Federal Contracting
Application of OMB Guidance Can Improve Use of Award Fee Contracts Gao ID: GAO-09-839T August 3, 2009From fiscal year 2004 through fiscal year 2008, agencies spent over $300 billion on contracts which include award fees. While many agencies use award fee contracts, over 95 percent of the government's spending using this contract type in fiscal year 2008 occurred at five: the departments of Defense (DOD), Energy (DOE), Health and Human Services (HHS), and Homeland Security (DHS) and the National Aeronautics and Space Administration (NASA). In December 2007, the Office of Management and Budget's (OMB) Office of Federal Procurement Policy issued guidance to chief acquisition officers and procurement executives across the government that echoed several recommendations we made in 2005 on the use of award fees and emphasized positive practices to be implemented by all agencies. GAO's statement today is based on our May 29, 2009, report, Federal Contracting: Guidance on Award Fees Has Led to Better Practices But is Not Consistently Applied (GAO-09-630). Like the report, this statement addresses how agencies are implementing OMB's guidance. Specifically, we (1) identified the actions agencies have taken to revise or develop policies and guidance to reflect OMB guidance on using award fees, (2) determined the extent to which current practices for using award fee contracts are consistent with the new guidance, and (3) identified the extent to which agencies collect and analyze information on award fees to evaluate their use and share that information within their agencies.
Award fee contracts can motivate contractor performance when certain principles are applied. Linking fees to acquisition outcomes ensures that the fee being paid is directly related to the quality, timeliness, and cost of what the government is receiving. Limiting the opportunity for contractors to have a second chance at earning a previously unearned fee maximizes the incentive during an award fee period. Additionally, the amount of the fee earned should be commensurate with contractor performance based on evaluation factors designed to motivate excellent performance. Further, no fee should be paid for performance that is judged to be unsatisfactory or does not meet contract requirements. While DOD has realized benefits from applying these principles to some contracts, these principles have not been established fully in guidance at DOE, DHS, and HHS. Having guidance is not enough, however, unless it is consistently implemented. Further, the lack of methods to evaluate effectiveness and promote information sharing among and within agencies has created an atmosphere in which agencies are unaware of whether these contracts are being used effectively and one in which poor practices can go unnoticed and positive practices can be isolated.
GAO-09-839T, Federal Contracting: Application of OMB Guidance Can Improve Use of Award Fee Contracts
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Testimony:
Before the Subcommittee on Federal Financial Management, Government
Information, Federal Services, and International Security, Committee on
Homeland Security and Governmental Affairs, U.S. Senate:
United States Government Accountability Office:
GAO:
For Release on Delivery:
Expected at 3:00 p.m. EDT:
Monday, August 3, 2009:
Federal Contracting:
Application of OMB Guidance Can Improve Use of Award Fee Contracts:
Statement of John Hutton, Director:
Acquisition and Sourcing Management:
GAO-09-839T:
[End of section]
Mr. Chairman and Members of the Subcommittee:
I am pleased to be here today to discuss our recent work for this
subcommittee on the use of award fee contracts. An award fee is an
amount of money that a contractor may earn in whole or in part by
meeting or exceeding subjective criteria stated in an award fee plan.
Typically the criteria are related to quality, technical ingenuity,
cost-effective management, program management, and other unquantifiable
areas. From fiscal year 2004 through fiscal year 2008, agencies spent
over $300 billion on contracts which include award fees. While many
agencies use award fee contracts, over 95 percent of the government's
spending using this contract type in fiscal year 2008 occurred at five:
the departments of Defense (DOD), Energy (DOE), Health and Human
Services (HHS), and Homeland Security (DHS) and the National
Aeronautics and Space Administration (NASA). In December 2007, the
Office of Management and Budget's (OMB) Office of Federal Procurement
Policy issued guidance to chief acquisition officers and procurement
executives across the government that echoed several recommendations we
made in 2005 on the use of award fees and emphasized positive practices
to be implemented by all agencies.[Footnote 1]
My statement today is based on our May 29, 2009, report, Federal
Contracting: Guidance on Award Fees Has Led to Better Practices But is
Not Consistently Applied (GAO-09-630). Like the report, this statement
addresses how agencies are implementing OMB's guidance. Specifically,
we (1) identified the actions agencies have taken to revise or develop
policies and guidance to reflect OMB guidance on using award fees, (2)
determined the extent to which current practices for using award fee
contracts are consistent with the new guidance, and (3) identified the
extent to which agencies collect and analyze information on award fees
to evaluate their use and share that information within their agencies.
