer.  This paper manufacturer
    further stated that the 24-month start-up period allowed by BEP in
    solicitation 97-13 would result in the forfeiture of 2-1/2 years of
    manufacturing, thus providing for less than the 4-year production
    period.  The paper manufacturer further believes that the start-up
    period should be added to the manufacturing contract, i.e., a 2-1/2
    year start-up period followed by a 4-year contract; otherwise, no
    paper company would invest in the specialized plant and equipment
    that are required to meet the government's security paper production
    needs before the contract is awarded.  Another domestic supplier said
    that to prepare a facility for currency paper manufacturing would
    take 1 to 2 years.  As noted previously, current law as interpreted
    by BEP restricts the total period for currency paper production
    contracts to 4 years.

    Prior to 1997, BEP required the supplier of currency paper to provide
    currency paper immediately or shortly after contract award.  The
    start-up period for all distinctive currency paper in solicitation
    97-13 is up to 24 months.

             OTHER FACTORS MENTIONED
             BY SOME PAPER
             MANUFACTURERS
    ------------------------------------------------------ Chapter 2:4.0.5

    The requirements to pay a royalty license to use the data and process
    for insertion of the security thread, the security requirements for
    the manufacturing process, and the technology required to incorporate
    anticounterfeiting features in paper were also cited as factors
    inhibiting competition by 3 of the 12 paper manufacturers that were
    interested.  One paper manufacturer filed a protest with BEP over the
    security thread license and other issues relating to the current
    solicitation.  Specifically, the paper manufacturer stated that the
    solicitation places potential offerors, other than the incumbent, in
    the position of violating a patent held by Crane if they supply
    currency paper containing security thread made to the specifications
    outlined by BEP.  According to this manufacturer, potential offerors
    are effectively precluded from providing distinctive currency paper
    with security thread and new currency design paper with watermark and
    security thread.  In solicitation 97-13, BEP stated that it would
    provide the security thread as government-furnished material.
    However, BEP would have to negotiate with Crane to buy the security
    thread.

       BEP HAS NOT SUCCESSFULLY
       OBTAINED ALTERNATIVE SOURCES
       FOR CURRENCY PAPER
    ---------------------------------------------------------- Chapter 2:5

    BEP's attempts to develop alternative sources in the 1960s and 1980s
    were not successful for a variety of reasons, including the
    following:

      -- One firm was unable to price its product competitively with
         BEP's traditional supply source for a portion of the currency
         paper requirement.

      -- BEP discontinued its use of paper that another firm was
         developing.

      -- The firm that had been developing paper that was discontinued
         needed technology from a foreign supplier to help it produce
         other types of paper that met BEP specifications.

    In 1996, BEP studied the possibility of developing a second currency
    paper source.  It concluded that two sources would probably be more
    costly than a single source, but it should continue to explore the
    marketplace through competitive solicitations to determine if there
    were viable alternative sources.  The costs used in the 1996 study
    were based on an informal survey of paper producers that asked them
    how much capital investment would be required to prepare paper for
    BEP.  For production costs, BEP assumed that a second producer would
    incur the same costs as Crane had.  BEP's analysis showed that a
    second source, producing about 40 percent of BEP's needs, would
    increase costs of producing paper by at least $21 million per year
    and possibly $37 million per year, depending on the amount of capital
    equipment the second producer acquired.  However, BEP's analysis did
    not reflect its subsequent decision to accept a higher profit rate
    with Crane to compensate for Crane's investment in capital equipment,
    such as it did on the two most recent contract actions with Crane.

    Other agencies have found it advantageous to develop a second source.
    DOD officials told us that they have used a strategy referred to as
    dual sourcing to develop a second supplier in a sole-source situation
    for some weapon systems.  For example, according to Air Force
    officials, dual sourcing was used to develop a second supplier to
    purchase engines for F-16 fighters.

    Between 1967 and 1972, with few exceptions, the U.S.  Mint has
    awarded the contracts for clad material\13 to one company.  However,
    the Mint realized the vulnerability of having only one supplier, and
    it attempted to develop additional sources by awarding developmental
    contracts to firms that were interested in competing for future clad
    material contracts.  However, the vendors selected were unable to
    produce the material at an acceptable level of quality, according to
    Mint officials.  Although the Mint did not have much success with
    developmental contracts, it currently has more than one supplier,
    according to Mint officials.  Since 1993, the Mint has purchased clad
    material from two vendors that share 50 and 45 percent of the
    contract, respectively.  The other 5 percent of the contract is
    divided between two developmental contractors.  Mint officials told
    us that they did not have a developmental contract with the Mint's
    current second supplier, but the second supplier responded to a
    competitive solicitation issued in 1993.  Mint officials said that
    having two suppliers is better than one because competition helped
    prevent prices of clad material from rising as rapidly as they would
    have if there had not been any competition.

    --------------------
    \13 Clad material consists of different metal alloys bonded together
    and is used to produce 10-cent, 25-cent, and 50-cent coins.

    BEP HAS ENSURED QUALITY BUT HAS
    NOT DEMONSTRATED THAT IT HAS
    OBTAINED FAIR AND REASONABLE
    PRICES
    ============================================================ Chapter 3

    Although the long-term relationship between BEP and Crane has
    historically provided quality currency paper, BEP did not generally
    demonstrate that it obtained fair and reasonable prices for the
    contracts, options, and extensions awarded between 1988 and 1997.  To
    the contrary, the evidence available in the contract files showed
    that BEP sometimes paid what it believed to be too high a price when
    buying currency paper.  BEP's contracting officers recommended
    accepting prices that they could not determine were fair and
    reasonable with respect to five contracting actions because there was
    no other source for currency paper.  BEP would not accept Crane's
    proposed prices for half of the 10-year period covered by our review.
    Instead, BEP agreed to pay Crane's proposed prices as interim prices.
    The dispute was eventually settled by an arbitrator.  The major
    disagreement between BEP and Crane involved profits until recently,
    when BEP increased its negotiated profit objectives.\14

    In determining whether Crane's proposed prices were fair and
    reasonable, BEP relied primarily on audits of Crane's proposals.
    However, BEP has not obtained audits of Crane's cost estimating
    system or post-award audits of some contracts until recently, made
    little use of other cost analysis techniques in the earlier contracts
    in our sample, and made very little use of price analysis.  Further,
    some of BEP's procurement practices relating to the quantities of
    paper ordered and its failure to obtain royalty-free rights to the
    security thread caused, or may have caused, the government to pay
    more for currency paper than it should have.

    --------------------
    \14 Profit objective is the level of profit that BEP hoped to attain
    during negotiations.

       BEP HAS GENERALLY RECEIVED
       QUALITY PAPER
    ---------------------------------------------------------- Chapter 3:1

    According to BEP officials, Crane has been a reliable source for
    paper.  BEP and Crane officials said that a paper delivery to BEP has
    not been missed in over 100 years.  BEP officials also said that the
    overall quality of the currency paper supplied by Crane has been
    good.

    In reviewing the files for currency paper contracts in effect from
    1988 to 1997, we found only two references to problems with the paper
    that Crane supplied to the government during this period.  The first
    problem involved bonding of the security thread to the paper.  This
    problem began in 1991 and was due to a change in the adhesive system
    that was mandated by an environmental ruling in New Hampshire, where
    the thread was produced.  BEP gave Crane a waiver to the contract
    until the problem was solved in 1994.  According to BEP, the
    resolution of this problem created a second problem, which involved
    the inability of Crane to meet BEP's standards for the folding
    endurance for the security threads.  The folding endurance standard
    specifies how many times paper can be folded before it tears and is a
    measure of durability.  The problem occurred in 1994, after the
    thread bonding adhesion was changed, and it was brought to BEP's
    attention by Crane.  BEP granted Crane a waiver from the folding
    endurance standards for the contract in effect at the time (95-23)
    and lowered the standard for the subsequent contract (97-10).

       BEP USED LIMITED COST AND PRICE
       ANALYSIS
    ---------------------------------------------------------- Chapter 3:2

    Of the five contracts awarded from 1988 to 1997, two were awarded on
    a sole-source basis to Crane.  For the other three contracts, BEP
    issued competitive solicitations.  Crane was the only company to
    submit an offer.  In the absence of competition, BEP had to rely on
    cost and price analyses to evaluate proposed prices to determine if
    the prices paid for currency paper were fair and reasonable.  Price
    analysis is to be used to verify that the overall price offered is
    fair and reasonable in comparison with current or recent prices for
    the same or similar items.  Examples of price analysis include
    comparing proposed prices with (1) prices obtained for similar items
    through market research, (2) parametric estimates such as dollars per
    pound, and (3) previous prices.

    Under the Truth in Negotiations Act,\15 offerors are required to
    submit and certify cost or pricing data to support the reasonableness
    of individual cost elements, under certain circumstances, when
    adequate price competition does not exist.  Separate cost elements
    and profits are evaluated to determine how well the proposed costs
    represent what the costs of the contract should actually be, assuming
    reasonable economy and efficiency.  Examples of cost analysis include
    the comparison of costs proposed for individual cost elements to
    historical costs and the evaluation of the need for and
    reasonableness of proposed costs.  Contracting officers are to
    determine whether a proposed price is fair and reasonable on the
    basis of both a cost analysis to ensure the reasonableness of
    individual cost elements and a price analysis to ensure that the
    overall price, including profit, is fair and reasonable.  The
    contracting officer's determination is a judgment based on the
    results of the cost and price analyses.

    For the most part, BEP limited its cost analysis techniques to audits
    of Crane's price proposals.  The audits were done by the Treasury
    Inspector General (IG) for contracts awarded before 1992 and by the
    Defense Contract Audit Agency (DCAA) for contracts awarded after
    1992.  The audits generally consisted of a review of the proposed
    costs and a test of the reliability of the underlying data and
    records supporting the proposed costs, as well as the accounting
    principles used in developing the proposal.  In several of the
    audits, the auditors qualified their work because of Crane's cost
    accounting system.  For example, for contract 88-205, option 1, the
    auditors observed that standard costs used in estimating were not
    adjusted for actual variances, which made them less reliable as a
    basis for estimation.

    BEP generally obtained audits of Crane's price proposals, but it did
    not conduct a comprehensive price analysis for the five contracts we
    reviewed.  BEP procurement records showed that it did not analyze the
    changes in prices from one contract to the next and did not compare
    proposed contract prices to the prices paid for similar items by
    other government agencies or countries.  It did not always review
    cost trends, such as product yield rates, material prices, and
    proposed escalation over time, for the earlier contracts in our
    sample.  More specifically, according to BEP's procurement records:

      -- Audits of proposed costs were obtained for the first three
         contracts (88-205, 91-18, and 93-14) included in our review, and
         this information was used to evaluate Crane's proposed costs;
         however, additional cost or price analysis was not done for
         these contracts.  BEP stated that it did not have time to do a
         cost analysis for contract 91-18.

      -- Audits of proposed costs were also obtained for contract 95-23,
         and this information was used to evaluate Crane's proposed
         costs.  BEP said that it performed additional cost and trend
         analysis.

