Defense Infrastructure:

Actions Taken to Improve the Management of Utility Privatization, but Some Concerns Remain

GAO-06-914: Published: Sep 5, 2006. Publicly Released: Sep 5, 2006.

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Department of Defense (DOD) installations have about 2,600 electric, water, wastewater, and natural gas utility systems valued at about $50 billion. In 1997, DOD decided that privatization was the preferred method for improving utility systems, and Congress approved legislative authority for privatizing DOD's utility systems with Public Law No. 105-85. DOD estimates that some utility privatization contracts will cost over $100 million. In a May 2005 report, GAO identified several management weaknesses in DOD's implementation of the program. The Fiscal Year 2006 National Defense Authorization Act required GAO to evaluate and report on changes to the utility privatization program since May 2005. Accordingly, this report updates the status of the program and discusses the effect of DOD's changes on the concerns noted last year. To conduct this review, GAO summarized program status and costs, assessed DOD's changes to program guidance and in other areas, and reviewed the services' implementation of the changes.

DOD's progress in implementing the utility privatization program has been slower than expected and the estimated completion date has slipped from the department's target of September 2005 to September 2011. DOD attributed the delays to the complexity of the program and to the services' decision to suspend and reassess the management of the program between October 2005 and March 2006. Since May 2005, the services privatized 14 utility systems under the legislative authority for the program, bringing the total number of awarded projects to 81. However, the services have awarded no projects since DOD issued new program guidance in November 2005. Meanwhile, the services' total estimated program implementation costs through fiscal year 2006 have increased to $285 million, and more funds will be required before the program is completed in 2011. Since GAO's May 2005 report, DOD has issued new guidance and required changes in procedures. If fully implemented, these changes should result in more reliable economic analyses, improved budgetary consideration of increased utility costs, enhanced oversight of privatization contracts, and reduced instances where contractors recover more than the fair market value paid for system conveyances. However, a number of concerns from the May 2005 report remain. For example, although DOD made changes to improve the reliability of project economic analyses by requiring independent reviews, GAO reviewed 10 economic analyses and found reliability issues that had not been identified during the independent reviews. DOD directed the services to adequately consider in their budgets the increased costs resulting from utility privatization. However, questions remain over the availability of the funds needed to complete the program because the services estimate that they will need $453 million more than is currently programmed to pay costs associated with remaining utility systems that might be privatized. Although DOD made many changes to improve contract administration and oversight, it may take some time to fully implement the changes as new privatization contracts are awarded. GAO's review of five projects awarded prior to DOD's changes found continuing questions about the adequacy of resources provided to perform oversight and the lack of required plans for overseeing contractor performance. It is too early in the program's implementation to know to what extent DOD's efforts will be successful in ensuring equitable periodic contract price adjustments and limiting long-term cost growth in the utility privatization program. However, GAO found indications that cost growth may become a challenge. DOD did not change its guidance to require that project economic analyses depict the actual expected costs of continued government ownership if the systems are not privatized. Therefore, DOD's reported $650 million in long-term cost reductions is unrealistic.

Status Legend:

More Info
  • Review Pending-GAO has not yet assessed implementation status.
  • Open-Actions to satisfy the intent of the recommendation have not been taken or are being planned, or actions that partially satisfy the intent of the recommendation have been taken.
  • Closed-implemented-Actions that satisfy the intent of the recommendation have been taken.
  • Closed-not implemented-While the intent of the recommendation has not been satisfied, time or circumstances have rendered the recommendation invalid.
    • Review Pending
    • Open
    • Closed - implemented
    • Closed - not implemented

    Recommendations for Executive Action

    Recommendation: The Secretary of Defense should direct the Deputy Under Secretary of Defense (Installations and Environment) to require, in addition to the "should cost" estimate, that each project economic analysis include the system's current annual costs and the actual expected annual costs if the system is not privatized.

