Military Base Closures: Lack of Data Inhibits Cost-Effectiveness of
Analyses of Privatization-in Place Initiatives (Letter Report,
12/20/1999, GAO/NSIAD-00-23).

Pursuant to a congressional request concerning the privatization in
place of select Department of Defense industrial facilities, GAO focused
on: (1) determining how contractors are responding to decreasing
workloads at these privatized facilities; (2) comparing the
cost-effectiveness of the privatization-in-place operations to the
former government-run operations; and (3) identifying the impact of
privatization on excess capacity in the Department's industrial
infrastructure.

GAO noted that: (1) in general, the contractors at the privatization
sites are facing decreasing defense workloads and have either initiated
or planned efforts to reduce operating costs and improve efficiencies;
(2) contractors at these facilities have experienced difficulties in
attracting new customers and are uncertain about future workload levels;
(3) contractors at the Navy privatization sites in Kentucky and Indiana
are optimistic about efforts under way to increase workloads; (4) due
primarily to data limitations, GAO was able to compare the
cost-effectiveness of privatization in place with the former
government-run operation for only one of the three facilities in
question; (5) GAO analysis of a recent Air Force cost comparison study
indicates that costs to the government for fiscal year 1997 for work
performed at the privatized facility in Newark, Ohio, were about 16
percent higher than the estimated cost had the Air Force continued to
operate the facility; (6) similar cost comparison studies of the Navy
privatizations have not been done and were not possible to construct due
to (a) the absence of sufficient, detailed historical baseline cost data
for the closed Navy facilities, and (b) changes to workload volume and
mix; (7) contractors at each of the privatized sites have initiated
business improvements that appear to be increasing operating
efficiencies and reducing costs to the government; (8) in general,
privatization in place has not optimized reductions in excess capacity
and operating costs in the infrastructure owned and operated by the
Department of Defense-a major base realignment and closure objective;
(9) privatization in place allows work to remain at the original sites
but be performed by the private sector; (10) while the Department no
longer owns the infrastructure, it continues to support it through
payments for contract work performed at these facilities; (11)
indirectly, the Department continues to pay for excess capacity, and as
a result, the goal of eliminating excess capacity may be realized more
in form than in substance; (12) the cost reductions anticipated under
the base closure process may not be fully realized; (13) at the same
time, privatization-in-place actions can produce some reduction in
excess capacity and operating costs, where privatized facilities are
also used to consolidate defense related work from other contractor
facilities; and (14) in such instances, contractors' efforts to improve
business practices and reduce their own defense business infrastructure
may create efficiencies in overall public-private defense
infrastructure.

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

 REPORTNUM:  NSIAD-00-23
     TITLE:  Military Base Closures: Lack of Data Inhibits
	     Cost-Effectiveness of Analyses of Privatization-in Place
	     Initiatives
      DATE:  12/20/1999
   SUBJECT:  Military bases
	     Naval facilities
	     Air Force facilities
	     Base closures
	     Military cost control
	     Privatization
	     Government contracts
	     Contractors
	     Base realignments
IDENTIFIER:  Rolling Airframe Missile
	     Phalanx Weapon System

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Report to the Chairman, Subcommittee on Military Readiness, Committee on
Armed Services, House of Representatives

December 1999

MILITARY BASE CLOSURES

Lack of Data Inhibits Cost-Effectiveness Analyses of Privatization-in-
Place Initiatives
*****************

*****************

GAO/NSIAD-00-23

Letter                                                                     3

Appendixes

Appendix I:Privatization-in-Place Initiatives

                                                                         24

Appendix II:Comments From the Department of Defense

                                                                         32

Appendix III:GAO Contacts and Staff Acknowledgments

                                                                         36

Related GAO Products

                                                                         37

Table 1:  Initial Cost Comparison Between Projected Government and Actual
Privatization Operations at Newark, Ohio (July 1997)11

Table 2:  Updated Cost Comparison Between Projected Government and Actual
Privatization Operations at Newark, Ohio (November 1998)12

BRAC    base realignment and closure

DOD     Department of Defense

 We did not verify the accuracy of the Air Force historical cost data used
for the study. Our prior work has identified unreliable cost data as one
of several key weaknesses in DOD's financial management systems. These
long-standing weaknesses led us to designate DOD financial management as a
high-risk area vulnerable to waste, fraud, abuse, and mismanagement. DOD
has started to devote additional resources to correct these problems. Our
recent work includes Department of Defense: Status of Financial Management
Weaknesses and Actions Needed to Correct Continuing Challenges
(GAO/T-AIMD/NSIAD-99-171, May 4, 1999), High-Risk Series: An Update
(GAO/HR-99-1, 
                                                      National Security and
                                             International Affairs Division

B-283515

December 20, 1999

The Honorable Herbert H. Bateman
Chairman, Subcommittee on Military Readiness
Committee on Armed Services
House of Representatives

Dear Mr. Chairman:

This report responds to your request concerning the privatization-in-place
of select Department of Defense industrial facilities that were closed as
a result of base realignment and closure decisions made in 1993 and 1995.
Privatization-in-place is a concept in which a private sector entity takes
over the operations of a facility that was once operated by the
government. To date, privatization-in-place has been associated with the
base closure process and used by the Department for transferring
industrial work to the private sector. With legislative constraints
affecting the Department's ability to close military facilities,
privatization-in-place is not likely to be used outside the base
realignment and closure process./Footnote1/ 

The privatization of the former government-run operations at the Air Force
Aerospace Guidance and Metrology Center in Newark, Ohio; the Naval Surface
Warfare Center in Louisville, Kentucky; and the Naval Air Warfare Center
in Indianapolis, Indiana, have been the only privatization-in-place
actions resulting from the base closure process. These facilities
primarily provide industrial support services for the Department. The
Newark, Ohio, facility--operated by Boeing North American, Inc., and Wyle
Laboratories, Inc.--performs maintenance on guidance systems for Air Force
aircraft and intercontinental ballistic missiles and provides metrology
and calibration services. The Louisville facility--operated by Raytheon
Systems Company and United Defense Limited Partnership--provides
maintenance and other services for Navy shipboard air defense systems and
guns. The Indianapolis facility--operated by Raytheon--designs and
develops advanced electronics and other products for aviation, space, and
other defense applications./Footnote2/ Appendix I provides additional
background information on these privatization-in-place initiatives.

Our overall focus was to assess the status, cost, and effectiveness of the
Department's three privatization-in-place actions. Specifically, our
objectives were to (1) determine how contractors are responding to
decreasing workloads at these privatized facilities, (2) compare the 
cost-effectiveness of the privatization-in-place operations to the former
government-run operations, and (3) identify the impact of privatization on
excess capacity in the Department's industrial infrastructure.

Results in Brief

In general, the contractors at the privatization sites are facing
decreasing defense workloads and have either initiated or planned efforts,
such as bringing in new work and reengineering business processes, to
reduce operating costs and improve efficiencies. Contractors at these
facilities have experienced difficulties in attracting new customers and
are uncertain about future workload levels. Contractors at the Navy
privatization sites in Kentucky and Indiana are optimistic about efforts
under way to increase workloads. 

Due primarily to data limitations, we were able to compare the 
cost-effectiveness of privatization-in-place with the former government-
run operation for only one of the three facilities in question. Our
analysis of a recent Air Force cost comparison study indicates that costs
to the government for fiscal year 1997 for work performed at the
privatized facility in Newark, Ohio, were about 16 percent higher than the
estimated cost had the Air Force continued to operate the facility.
Similar cost comparison studies of the Navy privatizations have not been
done and were not possible to construct due to (1) the absence of
sufficient, detailed historical baseline cost data for the closed Navy
facilities and (2) changes to workload volume and mix. However,
contractors at each of the privatized sites have initiated business
improvements that appear to be increasing operating efficiencies and
reducing costs to the government. The military customers were generally
pleased with the timeliness and quality of the products produced by the
privatized facilities.