      -- For contract 97-10, BEP again used audit results and did more
         thorough cost analysis than it had previously done.  BEP also
         did limited price analysis; for example, it compared proposed
         prices to prices under its existing contracts.

    A BEP contracting officer said she attempted to obtain prices paid
    for currency paper from some other governments by telephoning them,
    but they said they were not willing to share this information due to
    its proprietary nature.  We recognize that other governments may
    consider such information to be proprietary or be unwilling to share
    the information with an agency contracting official over the
    telephone.  However, given the interest of the government in
    achieving a fair and reasonable price in this unique market, other
    more official and formal efforts to obtain the information, such as
    inquiries from the Secretary of the Treasury or the State Department,
    might be more successful.

    BEP procurement officials said they did not attempt to compare the
    prices proposed for currency paper with the amounts the U.S.  Postal
    Service paid for money orders or the Government Printing Office paid
    for passport paper, because the products were different.  Although we
    agree that the products are not identical, they are similar and they
    are bought competitively.  The passport paper is cotton and pulp
    based, has security thread, and contains a watermark.  Money orders
    also have security threads and watermarks, but they are made from
    wood pulp instead of cotton.  Nonetheless, although comparisons among
    these types of products would not in themselves have provided a basis
    for definite conclusions, they may have provided some insight for
    assessing cost and price trends over time and in demonstrating the
    effects of competition on prices.

    The only other analysis used by BEP was for negotiating contract
    97-10, and it included an analysis of the effects of changes in
    quantities ordered on Crane's production costs.  Similar analyses
    would have been helpful for the other contracts we reviewed.  In
    accordance with section 9003(b) of the 1997 Emergency Supplemental
    Appropriations Act, the Secretary of the Treasury was required to
    certify that the price for contract 97-10 was fair and reasonable and
    that the terms of the contract were customary, appropriate, and in
    compliance with procurement regulations.  The Secretary delegated
    this determination to the Director of BEP, who made these
    certifications on September 3, 1997.

    --------------------
    \15 The Truth in Negotiations Act, codified at 41 U.S.C  254b for
    civilian agencies, provides for a prospective contractor to submit
    cost or pricing data in connection with the negotiation of certain
    contracts when adequate price competition is not obtained.  The act
    requires the prospective contractor to certify that the data are
    accurate, current, and complete and provides for a possible price
    reduction when the data are found to be inaccurate, incomplete, or
    noncurrent.

          RESULTS OF BEP'S
          DETERMINATIONS OF FAIR AND
          REASONABLE PRICES
    -------------------------------------------------------- Chapter 3:2.1

    The five contracts we reviewed from 1988 to 1997 and their options
    and extensions resulted in 17 contract actions.\16 The prices for the
    contracts and options are listed in appendix V.  For these 17
    actions, BEP determined the price to be fair and reasonable for 4,
    but it was not able to determine the price to be fair and reasonable
    for 5.  BEP did not reach agreement on price for the remaining eight
    contract actions.  For these eight, BEP used interim prices, which
    were later finalized and reduced by an arbitrator.

    For the eight contract actions that were finalized by an arbitrator,
    BEP and Crane were unable to reach agreement on (1) royalties paid to
    Crane's affiliated subcontractor that produced the security thread,
    (2) allocation of commercial sales commissions to government
    contracts, (3) allocation of legal and consulting costs, and (4)
    profit.  The arbitrator concluded in January 1995 that there was no
    common control of the affiliated company producing the thread, the
    allocation of Crane's sales commissions to government contracts was
    not appropriate, and Crane's allocation of legal and consulting costs
    was proper.  The arbitrator also decided that Crane was entitled to
    higher profits than BEP had been willing to accept because of Crane's
    needs for a fair return on its capital investments made to produce
    paper with less labor.  The arbitrator commented that had the DOD
    weighted guidelines been used, the government's and Crane's positions
    would have been closer.  The DOD guidelines provide a structured
    approach to develop a contract profit objective, and they emphasize
    the usefulness of facilities' capital for buildings and equipment
    used by the contractor to improve productivity or to provide other
    benefits, such as improved reliability.

    The arbitrator decided that the settled price should be $212 million,
    which was $9.7 million (4.4 percent) lower than the interim payments
    that BEP had made to Crane.  According to the arbitration settlement,
    billings for the subsequent 5 months of one contract action were also
    settled.  During this period, BEP paid $2.1 million more in interim
    payments than the settled amount, bringing the total amount returned
    to BEP to $12.7 million.

    For 5 of the 17 contract actions, BEP was unable to determine the
    prices to be fair and reasonable.  However, it accepted prices for
    these five contract actions because, according to the BEP contracting
    files, (1) there was no other source of paper and (2) the Federal
    Reserve's currency requirements could not be met if the contract with
    Crane were not awarded.  The major reason why BEP was not able to
    determine the prices to be fair and reasonable was that BEP
    contracting officers questioned the profit proposed by Crane.  In
    general, BEP contracting officers were not willing to accept Crane's
    proposed profit levels until after the award of contract 95-23, when
    BEP modified its profit objective by adopting the DOD weighted
    guidelines.  BEP's application of these guidelines resulted in BEP's
    adoption of a higher profit objective.

    Crane told us that the use of the DOD guidelines resulted in a fair
    return on the investment made in capital equipment with a minimum
    amount of labor costs.\17

    BEP's contract files did not indicate that any analysis was done to
    demonstrate that on BEP contracts for which the DOD guidelines were
    used to analyze profits, including contract 97-10, the profits were
    beneficial to the government in that prices would be reduced, labor
    costs would be reduced, or the government would otherwise benefit.

    --------------------
    \16 Three contract actions, relating to contract 95-23, contained an
    unpriced line item at the time of contract award.  This line item was
    subsequently priced and considered to be fair and reasonable.  We did
    not include this line item as a separate contract action.

    \17 The specific profit percentages negotiated for the BEP contracts
    are proprietary information.  Crane asked that we not disclose that
    information, other than to report that its negotiated profit rate was
    19.6 percent in 1988, 11.8 percent in 1991, and 21.5 percent in 1995.
    Crane would not authorize us to disclose the negotiated profit
    percentages for the other years in our review period, nor would it
    provide the actual profit rates earned on currency paper.

          BEP HAD INCOMPLETE AUDIT
          INFORMATION
    -------------------------------------------------------- Chapter 3:2.2

    Although BEP primarily relied on audits of Crane's proposals to
    determine if the prices proposed were fair and reasonable, two
    factors qualified the usefulness of these data.  First, in a 1994
    post-award audit of a cost proposal, DCAA identified about $3 million
    in over-pricing attributed to Crane's accounting system.  The
    auditors observed that Crane's cost accounting system was based on
    standard costs that were not periodically adjusted to reflect actual
    costs.  Also, in several audit reports covering the proposals for
    contracts we reviewed, DCAA reported that it had not been asked to
    review the contractor's budgeting/estimating system.

    A second factor was the lack of post-award audits of the contractor's
    costs for contracts 95-23 and 97-10.  In post-award audits, DCAA
    attempts to verify whether the costs proposed were based on accurate,
    complete, and current data as required by the Truth in Negotiations
    Act.  BEP officials said that they asked for DCAA audits of the
    contractor's budgeting/estimating system and post-award audits of
    contracts 95-23 and 97-10 in May 1998.  BEP officials said they did
    not ask for these audits earlier because the contractor's staff who
    would be responsible for working with the DCAA auditors were engaged
    in preparing cost proposals, and BEP did not want to interfere with
    these activities.

       UNECONOMICAL PROCUREMENT
       PRACTICES
    ---------------------------------------------------------- Chapter 3:3

    Although unrelated to the issue of whether the government paid fair
    and reasonable prices for currency paper, which is based on the
    judgment of the contracting officer on the prices proposed for given
    quantities of supplies, we also found that certain BEP procurement
    practices contributed, or could have contributed, to higher than
    necessary currency paper costs.  The practices included ordering
    inconsistent quantities of paper, understating quantities expected to
    be ordered, and not obtaining royalty-free data rights for security
    thread used in U.S.  currency.

    According to a former Crane official we interviewed, BEP did not
    order consistent amounts of the paper under the contracts.
    Consequently, Crane was not able to maintain a steady production
    schedule and had to have more equipment than necessary to produce
    paper to meet BEP's inconsistent ordering.  This official said there
    were times when Crane's paper mill would be operating only a few days
    a week due to lower-than-usual orders for paper; but at other times,
    the mill would have to operate at full capacity for weeks in order to
    fulfill a larger-than-usual BEP order.  Similarly, the BEP
    contracting officer noted in an October 1996 trip report on a visit
    to Crane that Crane requested BEP to commit to leveling out
    production orders.  The contracting officer reported that Crane had
    experienced four layoffs that year that were costly and could result
    in the loss of skilled workers.

    The five contracts awarded from 1988 to 1997 were either fixed-price
    requirements contracts or indefinite delivery/indefinite quantity
    contracts.  Under either type of contract, the government provides an
    estimate of the quantities of paper to be bought, and the contractor
    proposes a price-per-sheet of paper based on that quantity.  Because
    of the relatively high fixed costs in producing currency paper,
    primarily due to high equipment costs, a higher volume equates to a
    lower unit cost as the fixed costs are spread over more units.
    Because paper contracts are awarded on a price-per-sheet basis,
    government orders in excess of the estimated quantity would be
    expected to result in lower per sheet actual costs and increased
    profit per sheet.

    For example, under the base period for contract 88-205, the
    contractor provided a price of $.1254 per sheet, based on an
    estimated quantity of 360 million sheets.  BEP actually bought 435
    million sheets under this contract, which we estimate to have
    contributed about $1.5 million in additional contract profits.  Other
    contracts we reviewed also had differences between the estimated
    contract quantities and the actual orders.

    A third issue involves BEP's failure to obtain royalty-free data
    rights to the security thread used in currency and the process used
    to insert the thread.  Crane, with its affiliated company, Technical
    Graphics, Inc., holds patents for the thread and the process used to
    insert the thread in the currency paper.  Although this thread is
    unique to U.S.  currency, a BEP official said that the government
    does not have the patents or a royalty-free license to use the thread
    because the government never directly paid for their development.
    The BEP official said that in the early 1980s, Crane approached BEP
    with an idea for the thread.  BEP encouraged Crane to develop it but
    did not enter into a research and development contract with Crane to
    develop the concept.  A BEP official observed that a research and
    development contract would have been the vehicle for the government
    to obtain an interest in the concept.  According to BEP officials,
    Crane used its own funds to develop the thread and insertion process,
    so Crane is entitled to the patents.  BEP officials also said that
    the government indirectly paid for much of Crane's development
    cost.\18 They said the government cannot obtain the royalty-free data
    rights unless it contracts to do so.

    --------------------
    \18 We were able to identify about $2.4 million of research and
    development costs that Crane proposed and BEP accepted as independent
    research and development to develop the security thread and the
    process used to insert it into the currency paper.  However, the
    extent to which other BEP funds may have been included in Crane's
    contract costs is unclear because Crane did not segregate its
    independent research and development costs by project.

