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Controlling Contract Costs in the Balkans

U.S. Army Europe has increased its reliance on contractors
for logistics support in the Balkans while reducing its costs.

A leaner military force means increased reliance on contracted logistics support, and greater use of contractors inevitably leads to out-of-control costs. Right? Not necessarily. Whether keeping the peace in the Balkans or, more recently, fighting terrorists in Afghanistan and Iraq, today’s streamlined forces increasingly depend on contracted logistics support. However, that support requires careful stewardship of resources, particularly since contractor services and their costs are subject to intense scrutiny by Congress.

U.S. Army Europe (USAREUR) has employed contractor support in the Balkans since the United States began operations there in 1995. In the intervening decade, USAREUR’s leaders have taken significant steps to ensure proper stewardship of limited resources. Even with these efforts, the Government Accountability Office (GAO) reported in September 2000 that the Army needed to do more to control Balkans contract costs. That report identified several shortcomings, ranging from allowing the contractor to maintain 100 percent redundancy of power-generation capabilities (when only critical operations, such as the command center and the hospital, required uninterrupted power) to allowing the contractor to maintain an overly large workforce of local nationals. USAREUR took immediate action in response to that GAO report. By the time GAO issued a second report in June 2003, it was able to report, “USAREUR’s efforts should be a benchmark for other major contracts.”

How did USAREUR improve contract oversight and get contract costs under control? The answers to that question may serve as lessons learned for other commands and organizations faced with increased reliance on contracted logistics support.

The Players and the Contract

In December 1995, U.S. troops deployed to Bosnia as part of a multilateral coalition under North Atlantic Treaty Organization (NATO) command to help implement the Dayton Peace Accords. In June 1999, the United States began providing additional troops for the NATO-led Kosovo Force to assist with peace enforcement in Kosovo.

Headquarters USAREUR was—and still is—responsible for supporting troops deployed to the Balkans. The command turned to a contractor to house, feed, and provide services to the Bosnia and Kosovo task forces. USAREUR chose the Army Corps of Engineers Transatlantic Program Center (CETAC) to award the contract. The current Balkans support contract was awarded competitively to Halliburton KBR in February 1999 and became effective that May.

CETAC is responsible for administering the contract on behalf of USAREUR. The Defense Contract Management Agency (DCMA) and the Defense Contract Audit Agency (DCAA) support CETAC with contract administration and oversight. The CETAC principal contracting officer assigns contract administration functions to DCMA as delineated in a “delegation matrix.” Under this delegation, DCMA provides quality assurance specialists, property administrators, and contract specialists to monitor the performance and costs of services incurred under the contract. DCAA validates the accuracy and completeness of the contractor’s cost accounting system and performs audits of incurred costs. For its services, CETAC charges USAREUR a percentage of the ongoing contract cost; DCMA and DCAA charge no fee for their services.

While CETAC and DCMA play large roles in contract award and administration, they do not have ultimate responsibility for resource management and operational cost control. CETAC and DCMA ensure contractor quality performance and adherence to the terms of the contract. Through contracting actions, they administer theater-defined mission support functions included under the Balkans support contract.

Once USAREUR and the Bosnia and Kosovo task forces have determined their operational requirements and required support services, CETAC and DCMA ensure that those requirements and services are covered in the contract. Operational planning is not the job of CETAC and DCMA. However, requirements and planning are essential elements of controlling contract costs. In terms of managing costs under the contract, the main players are the consumers of the services (the task forces), the provider of the services (KBR), and the bill payer (USAREUR).

The Impetus to Reduce Costs

Because the cost of Balkan operations comes out of USAREUR’s contingency operations (CONOPS) funding, USAREUR has a clear incentive to reduce costs. This was not always the case. Initially, USAREUR focused on supporting the mission—getting essential services in place to support Soldiers in a hostile environment. As the situation in the Balkans stabilized, however, the focus began to shift to controlling costs.

In 2001, money for the Balkans was integrated into USAREUR’s CONOPS funding, and USAREUR’s level of interest in Balkans spending became even more acute. The emphasis on reducing contract costs not only was driven by limited resources but also was directed from the top. The Deputy Commanding General of USAREUR emphasized the importance of controlling costs and assigned responsibility for contract accountability to the G–4 (Logistics) section on the USAREUR staff.