To identify the actions that these five agencies have taken to revise
or develop guidance on the use of award fees, we assessed procurement
policies and discussed planned and implemented policy changes with
procurement officials at each agency. To determine the extent to which
current practices for using award fee contracts are consistent with OMB
guidance, we reviewed data from 645 evaluation periods for 100
contracts at the five agencies. For DOD and NASA, our scope included
contracts examined in prior GAO work and DOD contracts awarded after
policies were changed that had held at least one award fee period.
Where applicable, we identified the programmatic and monetary effect of
implementing policy changes. For DOE, HHS, and DHS, we selected all
award fee contracts with over $50 million obligated against them from
fiscal year 2004 through fiscal year 2008 as identified in the Federal
Procurement Data System (FPDS). We collected data on the amount of the
award fee available compared to the amount awarded as well as the
criteria used to evaluate contractor performance. We reviewed contract
documents including award fee plans to determine the extent to which
the contracts reflected positive award fee practices identified in our
prior work and OMB guidance. We also interviewed procurement officials
at each agency on efforts to collect data on award fees, evaluate their
effectiveness, and share information on successful strategies.
Our work for our May 29, 2009, report was conducted from August 2008
through May 2009 in accordance with generally accepted government
auditing standards. Those standards require that we plan and perform
the audit to obtain sufficient and appropriate evidence to provide a
reasonable basis for our findings and conclusions based on our audit
objectives. We believe that the evidence obtained provides a reasonable
basis for our findings and conclusions based on our audit objectives.
More detailed information on our scope and methodology appears in our
2009 report.
OMB's Guidance Is Not Consistently Addressed at All Agencies:
In December 2007, the OMB Office of Federal Procurement Policy issued
guidance to chief acquisition officers and senior procurement
executives to review and update their acquisition policies on the
appropriate use of incentive fee contracts, which include award fee
contracts. The guidance highlighted preferred practices including: (1)
linking award fees to acquisition outcomes, such as cost, schedule, and
performance results; (2) limiting the use of rollover[Footnote 2] to
exceptional circumstances defined by agency policies; (3) designing
evaluation factors that motivate excellent contractor performance by
making clear distinctions between satisfactory and excellent
performance; and (4) prohibiting payments for contractor performance
that is judged to be unsatisfactory or does not meet the basic
requirements of the contract.[Footnote 3] Further, OMB asked agencies
to obtain and share practices in using award fees through an existing
Web-based resource. The OMB guidance was developed based on award fee
problems that had been identified by GAO and which DOD and NASA had
begun to address. The following shows how OMB's guidance is reflected
in guidance provided by each agency:
* In response to GAO recommendations in 2005[Footnote 4] and subsequent
legislation,[Footnote 5] DOD issued guidance in 2006 and 2007 that
states it is imperative that award fees are linked to desired outcomes,
that the practice of rolling over unearned award fees should be limited
to exceptional circumstances, that award fees must be commensurate with
contractor performance, and that performance that is unsatisfactory is
not entitled to any award fee. It also states that satisfactory
performance should earn considerably less than excellent performance;
otherwise, the motivation to achieve excellence is negated.
* While NASA's Award Fee Guide already addressed the four issues, our
previous work found that NASA did not consistently implement key
aspects of its guidance on major award fee contracts.[Footnote 6] In
response to our findings, a June 2007 NASA policy update reemphasized
these policies to contracting staff and added a requirement that
contracting officers include documented cost-benefit analysis when
using an award fee contract.
* DOE has supplemental guidance to the Federal Acquisition Regulation
(FAR) that outlines how award fees should be considered and in
September 2008 created implementing guidance specific to management and
operations contracts that links award fees to acquisition outcomes and
limits the use of rollover. However, DOE's departmental guidance does
not clearly define the standards of performance for each rating
category or prevent payment of fees for unsatisfactory performance.