    BEP IS NOW BUILDING AN INVENTORY
    OF CURRENCY PAPER AS A CONTINGENCY
    ============================================================ Chapter 4

    Although there have not been any disruptions in the supply of
    currency paper for the last 119 years, BEP has not been in a good
    negotiating position and has been vulnerable because it did not have
    a second source for currency paper or have a reserve inventory of
    currency paper.  The Conte Amendment allows BEP to contract with a
    foreign entity if a domestic source is not available, thus providing
    some relief if the current supplier were to encounter a catastrophic
    incident and be unable to supply currency paper.  However, BEP
    officials told us that a foreign source would require at least 3
    months to prepare, produce, and ship watermark and threaded paper and
    between 1 and 2 months to deliver currency paper without watermarks.
    BEP is in the process of establishing a 3-month contingency supply of
    currency paper, which BEP expects to be completed in 1999.

    Although the longstanding single supplier has been a reliable source
    of currency paper, the combination of relying on a single supplier
    and not having an inventory placed BEP in a weak negotiating position
    and presented some risks.  In BEP's price negotiation memorandums for
    contracts 88-205 and 95-23, BEP's contracting officers stated that
    despite the fact that they considered Crane's price to be too high,
    BEP awarded contracts to Crane at the prices proposed by Crane in
    order to ensure a continuous supply of currency paper.

    Furthermore, in a meeting between BEP and Crane to negotiate contract
    95-23, the parties could not reach agreement over price.  The former
    Chief Executive Officer of Crane said that "BEP would just have to
    run out of paper," according to a memo written by a Treasury official
    dated June 21, 1995.  Although BEP and Crane were eventually able to
    reach agreement, the former Chief Executive Officer of Crane told us
    that in June 1995 he told Treasury officials, in effect, that he
    would not agree to another paper contract and that BEP would have to
    run out of paper.  He said that this statement stemmed from issues
    surrounding the arbitration settlement.  He said that a few months
    earlier, Crane and BEP signed the agreement to accept the terms of
    the arbitration settlement; however, BEP was still questioning the
    prices covered by the agreement.  According to the former Crane
    official, the only leverage Crane had to settle with BEP was to not
    agree to enter into any new contracts.

    Under the Conte Amendment, if the Secretary of the Treasury
    determines that no domestic source of currency paper exists in the
    United States, the requirement for currency paper to be produced in
    the United States and the prohibition against the purchase of
    currency paper from a supplier owned or controlled by a foreign
    entity would not apply.  In order to procure currency paper from a
    foreign supplier, several actions would need to be taken.  First,
    under the Conte Amendment, a written finding by the Secretary of the
    Treasury justifying the basis for the determination that no domestic
    manufacturer of currency paper exists must be published in the
    Federal Register.  According to BEP officials, this could be done
    within a matter of days.  Second, BEP would need to contract with
    Crane to acquire the security thread so BEP could provide the thread
    as government furnished property.  Finally, it would take the foreign
    paper manufacturer about 3 months to start providing BEP with the
    currency paper, according to BEP officials.

    To its credit, BEP recently decided to replace its "just-in-time"
    approach to maintaining an inventory with a 3-month contingency
    supply of currency paper.  According to its 1996 strategic
    contingency plan for critical materials, BEP determined that a
    3-month contingency supply of currency paper would be adequate.  BEP
    officials said that they will have the inventory built up by 1999.
    According to the Federal Reserve, it maintains a 40-day supply of
    finished currency at each of it reserve banks, which would also
    provide some additional time to bring on another source of currency
    paper if this were needed.

    In our survey of other G-7 nations, we were told that the amount of
    banknote paper maintained in reserve ranged from 1 month in England
    and Japan to 2 to 3 months in France and Italy.  In Canada, the
    banknote printers are responsible for procuring their own banknote
    paper.  Germany would not provide information on its inventory.
    Additionally, like the United States, none of the other G-7 nations
    maintain a second supplier of banknote paper to protect against
    possible disruptions in the supply of their banknote paper.

    BEP appears to be ahead of achieving its goal to have a 3-month
    reserve for each denomination.  According to BEP, as of May 1998, it
    has a 3-month reserve for each individual denomination with the
    exception of the $20 denomination, which has been recently
    redesigned.  BEP officials anticipate reaching the 3-month reserve
    for the newly designed $20 note during calendar year 1999.

    CONCLUSIONS AND RECOMMENDATIONS
    ============================================================ Chapter 5

    Obtaining competition in currency paper procurement is challenging,
    partly because of the uniqueness of the currency paper, which
    requires a relatively large investment in capital equipment.  In
    addition, special statutory provisions govern the acquisition of
    currency paper that provide a 4-year limit to contracts for the
    manufacture of currency paper and that it be manufactured in the
    United States, and prohibit the purchase of currency paper from
    foreign-owned or controlled entities.  Although most BEP
    solicitations issued before 1997 were competitive, it was not
    successful in obtaining competition because no firm other than Crane
    submitted an offer.  BEP efforts in the 1960s and 1980s to establish
    a second source for currency paper also were not successful, for
    similar reasons.

    We recognize that there are some uncertainties to the competitive
    process, even if the existing problems are solved.  For example, 12
    paper manufacturers told us that they are capable now, or would be in
    the near future, of supplying at least part of BEP's currency paper
    needs if further changes are made.

    However, we cannot say with any certainty how many, if any, would
    submit an offer; whether they would be price-competitive with Crane;
    or if the quality of paper and reliability of delivery would be
    maintained.  In addition, 5 of the 12 paper manufacturers are
    foreign-owned and are precluded from receiving a contract award under
    current law.

    It is uncertain whether the government can successfully develop a
    second domestic source for future paper needs, primarily because it
    is unknown how prices would change.  Prices might increase if more
    than one supplier were used.  For example, if the same quantity of
    paper is obtained from two or more suppliers, each with substantial
    capital investments, the unit price for paper is likely to be higher
    from each.  Therefore, although having a second supplier could lessen
    the government's vulnerability to a disruption in supply, having two
    suppliers could result in an increased cost to the government.  On
    the other hand, a single supplier has less incentive to be efficient
    or to keep prices and costs to a minimum than suppliers who have to
    compete with each other, and DOD has reportedly benefited from having
    a second source in some instances.

    In its most recent currency paper solicitation, BEP has taken several
    actions to encourage competition, including providing up to 24 months
    for potential suppliers to start production for currency paper with
    additional security features and providing for longer contract
    performance periods, within the statutory 4-year limit.  However, if
    these steps are not sufficient to encourage offers from additional
    suppliers, additional actions to promote competition by Treasury and
    BEP may be appropriate.  Given the current statutory constraints;
    previous efforts to study this problem, as well as Treasury's ongoing
    study of future currency demand, which could affect the economic
    viability of having more that one currency paper supplier; and
    uncertainties discussed in our report, we believe it is premature to
    recommend specific steps at this time.  Moreover, additional insight
    on this issue should be available after Treasury completes its
    ongoing study on future currency demand and as other information
    becomes available, such as the currency paper prices BEP obtains
    under its current solicitation and any changes in legislation
    affecting currency paper procurement that might occur.

    BEP has not generally been adequately prepared to be in a position to
    know what it should be paying for currency paper because, until
    recently, it has done only limited cost analysis and has not used
    price analysis.  BEP could improve some aspects of its currency paper
    procurements.  The evidence demonstrates that BEP (1) lacked an
    aggressive effort to encourage Crane to develop an acceptable cost
    accounting system; (2) did not always arrange for post-award audits
    and audits of the supplier's cost estimating system; (3) did not
    include data and analyses in the procurement record that demonstrated
    the benefit that BEP was to receive when it approved profits that
    were to recognize or provide an incentive for capital investment; (4)
    conducted limited analysis of supplier costs and prices, in the
    context of the worldwide market for currency paper; (5) failed to
    accurately estimate the amount of paper it needed to procure and
    ordered inconsistent amounts of paper; and (6) did not take action to
    arrange for royalty-free access to security thread.  In addition to
    actions to correct these problems, recent efforts to establish a
    3-month inventory of currency paper should provide an additional tool
    to help BEP better ensure that fair and reasonable prices can be
    achieved.

    As noted above, BEP has taken several actions to encourage
    competition.  For example, BEP extended the period for potential
    suppliers to start production for currency paper with additional
    security features and provided for longer contract performance
    periods than it had in the past.  However, BEP must acquire currency
    paper within the existing legal framework.  According to BEP, the
    legal framework requires that offerors' start-up period be included
    in the 4-year contract period, thus reducing the manufacturing period
    and limiting the effect of BEP's actions.  According to BEP, the
    4-year statutory limit on contracts was created in 1916 to extend the
    contracts beyond the 1-year statutory limit then in effect, in order
    to better ensure a reliable supply of materials.  BEP's options for
    encouraging competition could be further enhanced if Congress
    lengthened the 4-year limit for currency paper contracts to give
    potential offerors a longer time to recover their capital
    investments.

    If efforts to obtain competition continue to be unsuccessful, BEP's
    capacity to achieve fair and reasonable prices could be enhanced
    through congressional action.  BEP's strategy options could be
    further strengthened if Congress provided additional authority by
    modifying the Conte Amendment's prohibition on procuring currency
    paper from foreign-owned or controlled suppliers to permit the
    Secretary of the Treasury to do so on a temporary basis if it is
    determined that currency paper is not available from a domestic
    source at fair and reasonable prices.  Such a modification could
    provide additional leverage for the government in its negotiations
    with the current supplier, or any future domestic supplier(s), and
    increase the likelihood that fair and reasonable prices can be
    achieved.

       RECOMMENDATIONS TO THE
       SECRETARY OF THE TREASURY
    ---------------------------------------------------------- Chapter 5:1

    To strengthen BEP's capacity to ensure fair and reasonable prices, we
    recommend that the Secretary direct BEP to

      -- ensure that the contractor maintains acceptable cost accounting
         and estimating systems for future contracts and that they are
         periodically audited;

      -- arrange for post-award audits of the contractor's costs;

      -- include data and analyses in the currency paper procurement
         record that demonstrate the benefits the government is to
         receive when it approves profit levels that are aimed at
         recognizing or providing an incentive for capital investments;
         and

      -- to the extent possible, make more extensive use of price
         analysis to determine the fairness and reasonableness of prices,
         including the collection of data from foreign countries on their
         currency prices and data on similar supplies purchased by other
         agencies, such as paper for passports and money orders.

    To further enhance opportunities for other paper manufacturers to
    offer to provide currency paper to the government and to obtain
    offers that represent the best value to the government for the paper,
    we also recommend that the Secretary ensure that all future currency
    paper procurements reflect the expected amounts of paper needed and
    orders against contracts are for consistent amounts.  This would
    allow the supplier(s) to maintain a steady production level and
    stabilize workforce levels.  Finally, we recommend that the Secretary
    ensure that the government obtains royalty-free data rights to any
    future security measures incorporated into currency paper.