As a general rule, privatization-in-place has not optimized reductions in
excess capacity and operating costs in the infrastructure owned and
operated by the Department of Defense--a major base realignment and
closure objective. Rather than closing facilities and transferring defense
work to other underutilized defense facilities in the public or private
sector to reduce excess capacity, privatization-in-place allows work to
remain at the original sites to be performed by the private sector. While
the Department no longer owns the infrastructure, it continues to support
it through payments for contract work performed at these facilities.
Indirectly, the Department continues to pay for excess capacity, and as a
result, the goal of eliminating excess capacity may be realized more in
form than in substance. Consequently, the cost reductions anticipated
under the base closure process may not be fully realized. At the same
time, privatization-in-place actions can produce some reduction in excess
capacity and operating costs, where privatized facilities are also used to
consolidate defense related work from other contractor facilities, such as
at the former Naval Surface Warfare Center in Louisville. In such
instances, contractors' efforts to improve business practices and reduce
their own defense business infrastructure may create efficiencies in
overall 
public-private defense infrastructure.

Should the Department of Defense consider privatization-in-place in the
future, we are recommending that the Secretary of Defense require the
services to (1) consider the overall cost-effectiveness of this approach
in reducing operating costs and excess capacity in the combined public and
private sectors supported by the defense budget; (2) retain an adequate
baseline of historical government costs, preferably on a per-unit basis,
to assess the cost-effectiveness of privatization-in-place; and (3)
periodically reassess the cost-effectiveness of prior privatization-in-
place initiatives, in light of excess capacity in other private sector and
DOD facilities and continuing declines in military workloads.

Background

Three facilities have been privatized-in-place as a result of the 1993 and
1995 base realignment and closure (BRAC) processes--an Air Force facility
in Newark, Ohio, and Navy facilities in Louisville, Kentucky, and
Indianapolis, Indiana. The facility at Newark is owned by an Ohio-
chartered local redevelopment authority, which was formed to accept the
transfer of the property from the Air Force./Footnote3/ The Louisville and
Indianapolis facilities are still owned by the government, which
established leases between the Navy and selected local redevelopment
authorities for facility use. At both privatization sites, the Navy plans
to eventually transfer the property to the local redevelopment authorities.

Recommending closure of the military facilities, the BRAC commissions
provided the Department of Defense (DOD) with the flexibility to move work
to other DOD facilities or to the private sector./Footnote4/ Closure
actions at two Air Force facilities as a result of the 1995 BRAC process
(the Air Logistics Centers at Kelly Air Force Base, San Antonio, Texas,
and McClellan Air Force Base, Sacramento, California) at one point focused
on privatizing work in place. However, the Air Force subsequently shifted
to an emphasis on public-private competition to determine where the work
would best be done./Footnote5/ Nevertheless, efforts to privatize-in-place
the work at these latter facilities have stimulated significant debate
over the benefits of such privatization initiatives and have figured
prominently in subsequent congressional debates over whether to authorize
additional BRAC rounds. Consequently, the three privatization-in-place
initiatives have created much interest in the costs and benefits of these
privatized operations compared with prior government operations.

Prior studies have questioned the privatization-in-place concept. An
August 1996 Defense Science Board study team concluded that 
privatization-in-place should be avoided, since it tends to preserve
excess capacity. In 1996, a privatization task force comprised of
executives from the aerospace industry that was formed by the governor of
California concluded that privatization-in-place

"inhibits the realization of cost savings intended from base closures and
the performance goal improvements that privatization is intended to
achieve. Privatization-In-Place, therefore, does nothing to solve the
excess capacity problem within either the public or private sector of the
industrial base."/Footnote6/

Our prior report on the Air Force privatization of the Newark aerospace
facility showed that as of July 1997, and based on several months of
contractor operations, the Air Force estimated that contractor costs were
about 17 percent higher than historical costs for similar work at the
former government facility./Footnote7/ The Air Force attributed this
increase primarily to increased material costs, contract oversight and
administration costs, and estimated contractor award fees. Neither DOD nor
we have previously performed similar cost comparisons for the Navy
privatizations. However, our July 1997 report on the Louisville
privatization questioned the Navy's workload relocation analysis and
concluded that privatization-in-place was not likely to be as cost-
effective as relocating the work to other DOD facilities./Footnote8/ 

Privatization Contractors' Efforts to Combat Decreasing Workloads

Defense workloads at the privatized facilities are less than those before
privatization. However, workloads at the former Air Force facility in
Newark, Ohio, have remained relatively stable during the 3 years of
privatized operations. Even so, in the near future, the aircraft and
missile repair contractor is expecting workload decreases as military
system requirements decline. Workloads at the former Navy facilities in
Louisville, Kentucky, and Indianapolis, Indiana, have decreased more
significantly. As a result, the contractors at these locations are
reducing their infrastructure and reengineering business processes to
contain costs. Moreover, the Navy contractors have moved other defense
work into the privatized facilities to supplement the existing workload
and consolidate certain operations. 

Workload at Air Force Privatization-in-Place Site
-------------------------------------------------

Less maintenance work is performed at the privatized facility at Newark
than had been performed under the Air Force's operation. However, during
the years of privatized operations the overall workload has remained
relatively stable. Aircraft repairs performed by the primary contractor,
Boeing North American, Inc., have decreased somewhat, while missile
repairs have stayed about the same. The facility's other contractor, Wyle
Laboratories, has experienced a small workload increase. However, both
contractors expressed uncertainty about their future workload projections,
with Boeing officials expecting sizable workload decreases. For example,
aircraft repair requirements are expected to decrease by about 6 percent
in 2000, with further decreases expected through year 2014. Boeing
officials attribute these expected decreases to normal system retirements
and attrition, increasing reliability of newer and future weapon systems,
and greater reliance on the original equipment manufacturers for logistics
support. 

The outlook for combating these anticipated workload reductions is not
very optimistic because of difficulties in attracting new work. Although
Boeing has been actively pursuing the acquisition of work from other 
in-house operations, manufacturing partners, other DOD programs, and
commercial sources to offset its declining Air Force workload, its efforts
have been largely unsuccessful to date. Wyle Laboratories has been
encountering similar problems in acquiring additional work. It now
performs very little commercial work and has few prospects for any major
new business. 

Workload at Navy Privatization-in-Place Sites
---------------------------------------------

Since privatization-in-place was implemented at the Navy facilities in
Louisville and Indianapolis, the defense workload has declined, primarily
due to reduced Navy operational requirements and lower weapon systems
maintenance budgets. In some cases, the workload reduction has been
significant. According to contractor officials, work now performed by
United Defense Limited Partnership in Louisville has declined almost 
80 percent, from 1.3 million direct labor hours in 1994 to about 
277,000 hours in 1998. Moreover, Raytheon's maintenance workload in
Louisville has declined about 50 percent, and its workload in Indianapolis
has decreased about 30 percent since privatization.

In response to declining workloads, the Navy's privatization contractors
have instituted several business improvements to contain costs. In
Louisville, for example, United Defense reduced the former Navy workforce
by over two-thirds and its facility infrastructure by about 
40 percent. This was accomplished primarily through organizational
restructuring initiatives and work process efficiencies. Raytheon in
Indianapolis has similarly reduced its workforce by 330 employees, or 
17 percent, mostly in response to declining workloads. By reengineering
its workstations and improving inventory storage, Raytheon has also
modernized its facility in Louisville to provide for a more cost-effective
maintenance work flow and to accommodate new production work. 

In addition to infrastructure reductions and improved business practices,
the contractors at the former Navy facilities have brought in additional
defense business work from their other facilities to supplement the
declining workload. For example, Raytheon in Louisville has transferred
its Phalanx and Rolling Airframe Missile launcher production work from its
Tucson, Arizona, facility. Moreover, United Defense is moving some naval
gun production work from a Navy-owned plant in Fridley, Minnesota, to
Louisville. As a result, Navy and United Defense officials believe that
the workload will stabilize at its current level over the next 2 years, if
the Congress provides additional funds for gun repair work at Louisville
beyond DOD's budget requests as it has for the last 2 years. While United
Defense continues to use the Fridley facility, officials told us they plan
to downsize it further. They said that by the end of the year 2000 the
Fridley workforce will be reduced by 285 employees, or 17 percent, and its
facility infrastructure by about 1 million square feet, or 50 percent.