Divisions of DOE have developed their own standards and methods of
evaluation which vary in their consistency with the OMB guidance.
* DHS provides guidance on award fees in its acquisition manual, but
does not fully address the issues in the OMB guidance. The DHS guidance
requires award fee plans to include criteria related (at a minimum) to
cost, schedule, and performance and establishes that award fees are to
be earned for successful outcomes and that no award fee may be earned
against criteria that are ranked below "successful" or "satisfactory."
However, the manual does not describe standards or definitions for
determining various levels of performance or include any limitation on
the use of rollover.
* HHS officials did not have guidance specific to the use of award fees
and were not aware of any such guidance at their operational divisions.
Officials told us that they relied on the FAR for guidance on using
award fees. However, contracting officials at HHS operational divisions
noted a need for better guidance and told us that the FAR did not
provide the level of detail needed to execute an award fee contract. As
a result, contracting officers at these operational divisions have
developed approaches to award fee contracts which vary in their degree
of consistency with OMB's guidance.
The National Defense Authorization Act for Fiscal Year 2009[Footnote 7]
directed that the FAR be amended by the middle of October 2009 to
expand the requirements placed on DOD in 2007 to all executive
agencies.[Footnote 8] A working group including representatives from
these agencies is reviewing and updating the FAR. DOD officials also
told us that they are developing supplemental guidance on award fees,
but will wait until the FAR working group completes its work before
finalizing the guidance.
Agency Practices Are Not Always Consistent with OMB Guidance:
By implementing the revised guidance, some DOD components reduced costs
and improved management of award fee contracts. Potential changes at
NASA --such as documented cost-benefit analyses--are too recent for
their full effects to be judged. At DOE, DHS, and HHS, individual
contracting offices have developed their own approaches to executing
award fee contracts which are not always consistent with the principles
in the OMB guidance or between offices within these departments.
* Use of Rollover: Guidance from DOD, DOE, and OMB states that allowing
contractors a second chance at unearned fees should be limited to
exceptional circumstances and should require high-level approval. NASA
guidance does not allow rollover. Allowing contractors an opportunity
to obtain previously unearned fees reduces the motivation of the
incentive in the original award fee period. In almost all of the 50 DOD
contracts we reviewed, rollover is now the exception and not the rule.
While in 2005 we found that 52 percent of all DOD programs rolled over
fee, only 4 percent of the programs in our sample continue this
practice. We reviewed active contracts from our 2005 sample and found
that eliminating rollover will save DOD more than an estimated $450
million on 8 programs from April 2006 through October 2010. However,
with the exception of NASA where rollover is not allowed, we found
instances at each agency, where rollover was allowed, at times, for 100
percent of the unearned fee.
* Linking Fees to Outcomes: OMB's guidance indicates that award fees
should be used to achieve specific performance objectives established
prior to contract award, such as delivering products and services on
time, within cost, and with promised performance; and must be tied to
demonstrated results, as opposed to effort. Contracting officers and
program managers across all five agencies said award fee contracts
could benefit from objective targets that equate to a specific amount
of the fee. While the combination of award fee contracts which evaluate
subjective criteria and incentive contracts which evaluate objective
targets was the preferred approach of several officials, there is no
guidance on how to balance or combine these contract types. The
effective use of subjective criteria requires that they be accompanied
by definitions and measurements of their own to ensure they are linked
to outcomes rather than processes or efforts. DOD's Joint Strike
Fighter is one program that has incorporated more discrete criteria. In
comparing periods before and after the application of these criteria,
the contractor has consistently scored lower in the performance areas
than in previous periods where less defined criteria were applied. We
estimate that the more accurate assessment of contractor performance
has saved almost $29 million in less than 2 years of the policy change.
However, contracts do not always use criteria that are linked to
outcomes. For example, an HHS contract for call center services awarded
a portion of the fees based on results, such as response times, but
also included criteria based more on efforts, such as requiring the
contractor to ensure that staffing levels were appropriate for
forecasted volumes during hours of operation, rather than measuring
results.