       MATTERS FOR CONGRESSIONAL
       CONSIDERATION
    ---------------------------------------------------------- Chapter 5:2

    To further assist the Secretary in obtaining competition from
    domestic sources, Congress may wish to consider lengthening the
    4-year limit for currency paper contracts to give potential offerors
    a longer time to recover their capital investments.  If adequate
    price competition among two or more suppliers can be achieved,
    concerns over whether the prices paid are fair and reasonable should
    be reduced.

    Finally, because BEP's past efforts to encourage domestic competition
    for currency paper have been unsuccessful and future efforts are
    uncertain, and because BEP has not always been able to ensure fair
    and reasonable prices from the current supplier in some past
    procurements, additional authority may be necessary to protect the
    government's interests in obtaining currency paper.  Specifically,
    Congress may want to consider revising the Conte Amendment, which
    allows the Secretary of the Treasury to obtain currency paper from a
    foreign-owned source only if no domestic supplier is available, to
    permit the Secretary to authorize obtaining currency paper from a
    foreign-owned source on a temporary basis if it is determined that no
    domestic supplier will provide paper at fair and reasonable prices.
    Such a provision should improve the likelihood that fair and
    reasonable prices could be obtained.

       AGENCY AND CRANE & CO.
       COMMENTS
    ---------------------------------------------------------- Chapter 5:3

    We provided copies of a draft of this report for comment to the
    Chairman of the Board of Governors of the Federal Reserve System, the
    Acting Director of BEP, the Secretary of the Treasury, and the Chief
    Executive Officer of Crane.  On July 29, 1998, the Assistant to the
    Board of Governors of the Federal Reserve System provided oral
    comments on our draft report.  He said the Federal Reserve considered
    the analysis and recommendations to be reasonable.  We also received
    written comments from the Acting Director of BEP, dated July 29,
    1998, which are reprinted in appendix VI; and we received written
    comments from Crane dated July 28, 1998, which are reprinted in
    appendix VII.  According to BEP officials, the BEP comments included
    input from the Department of the Treasury.

    Finally, in a meeting with us on July 29, 1998, BEP provided a number
    of oral technical clarifications to our report that we made where
    appropriate.

          BEP COMMENTS
    -------------------------------------------------------- Chapter 5:3.1

    The Acting Director of BEP stated that our report does not recognize
    that BEP complied with the FAR in the award of the five contracts we
    reviewed and provided comments on our recommendations.  We did not
    make a comprehensive assessment of BEP's compliance with FAR in
    connection with the five contracts we reviewed and thus are not in a
    position to make an overall statement on BEP's compliance.

    Our draft report included recommendations that BEP (1) consider
    amending solicitation 97-13 and future solicitations to provide
    financial assistance if deemed to be economically advantageous to the
    government; and (2) consider excluding Crane from some or all of
    BEP's currency paper requirements, as an example of a strategy to
    establish an alternative source.  In its comments, BEP endorsed the
    idea of providing financial assistance but did not agree with
    amending solicitation 97-13 because it believes solicitation 97-13
    provided for financial assistance.  In addition, BEP said that
    Treasury is currently studying the future demand for currency, and
    once the study is completed, BEP will be in a better position to
    assess the cost reduction potential associated with developing
    additional suppliers.  BEP also disagreed with our recommendation
    that Treasury consider excluding Crane from some or all of BEP's
    currency paper requirements.  BEP said that excluding Crane from
    competing for all of its requirements was not feasible because of the
    lack of an alternative domestic source; and excluding Crane from part
    of its requirements would not be practical or economically feasible,
    citing a previous determination that the price for currency paper
    could increase significantly due to the high capital investment cost
    for a potential new supplier.

    After carefully considering BEP's comments as well as reconsidering
    the uncertainties we identified in our draft report, we agree with
    BEP that amending solicitation 97-13 to offer financial assistance
    and excluding Crane from all of its requirements could create
    difficulties for BEP in meeting its responsibilities to ensure an
    adequate supply of currency paper.  We also agree with BEP that it
    should be in a better position to evaluate the feasibility of
    establishing additional suppliers after Treasury completes its
    ongoing study of future currency demand, which Treasury expects to be
    done soon.  In fact, our draft report recognized that future currency
    paper demand was one of the factors that needed to be considered in
    deciding on the feasibility of additional suppliers.

    Accordingly, we deleted our recommendations to the Secretary aimed at
    encouraging competition to reflect BEP's concerns, the uncertainties
    identified in our report, and because of Treasury's ongoing effort to
    project future currency demand.  However, we believe that future
    consideration by Treasury of additional measures to encourage
    competition may be appropriate after it finishes its study of future
    currency demand for a number of reasons.  First, significant changes
    in future currency demand could affect the economic feasibility of
    establishing other suppliers.  Second, BEP's statement that it has
    determined that establishing another supplier would not be
    economically advantageous appears to be based on its 1996 currency
    paper study, which was done before BEP accepted higher prices for
    newly designed currency paper under contract 97-10; higher prices
    could affect the conclusions Treasury reached in its 1996 study.
    Third, Treasury's report on its 1996 currency paper study did not
    fully address the economic feasibility of establishing a second
    supplier under different scenarios that would be possible if existing
    restrictions on the contract period or percentage of foreign
    ownership and control were changed.

    Regarding our recommendation to ensure the contractor maintains
    acceptable cost accounting and estimating systems, BEP said that it
    has audited the contractor's cost accounting practices and will
    continue to do so.  However, on July 29, 1998, BEP officials told us
    that they still had not obtained an audit of Crane's estimating
    system.  We believe that this should have been done earlier because
    the estimating system helps to ensure that cost proposals are based
    on reliable and consistent data.

    In reference to our recommendation to arrange for post-award audits
    for the contractor's costs, BEP said that it had requested audits and
    that ongoing IG and DCAA investigations and audits occasionally
    interfered with timely post-award audits.  We believe BEP should
    continue to pursue these audits because past efforts to follow up on
    obtaining post-award audits have not always been timely and because
    they help protect the government's interests.

    With respect to our recommendations that solicitations reflect
    expected paper needs and that orders be evened out, allowing the
    supplier to maintain a steady production level, BEP agreed that
    improvements were needed and says it has taken corrective actions to
    ensure that the quantities bought under contract 97-10 represent
    actual requirements.  We believe these actions are a step in the
    right direction and should be continued in future orders of currency
    paper.

    BEP disagreed with our recommendation that it make more extensive use
    of cost and price analysis.  BEP pointed out that in its two most
    recent contracts, it had applied a number of cost analysis
    techniques.  Our draft report recognized that BEP had done more cost
    analysis on contract 97-10 than had been done in previous contracts.
    However, BEP did not do adequate price analysis for any of the five
    contracts we reviewed, including 97-10, and did not do adequate
    analysis to support the profit levels it accepted.  Accordingly, we
    modified our recommendation to address the need for greater analysis
    of proposed profit levels.  Regarding our recommendation to collect
    pricing data from foreign countries, BEP said it would continue to
    try to obtain foreign country currency paper data.  We added some
    language to the report to clarify how this might be done.  With
    respect to the related suggestion that BEP collect pricing data on
    similar supplies purchased by other agencies, such as passport and
    money order paper, BEP said it believed comparison of currency paper
    prices to passport and money order paper would not produce any
    meaningful information.  BEP said these papers are different from
    currency paper.  Our report recognizes that although comparisons of
    these types of papers would not provide a basis for a definitive
    conclusion, they may provide some insight for assessing pricing
    trends.

    BEP said it agreed with our recommendation to obtain royalty-free
    data rights to future security measures.  BEP pointed out that the
    cost of such royalties for the security thread is less than 0.2
    percent of the cost of the currency paper contract.  However, BEP did
    not address the effect these patents had on its 1997 competitive
    solicitation or could have on future solicitations.  As discussed in
    chapter 2, several paper manufacturers stated that the requirements
    to pay a royalty license to use the data and process for insertion of
    the security thread made it difficult for them to compete.  One paper
    manufacturer filed a protest with BEP over the security thread
    license and said that the solicitation places potential offerors in a
    position of violating a patent held by Crane if they supply currency
    paper containing security thread made to BEP's specifications.  In
    response to this protest, BEP agreed to provide the security thread
    as government-furnished property.

          CRANE & CO.  COMMENTS
    -------------------------------------------------------- Chapter 5:3.2

    Crane provided very lengthy comments on many of the issues addressed
    in this report.  Our specific responses to the comments are included
    in appendix VII.  In general Crane said that although it agreed with
    many of our factual findings, it disagreed with most of our
    recommendations and one of our matters for consideration of Congress.
    Crane also suggested specific technical changes to clarify our report
    that we have made where appropriate.

    In objecting to our recommendations that BEP and Treasury take
    further steps to encourage competition in the supply of the nation's
    currency paper, Crane said that they have already been adopted by BEP
    and no further action was necessary.  Crane specifically objected to
    the recommendations in the draft report that BEP further consider
    options for providing financial assistance to other potential
    suppliers and that BEP consider excluding Crane from all or some of
    its currency paper requirement to encourage participation by other
    potential suppliers.  While these strategies are permitted under law,
    Crane said that they would result in higher costs and possible
    disruptions to the supply of currency paper.  As we explain in
    response to BEP's concern about these recommendations, we acknowledge
    and stress in the report that the impact of alternative strategies is
    uncertain and that many factors would have to be weighed in
    considering any option.  In light of BEP's concerns and to recognize
    the uncertainty involved, we have deleted the recommendations
    proposed in our draft report to encourage Treasury and BEP to further
    consider the feasibility and advisability of additional measures to
    encourage competition.

    Crane agreed with our suggestion to Congress that consideration be
    given to modifying the 4-year limit on currency paper contracts.
    However, Crane opposed our further suggestion to Congress that the
    Secretary of the Treasury be given additional authority to acquire
    currency paper from foreign-owned firms in the event that fair and
    reasonable prices cannot be obtained from a domestic source.  We can
    understand Crane's position on this matter, since it believes that
    its prices have been fair and reasonable, and that the alternative of
    acquiring currency paper from a foreign source is not necessary.
    However as our report clearly states, there have been occasions in
    the past in which BEP has not been able to determine that Crane's
    prices were fair and reasonable, but the lack of other domestic
    suppliers and the current restriction prohibiting acquiring currency
    paper from foreign-owned sources unless no domestic source exists has
    limited the negotiating strategies.  For these reasons, we continue
    to believe that Congress should consider limited expansion of the
    Secretary's authority.

    OBJECTIVES, SCOPE, AND METHODOLOGY
    =========================================================== Appendix I

    Section 9003 of the fiscal year 1997 Emergency Supplemental
    Appropriations Act required that we complete "a comprehensive
    analysis of the optimum circumstances for government procurement of
    distinctive currency paper" and report our findings to the House and
    Senate Committees on Appropriations.  According to the conference
    report accompanying the appropriations bill, the Conference Committee
    expressed concern over the fact that BEP has bought virtually all of
    its paper for the nation's currency from a single supplier for over
    100 years.  The Conference Committee directed that we report on any
    limitations on competition in currency paper procurement and possible
    alternatives to the way BEP has been buying the paper, the fairness
    and reasonableness of prices paid for the paper, the potential for
    disruption of currency paper from relying on single supplier, and
    other matters.