Raytheon has also been able to consolidate work from its plant in Long
Beach, California, with that in Indianapolis, thereby reducing the
company's internal infrastructure. Raytheon officials told us that it had
transferred its entire Long Beach facility depot-level repairs and spares
manufacturing to Indianapolis. This restructuring initiative equated to
consolidating about 120,000 square feet from its Long Beach facility to
Indianapolis. Raytheon has also brought additional work to Indianapolis
from foreign government sales.

Cost-Effectiveness of Privatization-in-Place Is Difficult to Determine

Although military customers were generally pleased with the quality and
timeliness of products produced by the privatized activities, data
limitations precluded us from determining for two of the facilities in
question whether privatization-in-place offers a more cost-effective
approach for DOD to accomplish its workloads than the former

government-run operations./Footnote9/ A recent Air Force study on the
Newark, Ohio, facility indicated that privatized operations were costing
more than former Air Force operations, but no similar cost studies have
been performed for the Navy privatizations at Louisville and Indianapolis.
Moreover, we were unable to independently conduct such cost comparisons
primarily because of (1) the absence of sufficient historical baseline
data for operations at the former government-run facilities and (2) Navy-
directed revisions in maintenance practices for certain key weapon systems
and changes in workload mix. While the two Navy privatization contractors
have initiated business improvements that appear to be improving operating
efficiencies and reducing costs, the cost-effectiveness relative to the
former government operations is unknown.

Air Force Studies Show Privatization Costs at Newark Exceed Costs of
Former Government Operations 
---------------------------------------------------------------------------

In our prior work in January 1997, we asked the Air Force to compare the
costs of missile repair at Newark, Ohio, under privatization to the
facility's costs to perform this same work under government control, based
on about 3 months of contractor data. The Air Force also initiated similar
cost analyses of its two other workload components--aircraft repair and
metrology operations. Estimated privatization-in-place costs for fiscal
year 1997 (the first full year of privatization) were projected based on
limited actual work data for the contractors' operations and included some
other privatization costs attributable to the government (e.g., costs for
contract administration and oversight). Estimated government costs were
based on actual production data from fiscal year 1995, escalated for
inflation and adjusted for fiscal year 1997 requirements. These costs also
included comparability adjustments for such items as estimated base
operating support costs (cost comparability adjustments represent factors
that need to be added to the government's actual production costs in order
to obtain a total government cost for the operation). The Air Force study,
released in July 1997, estimated that the fiscal year 1997 work performed
at the privatized facility would likely cost the government about $14.1
million, or about 17 percent more than if the facility had continued to
operate as a government activity. Contract award fees, government costs
for contract administration and oversight, and higher material costs were
the primary causes for the cost differential. Table 1 shows the results of
this study.

Table****Helvetica:x11****1:    Initial Cost Comparison Between Projected
                                Government and Actual Privatization
                                Operations at Newark, Ohio (July 1997)

--------------------------------------------------------------------------
| Dollars in     :             :             :            :              |
| millions       :             :             :            :              |
|------------------------------------------------------------------------|
| Work category  :  Government : Privatizati : Difference :  Percentage  |
|                :             :          on :            :      change  |
|------------------------------------------------------------------------|
| Aircraft       :       $34.4 :       $42.4 :       $8.0 :         +23  |
|------------------------------------------------------------------------|
| Missile        :        41.2 :        45.5 :        4.3 :         +11  |
|------------------------------------------------------------------------|
| Metrology      :         8.7 :        10.5 :        1.8 :         +21  |
|------------------------------------------------------------------------|
| Total          :       $84.2 :       $98.3 :      $14.1 :         +17  |
--------------------------------------------------------------------------

Note: Numbers may not add due to rounding.

Source: Air Force cost comparison study dated July 1997.

In our December 1997 report,/Footnote10/ we concluded that the Air Force's
cost study methodology was analytically sound, appeared reasonable, used
the best available data, and was consistent with DOD guidance on 
public-private depot competitions./Footnote11/ While we reported that the
study provided a reasonable interim cost estimate at that time, we also
reported that it was premature to reach a final conclusion on costs until
a full year of actual data was available. 

Subsequently, the Air Force conducted follow-on workload cost analyses
based on reported fiscal year 1997 costs and production results. In its
November 1998 study, the Air Force concluded that the privatization costs
were again greater than the projected government costs to perform the same
work. Privatized costs were $16.8 million, or about 21 percent higher than
historical Air Force costs. Table 2 shows the results of this updated
study. Our review of this cost analysis identified some overstated
contract costs for leasing and capital improvement projects and the
omission of estimated government revenue received from corporate federal
income tax payments. We subsequently made adjustments to the analysis that
resulted in decreasing the cost differential to about 16 percent in favor
of the former government operation.

Table****Helvetica:x11****2:    Updated Cost Comparison Between Projected
                                Government and Actual Privatization
                                Operations at Newark, Ohio (November 1998)

--------------------------------------------------------------------------
| Dollars in     :             :             :            :              |
| millions       :             :             :            :              |
|------------------------------------------------------------------------|
| Work category  :  Government : Privatizati : Difference :  Percentage  |
|                :             :          on :            :      change  |
|------------------------------------------------------------------------|
| Aircraft       :       $37.5 :       $45.2 :       $7.7 :         +21  |
|------------------------------------------------------------------------|
| Missile        :        33.9 :        41.0 :        7.2 :         +21  |
|------------------------------------------------------------------------|
| Metrology      :         8.8 :        10.7 :        1.9 :         +21  |
|------------------------------------------------------------------------|
| Total          :       $80.2 :       $97.0 :      $16.8 :         +21  |
--------------------------------------------------------------------------

Note: Numbers may not add due to rounding.

Source: Air Force cost comparison study dated November 1998.

The updated study followed the same general approach and methodology used
in the interim study. Contractor costs represented a full year of
privatization operations and, as previously described, included other
associated privatization costs. The government cost estimates were largely
based on fiscal year 1995 data that were adjusted for inflation and
applied to actual repair quantities accomplished by the contractors during
fiscal year 1997. After resolving some concerns raised by Boeing, the Air
Force added some additional cost to the government estimate for
comparability reporting purposes. This had the effect of reducing the cost
differential from about 24 percent to 21 percent. These additional costs
were attributable to detailing each workload's allocated share of
accounting, information services, and dispensary costs. We agree with
these comparability adjustments.

As noted previously, the Air Force's interim study initially identified
three factors contributing to the increased costs of privatization at
Newark, namely (1) contract award fees, (2) government costs for contract
administration and oversight, and (3) material costs. Although the first
two causes--award fees and contract monitoring--are continuing
contributors to increased privatization costs at Newark, the material cost
issue has since been resolved. As a result of a 1998 Air Force Audit
Agency study recommendation to improve visibility over materials and to
control contractor access to material in the DOD supply system at Newark,
the contractors and DOD have performed a detailed inventory of material 
on-hand and instituted new record keeping procedures and controls. As a
result, neither the Air Force nor the Defense Contract Management Command
view the material cost issue as an ongoing factor in terms of increased
privatization costs. The November 1998 updated cost study assumed that
material costs were the same for both the contractor and the government.

While the Air Force cost studies indicate operations are more costly at
the privatized facility, the contractors have been incorporating business
improvements to obtain cost efficiencies in order to reduce their
operating costs. For example, in October 1997--after the data had been
collected for the updated Air Force study--Boeing reduced its staffing by
77 to better size the workforce for the workload, thereby reducing costs.
Moreover, Boeing has introduced new work flow and work processes intended
to reduce turnaround times and costs for some work. A Wyle official cited
reduced turnaround times for repairs and the elimination of repair
backlogs. The Air Force, however, does not plan to revise its cost
comparison for future years beyond fiscal year 1997 because of concerns
about the usefulness of the historical baseline costs as the data get older.