* Using Evaluation Factors to Motivate Excellent Performance: The
amount of the fee established for satisfactory performance or meeting
contract requirements generally awards the contractor for providing the
minimum effort acceptable to the government. Programs used a broad
range in setting the amount of the fee available for satisfactory
performance, but many left little to motivate excellent performance.
For example, DOE's Office of Science uses a model that sets the amount
of the fee able to be earned for meeting expectations at 91 percent,
thus leaving 9 percent to motivate performance that exceeds
expectations. In contrast, in an HHS contract for management,
operation, professional, technical, and support services, the
contractor earns 35 percent of the award fee for satisfactory
performance, leaving 65 percent of the fee to motivate excellent
performance. DOD and NASA are the only agencies we reviewed that
provide guidance on the amount of the fee to be paid for satisfactory
performance, up to 50 percent and 70 percent respectively. However, not
all DOD programs have followed this guidance. For example, a DOD
Missile Defense Agency (MDA) contract signed in December 2007 awards
the contractor up to 84 percent of the award fee pool for satisfactory
performance, which the agency defines as meeting most of the
requirements of the contract. This leaves only 16 percent of the award
fee pool to motivate performance that fully meets contract requirements
or is considered above satisfactory.
* Payments for Unsatisfactory Performance: DOD, NASA, and OMB have
stated that performance not meeting contract requirements or judged to
be unsatisfactory merits no award fee. However, while the median award
fee scores indicate satisfaction with the results of the contract,
programs we reviewed continue to use evaluation tools that could allow
for contractors to earn award fees without performing at a level that
is acceptable to the government under the terms of the contract. For
example, an HHS contract for Medicare claims processing rates
contractor performance on a point scale, from 0 to 100, where the
contractor can receive up to 49 percent of the fee for unsatisfactory
performance and up to 79 percent for satisfactory performance (defined
as meeting contract requirements). The National Nuclear Safety
Administration, a separate agency within DOE, uses a tool that
prohibits payments for unsatisfactory performance while the evaluation
method used by DOE's Office of Science allows a contractor to earn up
to 84 percent of the award fee for performance that is defined as not
meeting expectations. Further, current award fee plans for some
programs using the Office of Science lab appraisal process allow for an
award fee to be earned at the "C" level, which guidance defines as
performance in which "a number of expectations...are not met and/or a
number of other deficiencies are identified" with potentially negative
impacts to the lab and mission. According to Office of Science
guidance, as much as 38 percent of the fee can be earned for objectives
that fall in this category.
Agencies Do Not Have Methods for Evaluating Award Fee Effectiveness in
Improving Contractor Performance:
While programs have paid more than $6 billion in award fees for the 100
contracts we reviewed, none of the five agencies has developed methods
for evaluating the effectiveness of an award fee as a tool for
improving contractor performance. Instead, program officials noted that
the effectiveness of a contract is evident in the contractor's ability
to meet the overall goals of the program and respond to the priorities
established for a particular award fee period. However, officials were
not able to identify the extent to which successful outcomes were
attributable to incentives provided by award fees versus external
factors such as a contractor's interest in maintaining a good
reputation. When asked how they would respond to a requirement to
evaluate the effectiveness of an award fee, officials told us that they
would have difficulty developing performance measures that would be
comparable across programs.
Of the five agencies we reviewed, only DOD collects data on award fee
contracts. In 2006, legislation required DOD to develop guidance on the
use of award fees that included ensuring that the department collects
relevant data on award and incentive fees paid to contractors and that
it has mechanisms in place to evaluate such data on a regular basis.
[Footnote 9] DOD has collected and analyzed data and provided that
analysis to Congress and the Senior Procurement Executives of the
military services and other DOD agencies. However, DOD does not have
performance measures to evaluate the effectiveness of award fees as a
tool for improving contractor performance and achieving desired program
outcomes. DOD's data collected on objective efficiencies include cost
and schedule measures but do not reflect any consideration of the
circumstances that affected performance, a critical element in
determining award fees.