    In June 1997, the Chairman of the House Government Reform and
    Oversight Committee asked that we also report our findings to that
    Committee because of its interests in federal procurement matters.
    Senator Lautenberg, in June 1997, also requested that we report our
    findings to his office.  In September 1997, 16 Members of Congress
    informed us of their interest in ensuring that our analysis was
    carried out in an objective manner and expressed their opinion that a
    review of the potential benefits and drawbacks of a single supplier
    relationship was appropriate.

    As a result of the large number of congressional parties interested
    in this matter and because the public law that initiated it contained
    a general statement that we analyze "the optimum circumstances for
    government procurement of distinctive currency paper," we met with
    the interested Members' staffs to obtain the specific issues they
    wanted addressed, and we suggested approaches to address those
    issues.  We identified numerous concerns and issues, which are
    covered under the following three broad objectives:

      -- Have BEP's efforts to encourage competition for currency paper
         been effective?

      -- Have prices paid for currency paper been fair and reasonable and
         has the quality of paper been ensured?

      -- Is there potential for disruption to the U.S.  currency paper
         supply from BEP's reliance on a single supplier?

    To address the first objective, the effectiveness of efforts to
    encourage competition for currency paper, we reviewed BEP procurement
    files for 5 contracts with 17 procurement actions awarded during 1988
    to 1997 and the current solicitation.  We also reviewed the 1983 and
    1996 Department of the Treasury/BEP studies on currency paper
    procurement.\19 We interviewed and obtained documents from officials
    at BEP, Treasury, Crane, and the Federal Reserve.

    In addition, we identified and surveyed 30 paper manufacturers of
    cotton-based security paper to determine their interest in and
    ability to supply currency paper to BEP.  We identified the 30
    manufacturers by (1) reviewing the 1996 Treasury/BEP currency paper
    study, which identified 7 producers; (2) reviewing the Lockwood-Post
    Directory of Pulp, Paper, and Allied Trades, 1995 edition, which
    listed 21 producers; and (3) interviewing a representative of the
    American Forest and Paper Association's Cotton Fiber Council, who
    identified 9 producers.  The three sources, in some cases, identified
    the same producers.  In total, we identified 30 different producers.
    See appendix IV for a copy of our questionnaire.

    Our primary variable for analysis was interest in providing currency
    paper to BEP.  We considered the 12 manufacturers who responded with
    "very interested" and "somewhat interested" in providing currency
    paper to BEP our most important group for the purposes of this study
    because they have a stated interest in supplying paper to BEP.  These
    are referred to in our text as the "interested paper manufacturers."
    Of these 12, 7 were domestic and 5 were foreign manufacturers.

    We conducted site visits to two paper manufacturing facilities, Crane
    in Dalton, Massachusetts; and FiberMark, Inc., in Bloomsbury, New
    Jersey.  We selected Crane because it has been the long-standing
    single supplier of currency paper to BEP.  The second manufacturing
    facility we visited was FiberMark, Inc., which was selected because
    of its expressed interest in competing to become a U.S.  currency
    paper supplier.

    To obtain a perspective on how other countries procure banknote
    paper, we sent a separate questionnaire to representatives of the
    other G-7 nations:  Canada, England, France, Germany, Italy, and
    Japan.

    We analyzed the Conte Amendment and its legislative history, the
    statute limiting the procurement of distinctive currency paper to
    4-year contracts, and other applicable procurement laws and
    regulations to identify requirements affecting the procurement of
    currency paper.  We interviewed Secret Service and BEP procurement
    and security officials regarding off-shore manufacturing
    issues--specifically, the security concerns that may have an impact
    on opportunities for competition.  We also interviewed officials at
    the U.S.  Mint; Government Printing Office; U.S.  Postal Service; and
    the Departments of the Army, Navy, and Air Force to identify possible
    alternatives to BEP's approach to procuring currency paper.

    For our second objective, to determine the fairness and
    reasonableness of price and assurance of quality goods and services,
    we reviewed BEP procurement records from 1988 to 1997.  Originally,
    we planned to review the files for currency paper contracts awarded
    by BEP for the past 15 years.  However, BEP contract files contained
    records for only a 10-year period, 1988 through 1997.  We examined
    documents in the files, such as price negotiation memoranda, cost and
    price analyses, and other supporting documents, to determine whether
    the contractor had provided the government with a quality product at
    a fair and reasonable price.  We also reviewed Treasury IG and DCAA
    audit reports relating to the supplier's cost proposals and cost
    accounting system.

    To help us review the fairness and reasonableness of BEP prices, we
    contracted with Joe D.  Quicksall, a consultant with specialized
    experience in procurement issues.  Mr.  Quicksall, who is a GAO
    retiree, added to this review his extensive knowledge of fair and
    reasonable pricing issues gained over his more than 30 years of
    auditing experience.

    Mr.  Quicksall analyzed the supplier's cost proposals and the related
    IG and DCAA audit reports to assess how BEP used these data to
    evaluate and negotiate costs.  Mr.  Quicksall examined the impact of
    an arbitration decision related to questioned contract costs and
    profit and provided his opinion on BEP's basis for determining
    fairness and reasonableness of price for contracts awarded from 1988
    to 1997.  Finally, we obtained IG/DCAA audit reports and interviewed
    BEP, IG, and DCAA staff concerning defective pricing practices of the
    currency paper supplier.  We also interviewed BEP officials and
    reviewed BEP's procurement records to obtain information on the
    quality and reliability of Crane's currency paper deliveries.

    To address the third objective, the potential disruption to the U.S.
    currency paper supply from BEP's reliance on a single supplier, we
    reviewed inventory reports and BEP's contingency plan for critical
    materials; and interviewed officials at BEP, the Federal Reserve, and
    the current supplier to determine current inventory levels, the
    potential for disruption to the supply of currency paper, and what
    steps, if any, would have to be taken to procure currency paper if it
    could not be obtained from Crane.  We also toured the BEP facilities
    in Washington, D.C.; and Fort Worth, TX; and the Federal Reserve Bank
    in Dallas, TX, to determine the storage capacity for currency paper
    inventory.  In addition, by survey, we collected information on
    currency paper inventories maintained by the other G-7 countries.

    We conducted our review in Washington, D.C.; Dallas and Fort Worth,
    TX; Dalton, MA; Bloomsbury, NJ; and Hartford, CT, from June 1997
    through August 1998, in accordance with generally accepted government
    auditing standards.  We obtained written comments on a draft of this
    report from BEP and Crane.  These comments are reprinted in
    appendixes VI and VII and are discussed at the end of chapter 5.

    --------------------
    \19 Review of Distinctive Currency Paper, Aug.  1983, and the U.  S.
    Currency Paper Study, June 1996.  The 1983 study was initiated to
    determine whether alternative sources of distinctive currency paper
    were available to BEP.  Concerns about a single supplier of currency
    paper prompted the 1996 study, which was undertaken to determine
    options for ensuring a reliable source of currency paper at a
    reasonable price.

    SYNOPSIS OF SIX PAPER CONTRACTS
    REVIEWED
    ========================================================== Appendix II

    88-205 was a procurement action classified as a competitive
    solicitation that resulted in a letter contract awarded to Crane in
    December 1987.  Crane was the only firm to submit a proposal to BEP
    for distinctive currency paper for 1-dollar and 2-dollar notes.  The
    contract was for a 2-year period, with two 1-year options,
    definitized in May 1988, with an estimated value of $45,144,000.
    Option year one was exercised effective May 1990, and option year two
    was exercised in May 1991.  At the completion of option year two, the
    contract was extended for 6 months.

    91-18 was a procurement action classified as a competitive
    solicitation.  The contract was awarded to Crane in February 1991,
    the only firm to submit a proposal.  The solicitation was to
    manufacture denominated distinctive currency paper with security
    thread, specifically, 20-, 50-, and 100-dollar notes.  The contract
    was for a 1-year period with three 1-year options, with an estimated
    value of $66,309,320.  All options were exercised on the anniversary
    date of the contract, and the contract was also extended from
    February 1995 to May 1995.

    93-14 was a procurement action classified as a competitive
    solicitation.  The contract was awarded to Crane in January 1993, the
    only firm to submit a proposal to BEP.  The solicitation was to
    manufacture distinctive currency paper.  The contract was for a
    1-year period with four 1-year options with an estimated value of
    $16,471,779.  Option one was exercised on the anniversary date of the
    contract.  The remaining options were not exercised.

    95-23 was a sole-source contract awarded to Crane in June 1995 for
    the manufacture of all three types of paper currently being used,
    distinctive currency paper, distinctive paper with a security thread,
    and the new currency design paper containing security thread and a
    watermark.  The contract was for a period of 1 year, with two 6-month
    options and with an estimated value of $54,342,281.  The new currency
    design paper was not priced in the initial contract but was priced in
    a modification.

    97-10 was a sole-source contract awarded to Crane in September 1997
    for the manufacture of all three types of currency paper.  The
    contract, known as the bridge contract, is for a period of 2 years,
    with no options and at an estimated value of $171,458,298.

    97-13 is a competitive solicitation for a possible 4-year contract to
    manufacture three types of currency paper and is expected to be
    awarded in December 1998.

    INTERESTS OF PAPER MANUFACTURERS
    RESPONDING TO GAO'S SURVEY
    ========================================================= Appendix III

    Table I.1 lists the 30 paper manufacturers to which we sent our
    questionnaire, identifies those that responded, and identifies those
    that stated that they were interested in supplying currency paper to
    BEP.