Air Force customers and Defense Contract Management Command officials were
satisfied with the timeliness and quality of the work performed by both
Boeing and Wyle to date. Although citing some initial start-up problems
experienced with Wyle Laboratories, they said that both contractors now
exhibit positive performance measurements in such areas as scheduling,
repair process improvements, and quality assurance. For example, ongoing
Boeing program management reviews report missile and aircraft repairs
meeting or falling below target pricing expectations, with related repair
performance results meeting or exceeding most workload goals. According to
Air Force managers, they would prefer not to relocate the current workload
to any other facility, government or private sector, given the present
quality of work and the expertise developed over the years in Newark.

Similar Comparative Cost Analyses of Navy's Privatizations at Louisville
and Indianapolis Cannot Be Made
---------------------------------------------------------------------------

The Navy has not performed any similar cost analyses on the
privatization-in-place sites at Louisville and Indianapolis. Moreover, the
absence of sufficient historical data for former Navy operations at these
sites precluded us from performing cost comparisons similar to that of the
Air Force's study at Newark. Thus, the cost-effectiveness of these
particular initiatives, in relation to former government operations, is
unknown. However, contractors at these privatization facilities have taken
steps to improve cost efficiency and program results. While the Navy has
not performed cost analyses similar to the Air Force study of Newark, it
continuously monitors the costs for work performed at Louisville and
Indianapolis as part of its ongoing contract oversight and administration.

Our discussions with Navy officials showed that detailed operational and
financial data, such as per unit costs, needed for an equitable cost
comparison were not available. Some macro-level data, including total work
years expended and reported overall costs, were available at 
higher-level headquarters units (such as the Naval Air Systems Command at
Patuxent River, Maryland, for the Indianapolis site), but were not useful
for the overall purpose of comparing costs. Moreover, Navy-directed
revisions to maintenance practices on select weapon systems and changes to
product mix occurred after the privatizations were under way, thereby
precluding equitable cost comparisons even if detailed historical data
were available. For example, Raytheon has modified its maintenance
practices for overhauling Phalanx systems at Louisville by making only
necessary repairs, referred to as condition-based maintenance, rather than
performing complete overhauls. This change in practice has reportedly
resulted in fewer component replacements, reduced labor hours, and reduced
costs for each unit overhauled. United Defense in Louisville has made
similar changes to its overhaul process for the Navy's 5-inch 
MK-45 gun.

Although the overall cost-effectiveness of the Navy privatizations could
not be determined, there are indications of at least potential short-term
cost savings to the government resulting from contract provisions
restricting labor rate charges and the contractors' efforts to improve
business practices. In Indianapolis, for example, a city-imposed covenant
placed on Raytheon at the time of contract negotiations requires it to
offer labor rates for most Navy work that are 15 percent lower than Navy-
operated facility rates over the 5-year contract period. However, after
that time, the rates will not be restricted and will be renegotiated, thus
raising uncertainty about future rates. A Defense Contract Management
Command analysis confirmed that Raytheon was performing work under the
primary Navy contract in 1997 at labor hour rates that were, on the
average, 15 percent less than the prevailing Navy rates at the time. 

Facing decreasing workloads and increased costs, United Defense in
Louisville reduced its workforce and facility space by returning unneeded
buildings to the local base redevelopment authority and reengineering
maintenance processes. United Defense officials now believe their labor
hour rates are comparable to rates used by the Navy when it operated the
facility; however, without a baseline of historical government costs, we
could not independently validate this assertion. Raytheon in Louisville
has reengineered its facility layout and manufacturing and maintenance
practices to improve cost efficiencies, and Navy contractors at Louisville
and Indianapolis have consolidated some workload operations at the
privatized facilities by bringing in work from their other facilities to
reduce overall contractor infrastructure and costs. For example, United
Defense has relocated assembly work from its Fridley, Minnesota, site to
Louisville, thereby reducing space requirements at Fridley by over 50
percent and reducing hourly labor rates by as much as $14. However, we did
not assess the impact of the transfers on the cost of the work remaining
at Fridley. Raytheon in Louisville has brought in production work for the
Phalanx and Rolling Airframe Missile launcher from its plant in Tucson,
Arizona, thereby allowing it to close its Lewisville, Texas, facility.
Raytheon has also transferred its Long Beach facility depot-level repairs
and spares manufacturing to Indianapolis. This restructuring contributed,
along with other transfers, to closing Raytheon's Long Beach facility.

Navy customers of the Louisville and Indianapolis privatizations-in-place
told us they were satisfied with the timeliness, quality, and cost of the
work performed to date. Customers said, for example, that United Defense
and Raytheon in Louisville have either maintained or improved quality and
timeliness since privatization through changes made to the older Navy work
processes and better customer service. They also said that work performed
by Raytheon at Indianapolis was as good as that provided by the Navy
before privatization. None of the customers we spoke with planned to
transfer work to other locations. In Louisville, for example, Navy
officials told us they would prefer not to relocate the current workload
to any other facility, government or private sector, given the quality of
work and the expertise developed over the years. In fact, the Navy gun
work customers of United Defense see no reasonable alternative for
overhauling their naval guns outside the Louisville facility. As such,
they plan to continue sending work to Louisville in the future, as do the
Raytheon customers.

Privatization-in-Place Does Not Optimize Excess Capacity Reductions in
DOD's Own Infrastructure

Privatization-in-place has not optimized reductions in excess capacity in
DOD's own infrastructure, but it can allow for some cost savings in the
overall public-private defense infrastructure supported by the defense
budget. Reducing DOD's infrastructure was a major BRAC objective, but
information provided by DOD, as well as our prior reports, shows that
excess capacity still exists in the industrial infrastructure, despite
four rounds of BRAC. Rather than closing facilities and transferring
defense work to other underutilized DOD facilities to reduce excess
capacity, privatization-in-place causes workload to remain at those sites.
As a result, DOD continues to support the costs associated with
maintaining that facility infrastructure through the rates charged by the
contractors for the workload performed. If, instead of privatization,
these facility workloads had been relocated to other underutilized DOD
facilities, DOD's excess capacity and infrastructure costs would have been
more optimally reduced. In effect, by increasing the workload and
utilizing capacity at underutilized government facilities, facility
overhead costs can be spread over a larger workload base and, as a result,
overall costs for repairs on specific units could be reduced and customer
prices lowered. 

Although privatization-in-place has not addressed DOD's excess capacity
problem, contractors at the privatized facilities we visited told us they
have either reduced or are trying to reduce their costs, as noted
previously, through improved operating efficiencies and reductions in
their corporate infrastructure. However, to the extent that DOD maintains
underutilized facilities in its industrial infrastructure, it is difficult
to assess whether privatization-in-place offers a cost-effective
alternative to relocating workload to other underutilized DOD locations.
Privatization-in-place would only be a more cost-effective alternative if
the contractors can achieve savings that are significant enough to offset
the savings lost by not relocating workloads to DOD's underutilized
facilities.

Conclusions

Latest estimates of costs at one privatized facility were about 16 percent
higher than costs of the same activities when operated as an Air Force
facility. However, without an adequate historical baseline and accounting
of government operating costs, the Department of Defense lacks the means
to compare current costs of operations with the former government-run
operations. Faced with decreasing workloads, it will be increasingly
difficult to hold down costs of workloads performed at the Department's
three privatized facilities. Contractors performing work at these
facilities are taking steps to reduce costs and improve efficiencies. The
Department needs to examine these initiatives in the context of the entire
defense industrial infrastructure rather than in isolation as
individualized operations. As a general rule, privatization-in-place does
not optimize reductions in excess capacity in government-owned facilities,
and it reduces the potential to achieve greater economies in overhead
costs. The Department's efforts to eliminate facilities it owns by
transferring them to the private sector does not appear to be cost-
effective at one facility, but insufficient data were available to fully
assess the cost-effectiveness of the other two locations relative to
former government operations. Moreover, since the Department is continuing
to pay for the use of these facilities through contractual arrangements,
they have not optimized reductions in excess capacity but rather have
shifted it to the private sector. Thus, through privatization-in-place
actions, the goal of eliminating excess capacity may be realized more in
form than in substance.