While DOD has established an award fee community of practice through
its Defense Acquisition University, most information regarding
successful strategies for using award fees is shared through informal
networks. Contracting officers at DOD, DOE, DHS, and HHS were unaware
of any formal networks or resources for sharing best practices, lessons
learned, or other strategies for using award fee contracts, and said
they rely on informal networks or existing guidance from other
agencies. However, within agencies, procurement executives are
beginning to review award fee criteria across programs for consistency
and successful strategies.
Concluding Observations and Prior Recommendations for Executive Action:
Award fee contracts can motivate contractor performance when certain
principles are applied. Linking fees to acquisition outcomes ensures
that the fee being paid is directly related to the quality, timeliness,
and cost of what the government is receiving. Limiting the opportunity
for contractors to have a second chance at earning a previously
unearned fee maximizes the incentive during an award fee period.
Additionally, the amount of the fee earned should be commensurate with
contractor performance based on evaluation factors designed to motivate
excellent performance. Further, no fee should be paid for performance
that is judged to be unsatisfactory or does not meet contract
requirements. While DOD has realized benefits from applying these
principles to some contracts, these principles have not been
established fully in guidance at DOE, DHS, and HHS. Having guidance is
not enough, however, unless it is consistently implemented. Further,
the lack of methods to evaluate effectiveness and promote information
sharing among and within agencies has created an atmosphere in which
agencies are unaware of whether these contracts are being used
effectively and one in which poor practices can go unnoticed and
positive practices can be isolated.
In our report, we recommended that DOE, HHS, and DHS update or develop
implementing guidance on using award fees. This guidance should provide
instructions and definitions on developing criteria to link award fees
to acquisition outcomes, using an award fee in combination with
incentive fees, rolling over unearned fees, establishing evaluation
factors to motivate contractors toward excellent performance, and
prohibiting payments of award fees for unsatisfactory performance. To
expand upon improvements made, we recommended that DOD promote
consistent application of existing guidance, including reviewing
contracts awarded before the guidance was in effect for opportunities
to apply it, and provide guidance on using an award fee in combination
with incentive fees to maximize the effectiveness of subjective and
objective criteria. We also recommended that the five agencies
establish an interagency working group to (1) identify how best to
evaluate the effectiveness of award fees as a tool for improving
contractor performance and achieving desired program outcomes and (2)
develop methods for sharing information on successful strategies. The
agencies concurred with our recommendations and noted that both the FAR
working group and an interagency working group could be potential
mechanisms for implementing our recommendations.
Mr. Chairman, this concludes my statement. I would be pleased to
respond to any questions you or other Members of the Subcommittee may
have.
For questions regarding this statement, please contact John P. Hutton
at (202) 512-4841 or at huttonj@gao.gov. Individuals making
contributions to this testimony include Thomas Denomme, Assistant
Director, Kevin Heinz, John Krump, and Robert Swierczek.
[End of section]
Footnotes:
[1] GAO, Defense Acquisitions: DOD Has Paid Billions in Award and
Incentive Fees Regardless of Acquisition Outcomes, [hyperlink,
http://www.gao.gov/products/GAO-06-66] (Washington, D.C.: 2005).
[2] Rollover is a practice in which unearned award fee is moved from
one evaluation period to a subsequent evaluation period or periods,
thus providing the contractor an additional opportunity to earn
previously unearned fee.
[3] Other guidance in OMB's guidance memo included performing a cost-
benefit analysis before using incentive fees and ensuring that plans
had clear definitions on how contractors would be evaluated, the levels
of performance used to judge them, and specific criteria on how to
achieve those levels.
[4] [hyperlink, http://www.gao.gov/products/GAO-06-66].
[5] The John Warner National Defense Authorization Act for Fiscal Year
2007. Pub. L. No. 109-364, § 814 (2006).
[6] [hyperlink, http://www.gao.gov/products/GAO-07-58], NASA
Procurement: Use of Award Fees for Achieving Program Outcomes Should Be
Improved, GAO-07-58 (Washington, D.C.: 2007).
[7] The Duncan Hunter National Defense Authorization for Fiscal Year
2009, Pub. L. No. 110-417 §. 867 (2008).
[8] Pub. L. No. 109-364, § 814 (2006).
[9] Pub. L. No. 109-364, § 814 (2006).
[End of section]
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