                        Table III.1 Paper Manufacturers
                     Participating in GAO's Currency Paper
                                     Survey

                                                        Interested in
                                    Responded to        supplying currency
    Paper Manufacturer              survey?             paper to BEP?
    ------------------------------  ------------------  ------------------
    Arjo-Wiggins                    Yes                 Yes
    Paris, France

    Boise Cascade                   Yes                 Yes
    Portland, OR

    Buckeye Cellulose Corp.         No                  No
    Memphis, TN

    Cheney Pulp & Paper             No
    Franklin, OH

    Cottrell Paper Co.              Yes                 No
    Rock City Fall, NY

    Cross Pointe                    No
    Dayton, OH

    Crown Vantage                   Yes                 Yes
    Milford, NJ

    Domtar Security Papers          Yes                 Yes
    Montreal, Canada

    Eastern Paper                   No
    Amherst, MA

    Esleek Manufacturing            Yes                 No
    Turner Falls, MA

    FiberMark                       Yes                 Yes
    Bloomsburg, NJ

    Filter Materials                Yes                 No
    Waupaca, WI

    Fletcher                        Yes                 Yes
    Alpena, MI

    Fox River Paper                 Yes                 Yes
    Appleton, WI

    Fraser Paper Company            No
    Stamford, CT

    Georgia Pacific                 Yes                 No
    Port Edwards, WI

    Gilbert Paper                   Yes                 Yes
    Menasha, WI

    International Paper Co.         Yes                 Yes
    Memphis, TN

    Knowlton Specialty Papers       No
    Watertown, NY

    Louisenthal                     Yes                 Yes
    Frankfurt, Germany

    Lunday Thagard Company          No
    South Gate, CA

    Neenah Paper                    Yes                 No
    Neenah, WI

    NVF Company                     No
    Yorklyn, DE

    Parsons Paper Company           No
    Holyoke, MA

    Portals                         Yes                 Yes
    Overton, United Kingdom

    Rolland, Inc.                   Yes                 No
    Quebec, Canada

    Southworth Company              Yes                 No
    West Springfield, MA

    Spexel                          Yes                 Yes
    Quebec, Canada

    Strathmore Paper                Yes                 No
    East Granby, CT

    Wausau Papers of New            No
    Hampshire
    Groveton, NH

    ======================================================================
    Total                           20                  12
    ----------------------------------------------------------------------

    (See figure in printed edition.)Appendix IV
    GAO'S PAPER MANUFACTURERS SURVEY
    ========================================================= Appendix III

    (See figure in printed edition.)

    (See figure in printed edition.)

    (See figure in printed edition.)

    (See figure in printed edition.)

    PRICES FOR CURRENCY PAPER ON FIVE
    CONTRACTS GAO REVIEWED
    =========================================================== Appendix V

                                   Table II.1

                      Per Sheet\a Prices of Currency Paper
                    Ordered for Five Contracts GAO Reviewed

                                             Types of paper
                               -------------------------------------------
                                                             Threaded with
    Contract                      Unthreaded       Threaded      watermark
    -------------------------  -------------  -------------  -------------
    88-205
    Letter contract                   $.1240
    Base period (2)                    .1254
    Option I                           .1542
    Option II                        .1542\b
    Extension                        .1542\b
    91-18
    Base period (1)                                  $.3932
    Option I                                        .2977\b
    Option II                                       .2686\b
    Option III                                      .2627\b
    Extension                        .1550\b
    93-14
    Base period (1)                  .1599\b
    Option I                         .1640\b
    95-23
    Base period (1)                    .1643          .2484        $ .4230
    Option I (6 mos.)                  .1633          .2452          .4036
    Option II                          .1641          .2456          .4034
     (6 mos.)
    97-10
    year 1                             .1802          .2471          .4480
    year 2                             .1705          .2375          .4818
    ----------------------------------------------------------------------
    \a Contract prices are given on a per-sheet basis.  Each sheet
    produces 32 currency notes.

    \b Prices shown are interim prices that were settled at a lower price
    in arbitration on an aggregate contract basis.

    Source:  BEP contract files.

    (See figure in printed edition.)Appendix VI
    COMMENTS FROM THE DEPARTMENT OF
    THE TREASURY AND THE BUREAU OF
    ENGRAVING AND PRINTING
    =========================================================== Appendix V

    (See figure in printed edition.)

    (See figure in printed edition.)

    (See figure in printed edition.)

    (See figure in printed edition.)

    (See figure in printed edition.)

    (See figure in printed edition.)Appendix VII
    COMMENTS FROM CRANE & CO.
    =========================================================== Appendix V

    Now on p.  6.

    See comment 1.

    (See figure in printed edition.)

    See GAO comment 3.

    (See figure in printed edition.)

    See GAO comment 3.

    See GAO comment 4.

    See GAO comment 4.

    See GAO comment 1.

    (See figure in printed edition.)

    See GAO comment 5.

    See GAO comment 6.

    See GAO comment 7.

    (See figure in printed edition.)

    See GAO comment 7.

    See GAO comment 6.

    See GAO comment 8.

    Now on pps.  7-8.

    See GAO comment 9.

    See GAO comment 4.

    (See figure in printed edition.)

    See GAO comment 6.

    See GAO comment 10.

    See GAO comment 6.

    See GAO comment 2.

    See GAO comment 6.

    Now on pps.  33 and 41.

    See GAO comment 8.

    See GAO comment 8.

    See GAO comment 11.

    (See figure in printed edition.)

    Now on p.  5.

    See GAO comment 12.

    See GAO comment 12.

    See GAO comment 13.

    See GAO comment 13.

    (See figure in printed edition.)

    Now on p.  22.

    Now on p.  22.

    See GAO Comment 13.

    See GAO comment 14.

    (See figure in printed edition.)

    See GAO comment 15.

    Now on pp.  27-28.

    See GAO comment 16.

    See GAO comment 15.

    (See figure in printed edition.)

    Now on p.  32.

    See GAO comment 13.

    Now on p.  44.

    See GAO comment 17.

    (See figure in printed edition.)

    See GAO comment 17.

    Now on p.  5.

    See GAO comment 19.

    (See figure in printed edition.)

    Now on p.  18.

    Now on pps.  6-7.

    (See figure in printed edition.)

    Now on p.  16.

    Now on pp.  15-16 and 28.

    See GAO comment 20.

    (See figure in printed edition.)

    See GAO comment 21.

    See GAO comment 20.

    See GAO comment 7.

    See GAO comment 23.

    See GAO comment 22.

    See GAO comment 22.

    (See figure in printed edition.)

    Now on pp.  4 and 41.

    See GAO comment 22.

    Now on p.  22.

    See GAO comment 22.

    See GAO comment 22.

    Now on p.  43.

    See GAO comment 22.

    Now on p.  43.

    See GAO comment 22.

    (See figure in printed edition.)

    Now on p.  43.

    See GAO comment 22.

    See GAO comment 22.

    Now on p.  44.

    (See figure in printed edition.)

    Now on p.  29.

    See GAO comment 23.

    See GAO comment 24.

    See GAO comment 24.

    (See figure in printed edition.)

    See GAO comment 26.

    See GAO comments 7 and 13.

    Now on p.  24.

    (See figure in printed edition.)

    (See figure in printed edition.)

    See GAO comments 4 and 7.

    See GAO comments 6 and 7.

    See GAO comments 6 and 7.

    (See figure in printed edition.)

    See GAO comments 6 and 7.

    See GAO comment 6.

    See GAO comment 25.

    See GAO comment 6.

    (See figure in printed edition.)

    See GAO comment 6.

    See GAO comment 26.

    Now on p.  34.

    (See figure in printed edition.)

    See GAO comment 26.

    Now on pp.  34-35.

    (See figure in printed edition.)

    (See figure in printed edition.)

    See GAO comment 27.

    Now on p.  40.

    (See figure in printed edition.)

    See GAO comment 2.

    See GAO comment 2.

    Now on p.  8.

    See GAO comment 32.

    See GAO comment 2.

    (See figure in printed edition.)

    See GAO comment 29.

    See GAO comment 31.

    (See figure in printed edition.)

    See GAO comment 31.

    (See figure in printed edition.)

    Now on pp.  33 and 41.

    Now on p.  42.

    Now on p.  42.

    See GAO comment 30.

    See GAO comment 35.

    (See figure in printed edition.)

    See GAO comment 30.

    See GAO comment 36.

    (See figure in printed edition.)

    See GAO comment 36.

    (See figure in printed edition.)

    See GAO comment 36.

    (See figure in printed edition.)

    See GAO comment 36.

    See GAO comment 33.

    (See figure in printed edition.)

    See GAO comment 8.

    (See figure in printed edition.)

    See GAO comments 8 and 36.

    See GAO comments 8 and 12.

    See GAO comments 8 and 36.

    (See figure in printed edition.)

    See GAO comments 4, 7, 12, and 18.

    (See figure in printed edition.)

    Now on p.  6.

    See GAO comment 14.

    Now on p.  24.

    See GAO comment 9.

    See GAO comment 9.

    Now on p.  31.

    See GAO comment 34.

    (See figure in printed edition.)

    Now on p.  41.

    See GAO comment 30.

    (See figure in printed edition.)

    (See figure in printed edition.)

    Now on p.  49.

    See GAO comment 13.

    See GAO comment 13.

    (See figure in printed edition.)

    See GAO comment 13.

    The following are GAO's comments on Crane's letter dated July 28,
    1998.

       GAO COMMENTS
    --------------------------------------------------------- Appendix V:1

    1.  Crane said that unlike in other industrialized countries, the
    single source of the United States' currency paper has been selected
    in an open and competitive process, for the most part, and that the
    absence of multiple suppliers is not the absence of competition.  As
    we point out in chapter 2, no firm other than Crane has submitted an
    offer to BEP for the five solicitations covered in our review.
    Further, the paper manufacturers we surveyed identified several
    factors that make it difficult for them to compete, including the
    length of the currency paper contracts and the exclusion of
    foreign-owned and controlled firms from supplying paper under the
    Conte Amendment.

    2.  Crane said that (1) it has supplied paper at prices that are
    significantly lower than prices paid by other G-7 nations to their
    currency paper suppliers; (2) its currency paper prices have
    decreased after it introduced new technology; (3) in real terms, its
    prices for unthreaded and unwatermarked paper have declined between
    1965 and 1995; and (4) historical comparisons of its prices and
    comparisons of Crane's prices to currency paper prices of other
    countries are more appropriate than comparisons to prices of other
    types of paper, such as passport paper and money orders.  BEP was
    unable to obtain prices paid by other countries, and Crane did not
    provide us with any information substantiating the prices paid by
    other countries when we requested it.  Later in its letter (page 8)
    Crane states that Treasury had surveyed other countries and concluded
    Crane's costs were lower.  We found no evidence to support this
    statement.  However, we noted that in an unsolicited 1995 letter to
    BEP, a foreign supplier offered currency paper to BEP at considerably
    lower prices than Crane's contract prices.

    Crane said its inflation-adjusted prices for currency paper without a
    thread and watermark and threaded currency papers were lower in 1995
    than in 1965.  However, we note that the rate of inflation alone is
    not a good indicator of the fairness and reasonableness of currency
    paper prices because there is no evidence that the 1965 base price
    was fair and reasonable.  In addition, Crane's prices for threaded
    and watermarked currency paper were higher for contract 97-10 than
    under contract 95-23.  Threaded and watermarked currency paper was
    introduced under contract 95-23.

    Although we agree with Crane that historical comparisons of its
    prices and comparisons of its prices to prices foreign countries pay
    for currency paper would be useful, we also believe that comparisons
    to other types of paper, such as passport paper and money order
    paper, would provide useful information.  However, none of these
    comparisons is likely to be definitive by itself.  For example,
    according to BEP, the volumes of currency paper produced by the G-7
    nations are considerably less than the volumes produced annually in
    the United States, and this difference should be considered in any
    price comparisons.  Furthermore, although price trend data provide
    information that is helpful in assessing the fairness and
    reasonableness of prices, they were not conclusive because it is not
    known whether the base-year prices were fair and reasonable.
    Overall, we believe that competition, where several offers are
    received, would provide the most objective means for determining
    whether currency paper prices are fair and reasonable.