Recommendations

Should DOD consider privatization-in-place in the future, we recommend
that the Secretary of Defense require the services to (1) consider the
overall cost-effectiveness of this approach in reducing operating costs
and excess capacity in the combined public and private sectors supported
by the defense budget; (2) retain an adequate baseline of historical
government costs, preferably on a per-unit basis, to assess the 
cost-effectiveness of privatization-in-place; and (3) periodically
reassess the cost-effectiveness of prior privatization-in-place
initiatives, in light of excess capacity in other private sector and DOD
facilities and continuing declines in military workloads. 

Agency Comments and Our Evaluation

DOD provided written comments on a draft of this report. These comments
are included in their entirety in appendix II. DOD disagreed with our
recommendations, stating that they were unreasonable to implement. In
light of DOD's comments, we made changes to the report to clarify our
position and have revised our recommendations to reflect these changes. We
continue to believe that our recommended actions can be accomplished and
that they are essential to assessing the cost-effectiveness of
privatization-in-place. 

DOD disagreed with our recommendation regarding the assessment of the cost
impact of future privatization-in-place actions on DOD and 
private-sector defense-supported infrastructure, stating that it would be
unreasonable to estimate operating cost reductions for both the public and
private sectors. DOD also stated that such an assessment would be
sensitive to many factors outside the control of DOD. While we agree that
such an assessment would be difficult to complete, especially for the
private sector portion, some assessment needs to be made, even if it
includes rough order of magnitude estimates, for DOD to be in a position
to assess the cost-effectiveness of any such proposal. Such an assessment
should, for example, consider the effects of consolidating complimentary
workloads at potential privatized locations from other facilities (and
thereby reducing or eliminating infrastructure associated with those
facilities), either in DOD or in the private sector, to achieve the best
possible efficiencies. We continue to believe that such an assessment,
completed prior to implementing privatization-in-place, is essential if
DOD is to assure itself that privatization-in-place is a cost-effective
option to take to reduce DOD infrastructure and costs.

DOD also disagreed with our recommendation regarding the retention of
historical baseline government cost data for subsequent use in analyzing
the cost-effectiveness of privatization-in-place actions. In disagreeing,
DOD stated that it was unreasonable to retain such historical cost data
because it would necessitate a change in accounting procedures at most DOD
activities and place an unnecessary burden on these activities. While we
agree that some financial reporting changes may be necessary and
additional record keeping may be required, we do not believe
implementation of this recommendation need be unnecessarily burdensome or
unreasonable given the Air Force's ability to collect such cost data for
its cost analyses of the Newark facility. 

We further believe it is important to develop and retain such a
performance baseline of costs, to the extent practical, to be able to
conduct future cost comparison analyses, as well as effectively manage
costs of current operations. In fact, such accumulation of historical cost
information is already required by financial accounting standards.
Specifically, Statement of Federal Financial Accounting Standards No. 4
requires agencies to accumulate and report the costs of its activities on
a regular basis for management information purposes. The standard also
states that measuring cost is an integral part of measuring performance in
terms of improving efficiency and cost-effectiveness. Without an adequate
baseline of historical operating costs, DOD is not in a position to judge
the 
cost-effectiveness of any potential privatization-in-place actions,
including anticipated infrastructure efficiencies achieved by these
actions. Therefore, any changes in accounting procedures necessary to
improve DOD's ability to identify costs associated with work performed at
its individual activities should be considered.

Finally, we have added a recommendation to provide for a reassessment of
prior privatization-in-place actions, in light of declining workloads in
those facilities and continued excess capacity in both the public and
private sectors.

In addition to comments regarding our recommendations, DOD provided
technical comments regarding specific findings presented in our draft
report. Our evaluation of these comments is provided below. 

DOD disagreed with our statement that privatization-in-place does not
reduce excess capacity. We have modified our report and recommendations to
better reflect our view of the impact of 
privatization-in-place on the total defense industrial infrastructure,
including that in both the public and private sector. We believe that
privatization-in-place may reduce excess capacity in DOD's infrastructure
to a certain extent. However, we continue to believe that it does not
maximize potential efficiencies that could be gained because the workload
remains at the privatized facility instead of being transferred to other
DOD facilities to further reduce excess capacity. Furthermore, the
privatization sites may subsequently acquire additional workloads that
could have gone to other underutilized DOD facilities, thus missing an
opportunity to further reduce excess capacity. At the same time, some
efficiencies may be gained when privatization-in-place options are used to
consolidate work from other contractor-operated locations.

DOD stated that privatization-in-place is a BRAC implementation issue, not
a BRAC selection issue. We agree that privatization-in-place is a matter
of implementation and that initial base closure decisions are made on the
basis of excess infrastructure and military value considerations. However,
costs to close and return on investment are also factors considered by DOD
in its BRAC decision making. An expected outcome of closure decisions is
reduced infrastructure operating costs. Before implementing any potential
future privatizations-in-place, we continue to believe it would be prudent
for DOD to assure that this option is cost-effective and consistent with
the overall base closure concept of reducing costly excess infrastructure
capacity.

Scope and Methodology

To determine how contractors are responding to decreased workloads at the
former DOD facilities in Newark, Ohio; Indianapolis, Indiana; and
Louisville, Kentucky, we reviewed documents and interviewed officials from
both the government and private sectors. Our DOD contacts included those
organizations responsible for overseeing the privatization initiatives and
program managers who programmed defense workloads for the facilities.
Through those contacts, we sought to gain a sense of the progress being
made by the privatization contractors and their satisfaction level with
the cost, timeliness, and quality of the work being performed. We also
visited the privatization-in-place sites, toured the facilities, and
discussed operational status and future plans with cognizant contractor
officials. We contacted city and local redevelopment authority officials
at the various privatization locations to obtain their perspective on the
privatized operations.

To examine the cost-effectiveness of the privatization-in-place actions
and their impact on DOD's industrial infrastructure, we reviewed prior
work on the Louisville, Kentucky, and Newark, Ohio, operations as well as
available DOD workload relocation analyses related to the closures of the
military facilities at the three locations. We did not examine the cost-
effectiveness of the privatizations as compared to the option of closing
the facilities and transferring the workloads to other locations, as
envisioned under one BRAC option. Further, we did not examine other issues
associated with privatization-in-place such as preservation of jobs in the
local communities and retention of technological skills needed to provide
services, such as depot maintenance, to DOD. Rather, we limited our review
to comparisons between costs of the privatizations-in-place and those of
the former government-run operations. In that regard, we reviewed July
1997 and November 1998 Air Force cost analyses that compared privatized
operational costs with those of former Air Force operations at Newark,
Ohio. The latter study was an update to the July 1997 study that we had
reviewed in our prior report of the Air Force privatization
initiative./Footnote12/ In analyzing the most recent cost study, we
compared study results with that of the previous work and used DOD's guide
for making cost comparisons between public depots and private contractors
to ensure that the Air Force study included all applicable cost elements
and included any adjustments. We discussed the study results with
cognizant Air Force and contractor officials. We also discussed factors
that affect the cost-effectiveness of privatization-in-place with Air
Force and contractor officials. 

For the Navy privatizations at Indianapolis, Indiana, and Louisville,
Kentucky, we attempted to identify comparable DOD cost comparison analyses
of government versus privatized operations, but found none. We also
collected cost data from contractor and Navy sources to make such
comparisons. However, we were unable to conduct these analyses because of
(1) the absence of sufficient, detailed historical Navy baseline data for
operations at the closing military facilities at those sites and 
(2) Navy-directed revisions in maintenance practices for certain key
weapon systems and changes in product mix. While rigorous cost comparisons
were not possible, we reviewed selected contractors' costs and discussed
business improvements and restructuring initiatives to bring in additional
work to the privatization sites with Navy and contractor officials. We did
not attempt to identify the impact on other government contracts as a
result of workload transfers from other contractor facilities. In
addition, we contacted Defense Contract Management Command officials at
these sites to obtain contractor-related cost information and their views
about contractors' performance.