Since most of the ongoing contract costs were for recurring services, the agency responsible for ongoing logistics support—the USAREUR G–4—was an appropriate choice. While he delegated cost-control responsibility, the USAREUR Deputy Commanding General maintained his involvement and oversight throughout the process.

Three-Pronged Approach to Reducing Costs

Because the task force commanders in Bosnia and Kosovo are the main consumers of contract services, KBR provides those services, and the USAREUR G–4 pays the bills and oversees contract support, all three main players have to engage in and support the effort in order to reduce costs.

The three groups initially had divergent interests. The task forces and other supported personnel are stationed in the Balkans for 1 year (formerly only 6 months) at a time and have a relatively short-term view of the operation. They naturally wish to obtain the best quality of life they can in a harsh environment. However, commanders often were not aware of the cost ramifications of their decisions. Extended dining facility hours, less crowded quarters, and faster laundry service are all desirable—especially when someone else is paying the bill.

Initially, KBR determined the quality and level of services to be provided under the contract and negotiated these services directly with the task forces. As a for-profit company, KBR was willing to provide any increased services the consumer was willing to pay for. The increased services meant increased estimates at completion and, potentially, larger base fees and award fees paid to the contractor.

The challenge for USAREUR was to motivate the task forces and the contractor to help control costs. USAREUR’s approach was three-pronged: provide a financial incentive for the contractor to reduce costs; set service-level expectations for the task forces and give them a budget; and take a hard look at the contract and USAREUR’s own internal procedures.

Motivating the Contractor

How did USAREUR motivate the contractor to control costs? The Balkans contract is cost-reimbursable and performance-based and gives the contractor considerable flexibility in determining how best to provide the requested services. The contract sets two categories of tasks: recurring services and new work. Any activity performed on a continuing basis, such as food service, is defined as “recurring services” and requires no further approval once initiated. Any task not previously authorized or that is termed a one-time service, such as constructing a base camp, is referred to as “new work.”

Under the contract, the Army reimburses KBR for costs incurred. KBR makes a profit from a base fee of 1 percent of the estimated cost of the work performed and an award fee of up to 8 percent of the estimated cost of the work performed. The estimated cost of the work performed is agreed to by the Government and KBR, based on the estimated cost of recurring services for the year plus the estimated cost of new work begun during the year.

Eight percent of this aggregate of estimated costs is commonly referred to as the award fee pool. The award fee board, which meets three times a year, reviews the contractor’s performance for the most recently completed award fee period and recommends an award fee percentage to the award fee determining official. That official determines and announces the award fee percentage to be awarded for the last completed 4-month award fee period.

The contractor’s performance is rated in three areas: cost control and financial management; performance; and coordination, flexibility, and responsiveness. The G–4 tied a portion of the award fee determination to cost reductions and required the contractor to demonstrate real cost savings to merit the highest rating. Excellent performance under the contract then was capped at 95 percent of the award fee pool. The contractor had to demonstrate new savings or improvements to receive the remaining 5 percent of the award fee pool and the corresponding rating of “outstanding.” USAREUR also made cost control the highest-weighted element in contractor evaluations, increasing its weighting from 30 percent to 40 percent. To compensate, the weighting given to both performance and flexibility was reduced from 35 percent to 30 percent.

Before these changes took effect in October 2001, KBR had been receiving an average award fee of 98.5 percent of the available pool. After USAREUR implemented cost-control weightings, the percentage dipped to 95 percent. It fell still further, until the contractor understood the seriousness of the Army’s intent. It was not until May 2003 that KBR received an award fee of more than 95 percent, and that was 95.5 percent.

With its award fee now partially contingent on reducing costs, KBR began identifying opportunities for savings. For example, the contractor instituted a training program that converted positions from expatriate (Americans living outside the United States) positions to host-country national positions and reduced the number of overtime hours worked. In fiscal year 2003 alone, this saved USAREUR $33.8 million in contractor labor costs.