    3.  Crane disagreed with our recommendation to authorize the
    Secretary of the Treasury to procure currency paper from a foreign
    source if a fair and reasonable price cannot be obtained from a
    domestic supplier and suggested that arbitration would be a better
    alternative, given security issues associated with production in a
    foreign country.  We disagree and believe that given the limited
    number of suppliers of currency paper and BEP's weak negotiating
    position, the government's interests would be better protected if BEP
    had the option to obtain paper from another source until a domestic
    source can be found that provides the paper at a fair and reasonable
    price.  Although we fully recognize the security concerns associated
    with production of currency paper outside the United States, our
    recommendation is aimed at providing a temporary solution similar to
    what Congress has provided for most federal agencies in general.  For
    example, the Buy American Act, 41 U.S.C.  10a, which limits certain
    purchases to items produced in the United States, also provides that
    the limitations do not apply if the cost of the domestic item is
    determined to be not reasonable.  Further, we believe the ability to
    arrange for a foreign currency paper source would provide BEP with
    needed leverage should it find itself in the same position it was in
    during the period covered by our review, when it was unable to
    determine that Crane's prices were fair and reasonable.  We did,
    however, clarify the intent of our recommendation to recognize
    Crane's issue regarding security.

    4.  Crane said the inhibitors to competition we identified in our
    survey of manufacturers were no different from those identified by
    BEP and incorporated into solicitation 97-13; thus, according to
    Crane, BEP has already adopted our recommendations and it would be
    premature to take further action until decisions are made on
    solicitation 97-13.  This statement is incorrect.  Some factors,
    including the 4-year contract length and the restriction against the
    participation of foreign firms, are beyond BEP's control; they cannot
    be adequately addressed in the solicitation unless Congress makes
    legislative changes.  In addition, there are options beyond
    willingness to accept "innovative" proposals for financial assistance
    that could be considered.

    5.  Crane said we did not explain why the fundamental concepts of
    fairness in federal procurement should be abandoned for the special
    benefit of a few companies.  Our report does not suggest that
    fairness be abandoned.  To the contrary, we suggested that fairness
    to all interested competitors be ensured in the acquisition of
    currency paper through the use of techniques that are provided for in
    the procurement laws.

    The measures that we proposed in our draft report are authorized by
    procurement statutes to address situations in which questions exist
    as to product availability and/or whether prices paid by the
    government in single-supplier situations are fair and reasonable.
    Further, providing CAP to a domestic supplier is authorized under the
    FAR and could enable suppliers to overcome the high initial
    investment impediment, but the value of the CAP would have to be
    reflected in the evaluation of the offeror's price.  Reserving a
    portion of the requirements to target opportunities for potential
    alternative suppliers could allow another supplier some time to
    achieve a production level that would determine whether the supplier
    could produce quality currency paper at a competitive price.
    Moreover, given the special legislative provisions that apply to
    currency paper production, it appears unlikely that potential
    suppliers would be willing to enter the market without additional
    action to encourage competition.  However, as we have discussed
    previously, after considering the comments we received on our draft
    report and reconsidering the uncertainties we identified in our
    report, we deleted these two recommendations from our final report
    but recognize that additional measures by Treasury to encourage
    competition may be appropriate in the future.

    6.  Crane said that (1) it and BEP have usually been able to reach
    agreement on prices, (2) independent analyses confirm that
    agreed-upon prices have been fair, and (3) the report offers no
    evidence that negotiated prices were anything but fair and
    reasonable.  As pointed out in chapter 3, for the 17 contract actions
    we reviewed, BEP and Crane were unable to reach agreement on 8, and
    BEP was unable to determine whether the prices for 5 others were fair
    and reasonable.  Crane did not furnish convincing data or analyses to
    us in support of its view that the prices have been fair and
    reasonable.  In any event, the determination of whether the prices
    are fair and reasonable is to be made by BEP, and, as pointed out
    above, it was unable to do so in several instances.

    7.  Crane said our report offers no facts or analysis to support the
    conclusion that more effort is needed to encourage competition and
    that the history recounted in our report demonstrates that BEP has
    focused adequate attention on competition.  The report details how
    BEP has not been successful in obtaining competition, discusses the
    impediments to competition, demonstrates that BEP has not been in a
    good position to protect the government's financial interests, and
    provides options to encourage competition.  As the report points out,
    Crane has supplied virtually all currency paper since 1879.  The
    report notes BEP's efforts in recent years to obtain competition, as
    well as the inhibitors that have affected its success; and the report
    clearly points out that certain inhibitors were beyond BEP's control
    and others were within its control.  Further, the report discusses
    BEP's efforts in connection with its most recent solicitation and the
    issues interested paper manufactures have raised.

    8.  Crane said the report fails to address the most important aspect
    of the currency paper market, which is that the direct benefit to the
    government of maintaining the quality and reliability of currency is
    worth more than 200 times the cost of the paper itself.  We believe
    the benefit Crane refers to is the interest earned by the Federal
    Reserve on government securities that are held to back up the value
    of currency issued.  We agree with Crane that the quality of U.S.
    currency paper is important.  However, we do not understand how this
    benefit can be linked to the currency paper market.  Also, any firm
    awarded a contract would be required to maintain the quality and
    reliability of the paper used for currency.

    9.  Crane pointed out that our draft report incorrectly characterized
    the start-up period in solicitation 97-13.  We have corrected this in
    the report.

    10.  Crane, in referring to the arbitration settlement in which $12.7
    million was returned to BEP, said that under a fixed-price contract,
    such givebacks are not the norm.  We agree.  However, the normal
    procedure under a fixed-price contract is to establish the price
    before contract award; but in this instance, the parties were not
    able to agree on prices for several years because the government
    believed Crane's proposed prices were too high.

    11.  Crane said our report, in discussing the potential for
    disruptions to the supply of currency paper, does not address the
    importance of advanced anticounterfeiting technology in the paper
    itself.  Chapter 1 of our report acknowledges that the use of more
    sophisticated paper is one method of making U.S.  currency paper more
    difficult to counterfeit.  Specifications for anticounterfeiting
    features are included in BEP's solicitations, and any contracts that
    are awarded must be performed in accordance with these requirements.

    12.  Crane said the report does not adequately define the optimum
    circumstances for the procurement of currency paper and fails to
    explain why perfect competition is deemed either unattainable or
    undesirable by most large industrialized nations.  We do define
    optimum circumstances in chapter 2 and also explain why competition
    has not been obtained in the United States.  Although we attempted to
    collect data from the other G-7 nations on how they procured banknote
    paper, it was beyond our scope to explain the merits of the use of
    single currency paper suppliers in those countries or to compare the
    procurement processes of the United States with those of the other
    G-7 nations.  Also, as BEP notes, the volume of currency production
    in the other G-7 nations is less than in the United States; this
    raises the question of whether there is sufficient volume of currency
    paper production in other countries to support more than one
    supplier.

    13.  Crane said the recommended options in our draft report to
    provide financial assistance or exclude Crane from some or all of
    BEP's requirements would be anticompetitive and would jeopardize the
    currency supply by replacing Crane with an inexperienced supplier.
    Further, Crane said that the report offered no evidence that these
    options would be effective and ignores the potential costs to the
    government and risks associated with these options if they do not
    work.  Also, Crane said that there is no relevant precedent for
    taking these kinds of actions, and the report does not support the
    use of the concept of dual sourcing for currency paper production.
    In fact, the options we suggested--offering financial assistance or
    excluding Crane from being able to offer on some part of BEP's
    requirements--are provided for in the procurement statutes and
    regulations.  They are designed to enhance competition in the long
    run, not lessen it.  Although we continue to believe that such types
    of alternative strategies could be appropriate in the future, we
    recognize that there are currently many uncertainties involved and
    that Treasury may be in a better position in the future to consider
    whether BEP should take additional measures to encourage competition.

    As our report says, DOD has taken steps to help establish a
    competitive market in some instances in which it had concerns about
    price and/or quality.  Although we agree with Crane that the products
    involved in DOD's dual sourcing examples are certainly different from
    currency paper, we believe that the dual sourcing concept is relevant
    to currency paper as long as there is sufficient volume to
    economically support multiple suppliers, and the interested paper
    manufacturers we surveyed appear to believe a sufficient volume
    exists.  Crane pointed out that according to a former Commander of
    the Air Force's Systems Command, DOD uses this approach only when the
    manufacturing process by a single source is inefficient and there are
    clear opportunities to achieve technological breakthroughs by funding
    another source.  However, the current Undersecretary of Defense for
    Acquisition and Technology and DOD officials we interviewed said that
    dual sourcing can yield significant improvements in quality and
    reduction in cost in certain circumstances.  They said that this
    result occurs because, in a sole source environment, there is very
    little incentive for the producer to drive down cost, and the sole
    source provider may have an incentive to raise costs because, in
    subsequent years, price negotiations are based on the preceding
    year's actual costs.  One DOD official we interviewed recognized that
    dual sourcing may not work for currency paper but did not conclude
    that the concept was inappropriate for consideration.

    Crane also raised other objections to our draft report's
    recommendations to consider providing financial assistance and
    excluding Crane from submitting an offer on some of BEP's
    requirements.  For example, Crane said that our proposed
    recommendations were based on our concern about possible disruptions
    to the supply of currency paper and that we did not assess the
    capability of potential suppliers to meet BEP's specifications.  We
    did not base these proposed recommendations on a concern over a
    supply disruption resulting from a security problem or a catastrophic
    event, as Crane suggests.  Rather, they were based on the
    difficulties of entering the currency paper market, concerns BEP had
    over the fairness and reasonableness of Crane's prices over most of
    the 10-year period covered by our review of BEP's procurement
    records, questions that exist over Crane's profit levels in the
    absence of a domestic market that could be used to assess the
    fairness and reasonableness of Crane's prices, the difficulties BEP
    encountered in reaching agreement with Crane over most of the 10-year
    period, and BEP's lack of leverage in negotiations with Crane.

    As Crane notes, we did not independently assess the capability of
    potential suppliers to meet BEP's requirements.  BEP is responsible
    for making such an assessment in determining the responsibility of a
    prospective contractor, and we did not propose that BEP award a
    contract to a firm that could not meet its requirements.

    14.  Crane pointed out that our report incorrectly identified two
    paper manufacturers with U.S.  addresses as being headquartered in
    the United States.  We made this correction.

    15.  Crane said that BEP never offered financial assistance to it.
    However, we noted in the contract file for contract 97-10 that BEP
    offered various financial incentives to Crane in an attempt to reduce
    Crane's proposed profits and that Crane rejected these incentives.

    16.  Crane surmised that the substance of our survey to paper
    manufacturers was derived from a letter sent to BEP by two of Crane's
    potential competitors.  This letter asked BEP to lengthen its
    contracts for currency paper, provide a split-quantity award, and
    allow a longer start-up period.  Although we did not use this letter
    as a basis for our survey, similar factors were identified by several
    paper manufacturers who responded to our survey.