In conducting our work, we contacted officials from the following
organizations:

o Office of the Secretary of Defense in Washington, D.C.;

o Air Force Materiel Command, Dayton, Ohio;

o Air Force Metrology and Calibration Program Office, Newark, Ohio;

o Naval Sea Systems Command and Naval Surface Warfare Center
  Headquarters, Arlington, Virginia;

o Naval Air Systems Command and Naval Air Warfare Center Headquarters,
  Patuxent River, Maryland;

o Defense Contract Management Command offices at Newark, Ohio;
  Louisville, Kentucky; and Indianapolis, Indiana;

o Raytheon Systems Company, Indianapolis, Indiana;

o Raytheon Systems Company and United Defense Limited Partnership,
  Louisville, Kentucky; 

o Boeing North American, Inc., and Wyle Laboratories, Inc., Boeing
  Guidance Repair Center, Newark, Ohio;

o Louisville/Jefferson County Redevelopment Authority, Louisville,
  Kentucky;
o Indianapolis Economic Development Corporation, Indianapolis, Indiana; and

o Heath-Newark-Licking County Port Authority, Newark, Ohio.

We conducted our review from October 1998 through September 1999 in
accordance with generally accepted government auditing standards. 

We are sending copies of this report to the Honorable Jacob Lew, Director,
Office of Management and Budget; the Honorable William S. Cohen, Secretary
of Defense; the Honorable F. Whitten Peters, Secretary of the Air Force;
the Honorable Richard Danzig, Secretary of the Navy; the Honorable Louis
Caldera, Secretary of the Army; General James L. Jones, Commandant of the
Marine Corps; and other interested parties. We will make copies available
to others upon request.

GAO points of contact concerning this report and other key contributors
are listed in appendix III.

Sincerely yours,

*****************

*****************

David R. Warren, Director
Defense Management Issues

--------------------------------------
/Footnote1/-^ Specifically, in 1977, Congress enacted legislation,
  reflected in 10 U.S.C. 2687, which essentially halted Department of
  Defense initiated base closures. Under section 2687, the closure of any
  military installation in the United States with at least 300 authorized
  civilian positions or the realignment of any installation involving a
  reduction of more than 1,000 civilian employees or more than 50 percent
  of the installation's authorized civilian workforce could not take place
  until the Secretary of Defense had evaluated the "fiscal, local
  economic, budgetary, environmental, strategic, and operational
  consequences of such closure or realignment." These requirements would
  make it difficult to close a large industrial facility such as a depot
  outside the base closure and realignment process. Subsequently, special
  legislative authorities were enacted in 1988 and 1990 to overcome
  impediments to base closure. These authorities provided the basis for
  four rounds of base realignments and closures between 1988 and 1995. 
/Footnote2/-^ At both Louisville and Indianapolis, Navy contracts were
  initially awarded to subsidiaries of Hughes Aircraft Company.
  Subsequently, Raytheon Company merged with Hughes Aircraft in December
  1997 and took over Hughes' s operations at Louisville and Indianapolis.
/Footnote3/-^ A local redevelopment authority is a community organization
  officially recognized by DOD as having sole responsibility for planning
  reuse of the property and serving as the community's point of contact
  for all matters relating to the closure.
/Footnote4/-^ The 1993 BRAC Commission recommended closure of the Air
  Force facility as a DOD operation, while the 1995 BRAC Commission
  recommended closure of the Navy facilities.
/Footnote5/-^ To the extent privatization-in-place involves a potential
  transfer of DOD in-house depot maintenance and repair work valued at $3
  million or more to a contractor, 10 U.S.C. 2469 requires that a
  competition among public and private sector entities be held for the
  work. In addition, the San Antonio and Sacramento workloads were the
  subject of special restrictions contained in 10 U.S.C. 2469a.
/Footnote6/-^ Report of the California Chief Executive Officers' Defense
  Privatization Task Force to Governor Pete Wilson: Pathway to
  Privatization--An Industry Perspective, California Trade and Commerce
  Agency (Sacramento, Cal.: Mar. 1996), p. xix.
/Footnote7/-^ Air Force Privatization-in-Place: Analysis of Aircraft and
  Missile Guidance System Depot Repair Costs (GAO/NSIAD-98-35, Dec. 22,
  1997).
/Footnote8/-^ Navy Depot Maintenance: Privatizing Louisville Operations in
  Place Is Not Cost-Effective (GAO/NSIAD-97-52, July 31, 1997).
/Footnote9/-^ An alternative to privatization-in-place was closure of the
  facilities, with transfers of the workloads to other DOD facilities.
  According to BRAC commissions, the closure option was estimated to
  provide annual savings to DOD of $3.8 million, $28.6 million, and $39.2
  million for Newark, Louisville, and Indianapolis, respectively, after
  one-time closure costs have been recouped.
/Footnote10/-^ Air Force Privatization-in-Place: Analysis of Aircraft and
  Missile Guidance System Depot Repair Costs (GAO/NSIAD-98-35, Dec. 22,
  1997).
/Footnote11/-^Jan. 1999), Major Management Challenges and Program Risks:
  Department of Defense (GAO/OCG-99-4, Jan. 1999), and Defense
  Outsourcing: Better Data Needed to Support Overhead Rates for A-76
  Studies (GAO/NSIAD-98-62, Feb. 1998).
/Footnote12/-^ Air Force Privatization-in-Place: Analysis of Aircraft and
  Missile Guidance System Depot Repair Costs (GAO/NSIAD-98-35, Dec. 22,
  1997).

PRIVATIZATION-IN-PLACE INITIATIVES
==================================

The following sections provide additional information on DOD privatization-
in-place initiatives at Newark, Ohio; Louisville, Kentucky; and
Indianapolis, Indiana.

Newark, Ohio

The announcement to close the Newark, Ohio, facility as an Air Force
managed operation was made in 1993, with workload turnover in October 1996
to two contractors--Rockwell International and Wyle Laboratories. While
the Air Force retained most of its existing workload at the privatized
facility, the Navy moved most and the Army moved all of their Newark
workloads to other sites. For the work remaining at Newark, Rockwell
International was awarded a contract for depot repairs of aircraft
inertial navigation systems and missile guidance systems and Wyle
Laboratories was awarded a contract for operating the primary standards
laboratory and providing calibration services. Boeing North American,
Inc., has since taken over the Rockwell division responsible for work at
Newark. The facility, now called the Boeing Guidance Repair Center, has
been turned over by the Air Force to the Heath-Newark-Licking County Port
Authority, which leases it to Boeing.

The Port Authority is the Ohio-chartered local redevelopment authority
formed to accept the conveyance of the property from the Air Force. It is
responsible for managing the property and for economic redevelopment. The
lease represents about 88 percent of the old Newark facility space
occupied by the contractors. The lease provides that Boeing pay the Port
Authority for appropriate administrative operations and staffing,
buildings and ground maintenance, and reimbursable charges attributable to
on-site fire protection services, some utilities, insurance, and taxes. A
portion of the lease is retained in a capital equipment reserve fund to
pay for future major facility and equipment repairs or replacements. Wyle
Laboratories, in turn, subleases about 17 percent of the facility space
from Boeing. It pays a pro rata share of the lease and for other Boeing
provided services, including electricity charges, protective services, and
building maintenance, based on the square footage it and the co-located
offices of the Air Force Metrology and Calibration program/Footnote1/
occupy.

Until recently, Boeing has been operating under an indefinite
delivery/indefinite quantity, cost plus award fee contract that was
originally valued at $264 million. The performance term consisted of the
base year 
(9-month transition period) and four 1-year options. In October 1999, the
Air Force renegotiated and awarded a sole-source 15-year contract (5-year
basic term and two 5-year options) with Boeing. As a cost plus award fee
contract, it features incentive provisions for reducing costs and
developing new business. Also, Boeing is in the early stages of
implementing several management changes to promote manufacturing
efficiencies to include improved process monitoring.

Boeing and government officials believe that future workload requirements
at its facility will decline for repairing aircraft and missile items,
thus increasing the overhead rate. Aircraft repair requirements are
expected to decline by about 6 percent in 2000 with further declines
expected through year 2014. Officials attribute these expected declines to
normal system retirements and attrition, increasing reliability of newer
and future weapon systems, and increasing reliance on original equipment
manufacturers for logistics support. Although missile repair requirements
were similarly expected to decline with strategic missiles retirements,
the life expectancy for those missiles has actually increased, with the
resulting missile workload remaining about the same.