Motivating the Consumers

How did USAREUR get U.S. military units deployed to the Balkans to help in reducing costs? Since KBR formerly had determined the quality and level of services provided under the contract, the USAREUR staff, in conjunction with Balkans military personnel, developed and enforced contingency quality-of-life standards to help in containing the cost of those services.

USAREUR developed Red, Blue and Green Books to set respective service-level standards for facilities, base camp operations, and resource management in contractor-provided services as diverse as ammunition supply, transportation, laundry, power generation, and space allocations for living quarters. All USAREUR staff elements, along with supported personnel, contributed to the books, which now set the level of expectation for services provided in the Balkans and give clear guidance to the contractor on services authorized. These contingency service standards are reviewed periodically.

It also is imperative that the task forces be given a contracting budget for the year—the earlier in the operation, the better. This ensures that commanders understand how their actions drive costs and affect over-all resource stewardship. Any additional services they request, whether purchased from KBR or from other contractors, are charged to this budget.

USAREUR then decided to examine the request guidelines. An existing joint acquisition review board reviewed contracting actions paid for by either USAREUR or a task force. The board also lowered dollar thresholds for approval. Originally, contracting actions under $100,000 could be approved by the task force, while USAREUR staff elements could approve expenditures under $500,000. Actions exceeding those amounts required review by the USAREUR Deputy Commanding General. The review board lowered these dollar thresholds to $50,000 and $200,000 respectively, giving USAREUR better visibility of Balkans purchases. A review of the standards, now underway, is expected to reduce those dollar amounts even further.

Along with lowering dollar thresholds, USAREUR now requires preparation of independent Government estimates on requests exceeding the thresholds. This requirement helps reinforce discipline in cost measurement.

Doing a Better Job Internally

USAREUR also carefully examined how it was doing business under the Balkans support contract and set out to improve its internal actions. Early on, the USAREUR G–4 had only one civilian working part-time to oversee the contract. However, it was soon realized that more logistics support requirements increased contract costs and created a critical need for more contract oversight manpower. So the G–4 office hired a Balkans program manager with contracting expertise and engaged four program analysts to form a contract management cell.

These hiring actions provided a group of dedicated staff members to manage the contract. This team is largely responsible for supporting and implementing cost-control actions. The G–4 also added an on-site CETAC liaison, and later an on-site KBR liaison, to help with planning.

This contract management cell improved the G–4’s visibility over contractor actions in the areas of sub-contracting, incidental construction and services, and property purchases. The cell issued technical directions that required the contractor to obtain consent from DCMA for subcontracting costs over $100,000. For added visibility of temporary construction incidental to providing services, the cell developed a process that required the contractor to provide prior notice and obtain approval for all work estimated to cost over $25,000. This procedure allows for systematic review and improved Government visibility.

Government consent for property purchases was enhanced by a modification requiring the contractor to provide written notification for any purchase greater than $5,000 and increasing the notification time from 5 to 10 days. This gave USAREUR greater visibility of and control over items that the contractor was purchasing to support operations and over incidental construction efforts. USAREUR began reviewing bills with increased knowledge of what was happening on the ground and found items such as unrealistically high hotel room costs for truck drivers and numbers of hotel bills exceeding the numbers of drivers. All discrepancies were corrected.

USAREUR also fully recognizes the importance of an outside look at how it does business and often has relied extensively on organizations such as the Army Audit Agency and USAREUR’s Internal Review and Compliance Office to review various aspects of the operation. GAO’s role also cannot be underestimated. Regular GAO visits and follow-on audit recommendations provided momentum to efforts to control costs and independent monitoring that helped USAREUR judge the success of its efforts.

As stated earlier, KBR earns a base profit of 1 percent of the negotiated estimated cost of work performed and an award fee of up to 8 percent of that amount. The negotiated estimated cost is the basis for both the base fee and the award fee pool and directly affects the amount of money the contractor can earn. If the negotiated estimated cost is inflated, the Government pays more than necessary; if it is understated, the contractor receives less compensation than merited.