    17.  Crane said that obtaining best value should be the ultimate
    objective in government procurement, not competition.  We agree.
    However, we continue to believe that when competitive procedures are
    used and a market consisting of a number of responsible sources for
    the government's needs exists, the expected result would be adequate
    price competition so that an agency would be likely to obtain
    supplies at a fair and reasonable price.

    18.  Crane believes that (1) our findings show that BEP's efforts to
    promote competition have been adequate; (2) despite BEP's historical
    use of full and open competition and special BEP efforts to develop
    alternate sources, BEP's lack of success was due largely to Crane's
    low prices and the other companies' inability to meet BEP's
    requirements; and (3) our recommendations to Congress and BEP aimed
    at enhancing competition are not necessary and would not be
    beneficial.  As Crane notes, our report discusses BEP's efforts since
    the 1960s to promote competition and the varied reasons for their
    lack of success.  Also, as Crane notes, BEP cannot be faulted for
    statutory restrictions, and our report clearly recognizes this.
    Because BEP did not have procurement records for contracts prior to
    1988, we could not obtain detailed information on BEP's procurement
    practices or efforts, its assessment of Crane's prices, or the extent
    to which competition was sought prior to contract 88-205.  Thus, we
    cannot provide additional insights on Crane's views of BEP's efforts
    prior to 1988 other than what has already been discussed in our
    report.

    On the other hand, the report identifies certain BEP practices in the
    1980s and 1990s that may have inhibited competition.  These practices
    included contracts with short performance periods and start-up
    periods.  These were among the factors interested paper manufacturers
    cited as inhibitors to competition.  The report also notes that BEP
    addressed these as well as other issues in solicitation 97-13.
    Contrary to Crane's view, paper manufacturers we contacted cite the
    statutory 4-year maximum currency paper contract length and the Conte
    Amendment provisions as inhibitors to competition.  In fact, several
    of the manufacturers said that they would be interested in submitting
    offers if the contract term was extended and that they would not need
    CAP if the term was more than 4 years.

    19.  Crane said that it is not clear that any significant benefit
    would be achieved by extending the statutory 4-year limitation on
    currency paper contracts.  In chapter 2, we point out that many
    potential currency paper manufacturers disagree and said they would
    be interested in submitting offers if the contract term was extended.

    20.  According to Crane, Portals decommissioned its Georgia mill in
    1985 and sold it in 1986.  Officials from Portals and the company
    that purchased the mill told us that the mill was sold in 1988, after
    the Conte Amendment was enacted.

    21.  In replying to our statement that currency paper was easier to
    produce before security threads and watermarks were introduced, Crane
    questioned why other paper manufacturers either failed to meet the
    technical requirements or decided they could not match Crane's
    prices.  The manufacturers told us, as reported in chapter 2, that
    certain provisions in BEP's solicitations prevented them from
    competing, not the manufacturing process.  The paper manufacturers
    did not identify Crane's prices as a factor that inhibited
    competition.  Because BEP did not have procurement records for
    contracts prior to 1988, we could not determine the effect, if any,
    that the possibility of competition had on Crane's prices.

    22.  Crane said our report does not discuss how the government would
    be protected if a subsidized contractor could not meet Crane's prices
    or the government's requirements.  Crane pointed out that Portals
    abandoned its Georgia plant in the 1980s because it could not meet
    BEP's requirements and that Gilbert withdrew from the market because
    it could not meet Crane's low prices.  Our draft report proposed that
    BEP consider the feasibility of offering financial assistance and
    that any actual use of assistance be predicated on it being
    cost-effective.  Further, according to Portals officials, the company
    abandoned its Georgia plant due to passage of the Conte Amendment.

    23.  Crane pointed out that the Mint's experience shows that open
    procurements, not subsidies, are the best approach to encourage true
    competition.  Although we did not study in detail the market for
    clad-strip material, Mint officials told us that it is different from
    the market for currency paper.  For example, the officials said that
    clad material can be used for other products.

    24.  Crane said our report does not recognize the difficulties and
    disadvantages associated with establishing a second source, such as
    ensuring quality, increased research and development costs, and
    ensuring that subsidized facilities are used in subsequent
    procurements.  Crane also points out, as does our report, that in its
    1996 currency paper study, Treasury concluded it would be more
    economical to work with Crane than to develop a second source.  We
    agree that our report does not discuss all of the advantages and
    disadvantages of developing a second source; but any ultimate
    decisions on whether to establish a second source should consider
    these factors, as well as others, including the prices in contract
    97-10.  The questions that exist regarding the fairness and
    reasonableness of Crane's prices and the inhibitors that exist for
    new suppliers to enter the currency paper market suggest to us that
    additional exploration of the advantages and disadvantages of
    establishing a second source could be beneficial in the future if BEP
    does not get adequate competition otherwise and obtains more
    information on relevant issues.

    25.  Crane said that when a contractor provides full disclosure of
    its cost and prices, a government agency is not required to determine
    that prices are fair and reasonable.  FAR 15.402 requires that
    contracting officers purchase supplies and services from responsible
    sources at fair and reasonable prices.

    26.  Crane said that under the FAR, either a cost or a price analysis
    was a legitimate technique to determine a fair and reasonable price.
    This is not consistent with our understanding of the regulations.
    FAR 15.403-4 requires the contracting officer to obtain cost or
    pricing data when adequate price competition is not achieved.  FAR
    15.404-1 provides for both a cost and price analysis to be conducted
    when cost or pricing data are submitted.

    27.  Crane said that the suggestion in our report that Crane took
    advantage of BEP for the contracts covered by the arbitration
    settlement does not fairly reflect the facts because Crane settled
    for prices that were lower than Crane's proposed price estimates.  We
    do not make such a suggestion in our report.

    28.  Crane disagreed with our observation that the government paid
    for at least some of Crane's cost of developing the currency paper
    with security thread.  We modified the report to show that Crane
    proposed $2.4 million to develop the thread, which BEP accepted,
    according to BEP contract records for contract 91-18.  The extent to
    which additional costs for developing the thread may have been paid
    for by BEP was not clear in BEP's contract records.

    29.  Crane said our report was incorrect in stating that Crane does
    not periodically adjust its standard costs to reflect actual costs.
    We obtained this information from the 1994 DCAA post-award audit of
    contract 88-205, option 1, which stated that the contractor submitted
    inaccurate, incomplete, and noncurrent data for material cost.  This
    was identified by DCAA as a systemic weakness because "the contractor
    does not reconcile its standards and budgets with its actual cost
    experienced." This systemic weakness was identified by DCAA as the
    primary concern for about one-third of the $3 million overpricing on
    this option.  We modified our report to show the specific contract
    action affected by this adjustment problem.

    30.  Crane asked us to revise our description of a meeting that Crane
    and BEP had regarding contract 95-23.  We did not make the change as
    suggested by Crane because our sources for the statements were a
    memorandum in BEP's files and statements we obtained from
    representatives of Treasury and Crane who were at the meeting, and
    Crane provided no evidence that these statements were inaccurate.

    31.  Crane commented that the arbitrator applied established
    government guidelines to determine an appropriate level of profit
    consistent with prevailing standards for a capital intensive industry
    and made recommendations for settling contract pricing for the period
    1992 through 1995.  In reviewing the decision, we noted that the
    arbitrator did not cite a source for the "prevailing standards" for
    return on investment.  Crane also cited other statements by the
    arbitrator on the success of Crane's efforts to control costs.  We
    note that these statements reflect the views of the arbitrator and
    would not necessarily reflect the views of other independent parties
    who would review the same issues.

    32.  Crane raised the possibility that it may be difficult for
    multiple currency paper manufacturers to produce homogenous paper.
    BEP apparently does not share this concern as evidenced by
    solicitation 97-13, which allows offers from multiple suppliers.

    33.  Crane said our report failed to consider that savings achieved
    through competition for currency paper would be far exceeded by the
    budgetary value of currency to the Treasury.  We agree, but we do not
    believe this should be a factor in obtaining competition.

    34.  Crane said that a manufacturer's concern over providing
    distinctive currency paper threads and watermarks has been addressed
    by solicitation 97-13.  The report recognizes in chapter 2 that the
    security thread will be provided by the government.

    35.  Citing our 1997 testimony on Coin and Currency Production:
    Issues for Congressional Consideration (GAO/T-GGD-97-146), Crane said
    there were several low-impact options available to the government to
    reduce risk of interruption to the supply of currency paper,
    including stockpiling currency and reducing the destruction rate of
    soiled notes.  Crane did not recognize that we were referring to
    temporary alternatives to having a backup printing facility.  Crane
    also did not mention, in its comments, that we also reported as other
    alternatives reciprocal printing agreements with foreign countries
    and arrangements with the private sector.  We pointed out in our
    testimony that these latter two alternatives involved security
    concerns because the Secret Service has no investigative authority
    outside of the United States and that nongovernmental personnel and
    facilities would be involved if a private sector printer were used.
    We concluded that issues such as these would have to be discussed
    with Treasury before decisions on these matters were made.

    36.  Crane said that our discussion of the possible disruptions to
    currency paper supplies ignored the threat of disruption due to
    counterfeiting and that Crane's development of anticounterfeiting
    features has assisted in the deterrence of widespread counterfeiting.
    Crane also said that the willingness of citizens and foreigners to
    hold U.S.  currency provides $10 billion to $16 billion in annual
    savings to the Treasury and that even a slight decline in the usage
    of U.S.  currency resulting from doubts concerning authenticity, such
    as lack of uniformity in the manufacturing of the paper, would result
    in major financial loss to the government.  In both of these issues,
    Crane appears to be implying that only one producer of currency paper
    is capable of producing paper that has anticounterfeiting features
    and that meets government standards.  We believe that Crane is not
    the only currency paper manufacturer capable of producing
    anticounterfeiting features or currency paper acceptable to the
    public.  As pointed out in chapter 2, producers that say they have
    this capability are located in foreign countries, but the Conte
    Amendment has made it difficult for U.S.  firms to form joint
    ventures with those firms that have the technological capability.
    Also, according to a Federal Reserve official, people throughout the
    world use our currency because of our stable government, economy, and
    superpower status, in spite of the fact that our currency continues
    to be counterfeited, not because it is printed on paper produced by a
    specific producer.

    MAJOR CONTRIBUTORS TO THIS REPORT
    ======================================================== Appendix VIII

    GENERAL GOVERNMENT DIVISION,
    WASHINGTON, D.C.

    John S.  Baldwin, Sr., Assistant Director
    Tammy R.  Conquest, Assistant Director
    Geraldine C.  Beard, Senior Evaluator
    William R.  Chatlos, Senior Social Science Analyst
    Stuart Kaufman, Senior Social Science Analyst

    DALLAS FIELD OFFICE

    Seth D.  Taylor, Senior Evaluator

    OFFICE OF GENERAL COUNSEL,
    WASHINGTON, D.C.

    John G.  Brosnan, Assistant General Counsel
    Susan Michal-Smith, Senior Attorney

    *** End of document. ***