To replace declining workloads, retain employment levels, and maintain
operating efficiencies, Boeing is actively pursuing future work from other
Boeing operations, manufacturing partners, DOD programs, and commercial
sources to offset its declining workload. However, it has not been very
successful to date. Moreover, Boeing expects very little commercial work--
its future nondefense workload is not expected to exceed 5 percent of its
total work requirements within the new contract period. If new work is not
added to replace declining requirements, repair prices could increase due
to overhead.

Wyle Laboratories workload with the Air Force has increased somewhat since
contract inception, but the company has had similar difficulties in
acquiring new commercial customers. The Wyle Laboratories' contract is
similar to the Boeing contract. It is an indefinite delivery/indefinite
quantity, cost plus award fee contract consisting of a base year and four 
1-year options, ending in September 2000. The contract was originally
valued at $19 million and the current estimate at completion is $49
million. A Wyle Laboratories' official attributed the cost increase to
increased calibration workloads and higher than expected leasing and
overhead costs. Regarding potential nondefense work, Wyle Laboratories
currently performs very little commercial work, and it has no immediate
prospects for any major new business. 

Prior to privatization, the Newark facility employed about 2,500
personnel. When closure was announced in 1993, the total workforce
declined to about 1,500; and, by the official closure date in October
1996, the workforce had declined further, to about 1,350. At start-up,
Boeing employed about 800 and Wyle about 100; most workers were former
government employees at the Newark facility. About 130 government civilian
and military remained in the Air Force Metrology and Calibration Program
Office.

Since privatization, Boeing's workforce has decreased, with better matches
between personnel and workload requirements and associated small
reductions in workload. In October 1997, for example, 77 employees were
"reduced-in-force" due to reduced workload requirements forecasted for
fiscal year 1998. However, most workforce-related reductions have occurred
incrementally over time as a result of Boeing-instituted production and
personnel efficiencies. Thus, the Boeing workforce currently numbers about
640.

In contrast, since privatization, Wyle Laboratories' workforce and
workload, as well as that pertaining to the co-located Air Force Metrology
and Calibration Program Office, have increased and are expected to further
increase next year. At time of closure, about 80 government lab
technicians were hired by Wyle Laboratories to augment its staff working
on primary standards lab operations. The Wyle workforce has since grown to
about 125, with added workloads attributable to increased demands for
repairing calibration equipment and revising technical orders. It is
expected to further increase its workforce to about 140 next year.
Likewise, the Air Force Metrology and Calibration Office expects to grow
by 20 to 40 employees to accommodate the increased contract management and
standard measurement responsibilities associated with the increased 
Wyle-related workload.

Louisville, Kentucky

The decision to close the Louisville facility was announced in 1995, with
workload turnover to two contractors (United Defense Limited Partnership
and Hughes Missile Systems Company) occurring in August 1996. Raytheon,
the current contractor, subsequently merged with Hughes and took over its
operations at Louisville. To implement the privatization, the Navy set up
a lease with the Louisville local redevelopment authority, known as the
Louisville/Jefferson County Redevelopment Authority, for use of the
facility until title of the property can be transferred to the
redevelopment authority. The lease requires no payments to the Navy and
provides for an initial 1-year term with four 1-year renewal options.
Under the agreement, the redevelopment authority assumes responsibility
for routine protection, repair, and maintenance at the site. The Navy
assumes all liability for environmental conditions existing at the time of
turnover. An application has been submitted to the Navy by the
redevelopment authority for acquisition of the property through an
economic development conveyance; it is currently pending./Footnote2/

The redevelopment authority, in turn, leases out the property to the
contractors at a rate, which, according to community officials, is below
market value. However, the contractors are responsible for operations and
maintenance costs for the portion of the facility that they occupy. Any
part of the property not leased to the Navy's two contractors or occupied
by Navy personnel can be leased to other commercial activities by the
redevelopment authority. In fact, 70,000 square feet, or 14 percent, of
this available space has been leased to three local commercial enterprises. 

Work performed for the Navy at Louisville is done under cost reimbursable
type contracts by the two contractors--United Defense and Raytheon. The
contracts cover an initial base period from August 1996 through September
1996 with five 1-year options, taking them through fiscal year 2001. There
are also agreements that were put into place between the Navy contractors
and the local redevelopment authority as a part of their competitive
selection by the city of Louisville. These agreements include promises by
the contractors to use best efforts to expand their businesses, to hire
former government workers at wages equal to what they had earned with the
government, and to guarantee employment levels.

The Navy workload has been taken over by United Defense and Raytheon, with
some engineering support still being provided by a Navy detachment and its
support contractor remaining in place at the Louisville
facility./Footnote3/ This detachment is working out of buildings still
owned and maintained by the Navy. Once the Navy has turned over the
facility to the local redevelopment authority, the detachment will lease
its space at no cost to the government. United Defense is responsible
primarily for production, overhaul and maintenance support of naval guns.
Raytheon mainly performs production, overhauls, and component repair for

the Phalanx close-in-air defense system and the Rolling Airframe Missile
launcher. United Defense and Raytheon annual sales are about $35 million
and $21 million, respectively.

The workload at Louisville has declined significantly from that prior to
privatization. Although workload had begun declining prior to
privatization, the workload after privatization was even lower than
initially estimated. According to United Defense officials, its share of
the total Louisville defense work had declined from about 1.3 million
direct labor hours in 1994 to 277,000 in 1998, a drop of almost 80
percent. Because of the ongoing decline in work, United Defense only hired
a total of 
354 employees at the onset of privatization, a reduction of about 60
percent from the prior level of 866 Navy employees. However, according to
United Defense officials, it initially expected the workload to be about 
449,000 direct labor hours based on prior Navy projections. In response to
the lower workload, United Defense further reduced its workforce to 
256 employees. Moreover, United Defense returned several buildings to the
local redevelopment authority, thereby reducing its facility
infrastructure by 40 percent, from about 1 million square feet to about
600,000 square feet. United Defense also redesigned its existing space to
allow for a more efficient work process.

Beginning in fiscal year 1999, United Defense has transferred gun
production work from its Fridley, Minnesota, plant to Louisville. United
Defense projects that, as a result, its total workload at Louisville will
stabilize for the next few years. However, this assumes that a significant
amount of funding will continue to be provided over the next 2 years from
congressionally-designated increases to the Navy's budget. For example, MK-
45 gun mount overhaul work, which comprises about 30 percent of United
Defense's workload, has been funded in fiscal years 1998 and 
1999 primarily through congressionally-designated additions to the Navy's
budget. Further, Navy officials maintain that there is little, if any,
funding available for this work in the Navy's budget for fiscal years 2000
and beyond without additional funding from the Congress. 

In addition to adding work to Louisville, the transfer from Fridley will
assist United Defense in reducing its infrastructure. Specifically, United
Defense officials assert that after transferring work from Fridley, United
Defense will reduce its Fridley space by over 1 million square feet, or 
50 percent, and reduce its Fridley workforce by 285 people, or 17 percent. 

Raytheon similarly has seen a 50-percent decrease in its maintenance
workload, going from about 250,000 thousand direct labor hours in 1994 to
about 128,000 thousand hours in 1998. However, the company has transferred
in its Phalanx and Rolling Airframe Missile launcher production work from
its facility in Tucson, Arizona. As a result of this added work, Navy and
Raytheon officials expect a net increase in Raytheon's Louisville
workload. The consolidation of Phalanx and Rolling Airframe Missile
launcher work at Louisville has also allowed Raytheon to close its plant
in Lewisville, Texas, because of the space made available in Tucson.

While Raytheon has not reduced its on-site facility infrastructure, it has
updated its entire facility to accommodate the workload changes associated
with the new production work. Under Navy direction Raytheon has also made
improvements to the process for overhauling Phalanx systems by adopting
"condition-based maintenance." Under this approach, only parts that are
not working are repaired or replaced as opposed to the prior Navy process
of replacing all parts whether working or not. Conditioned-based
maintenance has reportedly allowed Raytheon to keep its overhaul costs down.