The originally negotiated estimated cost was set before major downsizing in the Balkans and did not take into account USAREUR-directed operational changes that subsequently reduced actual costs. USAREUR worked with CETAC to review the estimate at the completion of the award period and, as a result, renegotiated with the contractor. The estimated cost of the work performed for fiscal years 2003 and 2004 was revised from approximately $578 million to approximately $419 million, thus reducing the base and award fee pools for this period by approximately $13 million.

USAREUR also added more representatives to the award fee board, which originally was composed of CETAC, DCMA, and USAREUR personnel. The number of CETAC voting members was reduced and the USAREUR G–8 (Comptroller) and G–1 (Personnel) were added to the USAREUR personnel already on the board (the USAREUR G–4 and Deputy Chief of Staff for Engineering).

USAREUR instituted partnering sessions with the contractor and a Senior Management Council. These meetings are set to coincide with meetings of the award fee board and further improve communications among KBR, CETAC, and USAREUR. The meetings also involve the contractor in the contingency planning process.

Finally, adding an on-site KBR liaison within the G–4 has provided valuable feedback and allowed USAREUR to make more cost-effective operational decisions.

Aligning Mission, Troops, and Contract

While USAREUR was reducing contract costs, operational requirements also were changing. From May 1999 to December 2003, the number of troops in the Balkans was reduced by 70 percent. One would assume that reducing troops would help to reduce costs, but the decline in troop strength did not lead to an equivalent reduction in costs.

As troop levels declined, functions that had previously been performed by Soldiers shifted to the contractor. The contract originally included such services as base camp operations and maintenance, food service, laundry, equipment maintenance, road maintenance, transportation, and environmental services. As troops performing other missions left, KBR took on those duties, including firefighting, airfield crash and rescue, snow and ice removal, vehicle maintenance, and supply support activity operation.

The overall reduction in troop strength and deployments created a need to reduce the number and geographical spread of facilities and consolidate personnel and services. Each facility’s closure and dismantling was new work, which increased the cost of the contract. However, constant synchronization of contract operations with mission requirements saved money in the long run.

Even though USAREUR asked the contractor to provide more services, consolidate personnel, and deconstruct camps and facilities, it was able to reduce Balkans contract costs by 63 percent. From fiscal year 1999 to fiscal year 2003, USAREUR CONOPS spending dropped from $2.280 billion to $782 million, while Balkans support costs fell from $579.1 million to $215.8 million. Contract costs remained approximately 25 percent of CONOPS spending in the Balkans during this period, while contracted services steadily increased. This was a significant accomplishment.

What lessons can be learned from the USAREUR experience with contracted logistics support in the Balkans? First and foremost, someone must be responsible for contract management and oversight—in effect, have “ownership” of the contract. Early on, USAREUR’s Deputy Commanding General established a clear line of accountability and responsibility for the contract to the USAREUR G–4 while maintaining his own involvement and oversight throughout the process. The Army would not buy a weapon system without a program or project manager to oversee production on an ongoing basis; a service contract also requires continuous Government oversight and management.

Second, change requires adequate resources. The USAREUR G–4 increased its contract administration workforce, originally consisting of one part-time employee, by adding a Balkans program manager and four program analysts.

Third, audit agencies, including GAO, should be considered partners in achieving effective resource stewardship. USAREUR found over the years that GAO really could be a friend; its feedback served as the basis for actions to control contract costs. USAREUR worked to implement GAO findings and used subsequent GAO visits to assess the success of its efforts.

Finally, partnership works. Controlling costs must be a collaborative effort, with all of the stakeholders fully committed to the result. Through the award fee boards, the senior management council, and various process action teams, the USAREUR G–4 began to partner with KBR, the task forces, CETAC, and DCMA.

By jointly setting service standards and by providing a financial incentive for the contractor to control costs, the personnel serving down range and the KBR personnel became partners with the USAREUR staff in achieving cost-reduction goals. All the players worked toward the same end: providing excellent, cost-effective support to our Soldiers deployed to the Balkans. ALOG

Theresa Davis is the Deputy Chief of the Plans and Operations Division, G–4 (Logistics), U.S. Army Europe, in Heidelberg, Germany. She holds a bachelor’s degree in art from Mercyhurst College in Pennsylvania and a master’s degree in computer information systems from Boston University.