DoD Scales Back on Sole Source Purchase Justifications from One Particular Supplier

Last week, we posted a three-part series discussing the TransDigm case. If you recall, the DoD Office of Inspector General (OIG) conducted an audit of purchases from the company (and its subsidiaries) and found that in a sample of  47 contracts, 46 of them were overpriced. The OIG calculated the Government was overcharged by about $16 million, even after allowing for a 15 percent profit. TransDigm paid that money back (with significant pressure from Congress). Now, Congress wants the OIG to look at the entire universe of contracts awarded to TransDigm to determine the full extent of overcharging. If you missed any of the previous postings, you can access them here.

• Part 1 - TransDigm pays back $16 million in overcharges
• Part 2 - How overcharging was allowed to occur
• Part 3 - OIG recommendations to prevent future overcharges

Last Friday, the Defense Department told its contracting officers that it can no longer buy products from TransDigm (or its 150 or so subsidiaries) unless it receives uncertified cost or pricing data to support prices proposed by TransDigm. DoD now understands the problem and its significance to fair and reasonable pricing:

FAR ... provides that adequate price competition exists if two or more responsible offerors, competing independently, submit priced offers that satisfy the Government's expressed requirement. Even where there is only one manufacturer of an item, an acquisition complies with this definition as long as offerors each establish their proposed price independently. However, the definition of adequate price competition does not address the fact that a sole manufacturer (such as TransDigm) participating in a competition can effectively control the competition by its ability to establish the material pricing for all other offerors. In these situations, the Department does not consider such rigged competitions to be adequate price competition, based on independently submitted offers.

Therefore ... contracting officers are directed to require the submission of uncertified cost or pricing data to support prices proposed by TransDigm and its subsidiaries.

Contracting officers have requested cost or pricing data in that past but TransDigm has refused. Given the critical nature of the parts being bought, TransDigm just might have the upper hand.

The DoD directive with its listing of 150 TransDigm subsidiaries can be found here.

RELATED: Article appearing in Forbes Magazine: Congress is Accepting Price Gouging by Defense Contractors. Alleges that the Transdigm case is only the tip of the iceberg.

Recommendations to Prevent Overcharging by Sole-Source Contractors

For the past two days, we have been discussing the TransDigm case where the DoD contractor significantly overcharged the Government for spare parts. Parts 1 and 2 can be accessed here and here, respectively.

To recap, the House Committee on Oversight and Reform requested the Defense Department OIG (Office of Inspector General) to look into concerns brought to their attention concerning potential overcharging by TransDigm. The OIG pulled a sample of contracts and determined that 46 of 47 contracts were overpriced by $16 million. Ultimately, TransDigm paid back the $16 million but now, the House Committee has requested the OIG to perform a comprehensive review of all TransDigm contracts with the DoD.

The OIG pointed out a number of regulations that contributed to the overcharging including the fact that contracting officers had no recourse when contractors refuse to provide requested cost or pricing data needed to determine price reasonableness. The OIG also made a number of recommendations to avoid future occurrences including the following:

1. Examine the US Code, FAR, DFARS, and other guidance to determine changes needed in the acquisition process of parts produced or provided from a sole-source to ensure that contracting officers obtain uncertified cost data when requested and that the DoD receives full and fair value for its expenditures.
2. Immediately revise the policy on access to records to expand reporting requirements to all contractor denial of cost data for acquisitions of parts produced by one manufacturer, as well as for other sole-source acquisitions, regardless of whether the requirement is urgent. Disseminate the new guidance and update the DFARS as appropriate.
3. Establish a team of functional experts to analyze data reported. The team should assess parts and contractors deemed to be at high risk for unreasonable pricing and identify trends and perform price analysis and cost analysis of high-risk parts to identify lower cost alternatives or fair and reasonable pricing for future procurements.

DoD's response was fairly non-committal. DoD essentially stated that it would look into the matter but didn't address specifics of when and how the recommendations would be implemented. Therefore, from the OIG's perspective, the recommendations remain unresolved.

TransDigm - How Overcharging Was Allowed to Occur

Yesterday we discussed the House Committee on Oversight and Reform's role in securing a $16 million return of excess profits by TransDigm on its DoD contracts. Today we want to take a closer look at the DoD Office of Inspector General's (OIG's) audit report that disclosed the overcharging to see how existing regulations allowed the overcharges to occur. If  you missed yesterday's installment, you can access it here.

The OIG determined that TransDigm earned excess profit on 46 of 47 parts purchased by the Defense Department even though contracting officers followed the FAR (Federal Acquisition Regulations) and DFARS (DoD FAR Supplement) when they determined that prices were fair and reasonable. How does that happen? Under what circumstances does FAR allow profit margins up to 4,451 percent (that percentage is not a typo - TransDigm really earned profit of 4,451 percent on one of the purchases. On average, profit on the 46 parts was more than 100 percent.

Contracting officers used FAR and DFARS-allowed pricing methods, including historical price analysis, competition, and cost analysis to determine whether prices were fair and reasonable. The OIG however concluded that historical price analysis and competition were unreliable in identifying when TransDigm was charging excess profit because,

• prices for parts had become inflated over time, and some parts appeared to be inflated at the time the Government first purchased the part, further compounding the excess profits and

• TransDigm was the only manufacturer at the time for the majority of the parts competitively awarded, giving TransDigm the opportunity to set the market price for those parts because the other competitors planned to buy the parts from TransDigm before selling them to the Government.

 According to the OIG, performing cost analysis using certified or uncertified cost data is the most reliable way to determine whether a price is fair and reasonable. Contracting officers are required to obtain certified cost data before awarding contracts above the TINA threshold and can request uncertified cost data for those below the threshold. However, contracting officers are often prevented from obtaining uncertified cost data because of the following reasons:

• FAR enables sole-source providers and manufacturers of spare parts to avoid providing uncertified cost data, even when requested, because of the less stringent requirements for awarding small dollar value contracts and commercial item contracts.
• There is no specific requirement in FAR that requires or compels contractors to provide certified or uncertified cost data to the contracting officer when requested before the contract is awarded
• Statutory and regulatory requirements discourage contracting officers from asking for uncertified cost data when determining whether a price is fair and reasonable.

In many of the contracts awarded to TransDigm, contracting officers justified the price as 'the best obtainable price' because TransDigm refused to submit cost or pricing data and the contracting officers had exhausted other methods of determining price reasonableness and the need was urgent.

Tomorrow we will look at the OIG's recommendations for preventing future occurrences of price gouging.