Indianapolis, Indiana

In 1995 the closure of the Indianapolis facility was announced, and on
January 6, 1997, the workload was transferred to the Navy's contractor,
Hughes Technical Services Company. As is the case in Louisville, Raytheon
became the contractor after it merged with Hughes in December 1997. The
facility is currently under lease from the Navy to the city of
Indianapolis for $1 per year over a 10-year term with two 5-year renewal
options. An application for acquisition of the facility through economic
development conveyance has been submitted by the city and is currently
pending before the Navy. The redevelopment authority is subleasing the
facility to Raytheon for $1 per year with a lease term of 20 years. Under
this lease, Raytheon is responsible for the operation and maintenance
costs for the property. 

Similar to the situation in Louisville, there are also agreements in place
between the city of Indianapolis and Raytheon for such things as hiring
former government workers at wages equal to those before privatization and
guaranteeing employment levels. Indianapolis also was able to obtain other
commitments from Hughes (now Raytheon), including such promises as
reducing product costs to Navy customers, transferring related lines of
work into Indianapolis from other locations, and expanding commercial
revenues. However, according to Raytheon officials, the agreement to
expand commercial revenues related to a specific product line managed by
Hughes that was not acquired by Raytheon after the merger. As such,
Raytheon officials at Indianapolis do not anticipate being able to fulfill
this promise made by Hughes, and this agreement provision has since been
removed by the city of Indianapolis.

Work performed by Raytheon is done for the Navy through a 1-year
indefinite delivery contract with four 1-year renewal options. The 5-year
contract period runs through December 2001, at which time Raytheon will
compete with other private companies for the Navy's business. Raytheon's
annual sales at Indianapolis are about $180 to $200 million. 

The volume of work at Indianapolis, as measured by direct labor hours, has
dropped 30 percent since privatization, prompting Raytheon to lay off
about 330 employees in mid-1998. According to Navy and Raytheon officials,
the reductions in workload occurred primarily because of decreased Navy
requirements and the transfer of certain inherently governmental functions
to other Navy facilities. However, Raytheon has added new work to
Indianapolis, primarily for foreign customers. For example, it has brought
in armored tank modification work for Portugal, accounting for about $31
million in sales. Additionally, Raytheon transferred other DOD work for
depot repairs and spares manufacture to Indianapolis from its plant in
Long Beach, California. This internal restructuring initiative equated to
consolidating about 120,000 square feet from its Long Beach facility at
Indianapolis. Raytheon has since closed the Long Beach facility. As a
result of Raytheon's efforts to bring in new work to Indianapolis, the
older Navy work that existed prior to privatization now only makes up
about 65 percent of Raytheon's total business at Indianapolis.

Work performed by Raytheon is done for the Navy through a 1-year
indefinite delivery contract with four 1-year renewal options. The 5-year
contract period runs through December 2001, at which time Raytheon will
compete with other private companies for the Navy's business. Raytheon's
annual sales at Indianapolis are about $180 to $200 million.

The volume of work at Indianapolis, as measured by direct labor hours, has
dropped 30 percent since privatization, prompting Raytheon to lay off
about 330 employees in mid-1998. According to Navy and Raytheon officials,
the reductions in workload occurred primarily because of decreased Navy
requirements and the transfer of certain inherently governmental functions
to other Navy facilities. However, Raytheon has added new work to
Indianapolis, primarily for foreign customers. For example, it has brought
in armored tank modificaiton work for Portugal, accouting for about $31
million in sales. Additionally, Raytheon transferred other DOD work for
depot repairs and spares manufacture to Indianpolis from its plant in Long
Beach, California. This internal restructing initiative equated to
consolidating about 120,000 square feet from its Long Beach facility at
Indianapolis. Raytheon has since closed the Long Beach facility. As a
result of Raytheon's efforts to bring in new work to Indianpolis, the
older Navy work that existed prior to privatization now only makes up
about 65 percent of Raytheon's total business at Indianpolis.

--------------------------------------
/Footnote1/-^ The Air Force only privatized the standards lab operations,
  technical order management, and certain calibration workloads. The Air
  Force Metrology and Calibration office retained responsibilities for
  program management, contract oversight, certification of Air Force
  Primary Measurement Equipment Labs, and standards procurement. 
/Footnote2/-^ An economic development conveyance is a means by which a
  local redevelopment authority may obtain property from DOD at no cost
  provided the property is to be used for economic development and job
  creation purposes.
/Footnote3/-^ A contractor, CACI Field Services, Inc., which employs about
  60 employees at the Louisville facility, provides technical support
  services to the Navy engineering detachment. 

COMMENTS FROM THE DEPARTMENT OF DEFENSE
=======================================

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*****************

*****************

*****************

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The following is GAO's comment on the Department of Defense's letter dated
November 3, 1999.

GAO Comment

   1.We have revised the report title to more accurately reflect the
         report's primary point that we could not perform cost-
         effectiveness analyses of all privatization-in-place initiatives
         due to the lack of data.

GAO CONTACTS AND STAFF ACKNOWLEDGMENTS
======================================

GAO Contacts

Barry Holman (202) 512-8412
Julia Denman (202) 512-8412

Acknowledgments

In addition to those named above, James Reifsynder, Bruce Fairbairn, Joe
Faley, and Cary Russell made key contribitions to this report.

RELATED GAO PRODUCTS
====================

Defense Depot Maintenance: Use of Public-Private Partnering Arrangements
(GAO/NSIAD-98-91, May 7, 1998).

Inventory Management: DOD Can Build on Progress by Using Best Practices
for Reparable Parts (GAO/NSIAD-98-97, Feb. 27, 1998).

Air Force Privatization-in-Place: Analysis of Aircraft and Missile
Guidance System Depot Repair Costs (GAO/NSIAD-98-35, Dec. 22, 1997).

Navy Depot Maintenance: Privatizing Louisville Operations in Place Is Not
Cost-Effective (GAO/NSIAD-97-52, July 31, 1997).

Defense Depot Maintenance: Uncertainties and Challenges DOD Faces in
Restructuring Its Depot Maintenance Program (GAO/T-NSIAD-97-111, 
Mar. 18, 1997) and (GAO/T-NSIAD-97-112, Apr. 10, 1997).

Privatization: Lessons Learned by State and Local Governments (GAO/GGD-97-
48, Mar. 14, 1997).

Defense Outsourcing: Challenges Facing DOD as It Attempts to Save Billions
in Infrastructure Costs (GAO/T-NSIAD-97-110, Mar.12, 1997).

High Risk Series: Defense Infrastructure (GAO/HR-97-7, Feb. 1997).

Air Force Depot Maintenance: Privatization-in-Place Plans Are Costly While
Excess Capacity Exists (GAO/NSIAD-97-13, Dec. 31, 1996).

Army Depot Maintenance: Privatization Without Further Downsizing Increases
Costly Excess Capacity (GAO/NSIAD-96-201, Sept. 18, 1996).

Navy Depot Maintenance: Cost And Savings Issues Related to Privatization-
in-Place at the Louisville, Kentucky, Depot (GAO/NSIAD-96-202, Sept. 18,
1996).

Defense Depot Maintenance: Privatization and the Debate Over the Public-
Private Mix (GAO/T-NSIAD-96-146, Apr. 16, 1996) and (GAO/NSIAD-96-148,
Apr. 17, 1996).

Closing Maintenance Depots: Savings, Personnel, and Workload
Redistribution Issues (GAO/NSIAD-96-29, Mar. 4, 1996).

Aerospace Guidance and Metrology Center: Cost Growth and Other Factors
Affect Closure and Privatization (GAO/NSIAD-95-60, Dec. 9, 1994).

(709342)

Table 1:  Initial Cost Comparison Between Projected Government and Actual
Privatization Operations at Newark, Ohio (July 1997)11

Table 2:  Updated Cost Comparison Between Projected Government and Actual
Privatization Operations at Newark, Ohio (November 1998)12

*** End of document. ***