    Agency Affected: Department of Defense

    Status: Closed - Not Implemented

    Comments: In comments on a draft of this report, DOD indicated disagreement with our recommendation to require, in addition to the "should cost" estimate, that each project economic analysis include the system's current annual costs and the actual expected annual costs if the system is not privatized. The Department also stated that full implementation of its November 2005 guidance will provide further reassurance that every conveyance will reduce the long-term costs compared to the costs of continued ownership. However, as noted in our 2005 and 2006 reports, we believe that in the short term the utility privatization program increases annual costs to the government where contractors make system improvements and recoup their costs from the department through their service contracts. DOD's sole use of should costs as a basis for comparing its long-term costs with those contained in contractor proposals provides a less clear picture of savings to the government since the government's should costs do not provide a realistic portrayal of the planned government expenditures. Update 3/19/08: Recommendation closed not implemented.

    Recommendation: The Secretary of Defense should direct the Deputy Under Secretary of Defense (Installations and Environment) to place additional emphasis on monitoring contract cost growth as utility privatization contracts undergo periodic price adjustments and other changes are negotiated.

    Agency Affected: Department of Defense

    Status: Closed - Implemented

    Comments: In comments on a draft of this report, DOD partially agreed with this recommendation. In March 2008, DOD officials said that the department intends to issue additional guidance within the revised DOD instruction 4170.11, Installation Energy Management. DOD is rewriting this instruction to encompass changes recommended by GAO report, as well as Executive Order 13423, Strengthening Federal Environmental, Energy and Transportation Management. DOD anticipates issuing the revised instruction, which will place emphasis on the need to control risk of cost growth and monitor contract cost growth. In December 2009, the revised guidance was issued.

    Recommendation: The Secretary of Defense should direct the Deputy Under Secretary of Defense (Installations and Environment) to ensure that utility privatization contracts awarded prior to the November 2005 supplemental guidance have adequate resources and contractor performance surveillance plans.

    Agency Affected: Department of Defense

    Status: Closed - Implemented

    Comments: During the December 11, 2006, meeting of the Utilities Privatization Working Group, the Office of the Secretary of Defense (OSD) reiterated to the military services that Federal Acquisition Regulations require a written evaluation plan and emphasized that these plans are valuable and essential components of government oversight. Additionally, the Defense Acquisition University developed a new Utilities Privatization Contract Administration training module. In May 2007, OSD sent the module to all utilities privatization program managers in the military services.

    Recommendation: The Secretary of Defense should direct the Deputy Under Secretary of Defense (Installations and Environment) to address the utility privatization program potential funding shortfall in view of all DOD and service funding and priority needs.

    Agency Affected: Department of Defense

    Status: Closed - Implemented

    Comments: During the December 11, 2006, meeting of the Utilities Privatization Working Group, the Office of the Secretary of Defense (OSD) reiterated to the military services the requirement to properly consider and plan for utility privatization. In addition, in March 2007, DOD awarded a contract to gather and update data, including funding needs, for the utility privatization program. OSD officials stated that OSD would continue to monitor progress of the program.

    Recommendation: The Secretary of Defense should direct the Deputy Under Secretary of Defense (Installations and Environment) to issue guidance requiring the services to perform the postconveyance reviews as noted in DOD's March 2006 report to Congress.

    Agency Affected: Department of Defense

    Status: Closed - Implemented

    Comments: In comments on a draft of this report, DOD agreed with this recommendation and outlined actions for implementation. DOD intends to issue the guidance within the revised DOD instruction 4170.11, Installation Energy Management. DOD is rewriting this instruction to encompass changes recommended by the GAO report, as well as Executive Order 13423, Strengthening Federal Environmental, Energy and Transportation Management. DOD issued the revised instruction in December 2009.

    Recommendation: The Secretary of Defense should direct the Deputy Under Secretary of Defense (Installations and Environment) to require independent reviewers to report to decision makers on the thoroughness of each economic analysis and any significant anomalies in the assumptions used and estimated costs for each ownership option.

    Agency Affected: Department of Defense

    Status: Closed - Implemented

    Comments: During the December 11, 2006, meeting of the Utilities Privatization Working Group, the Office of the Secretary of Defense (OSD) discussed the specific concerns raised in our report and emphasized to the military services the scope of the independent reviews of the analyses supporting proposed conveyances. OSD further emphasized that future lessons learned would also be shared through the Utilities Privatization Working Group.

    Recommendation: The Secretary of Defense should direct the Deputy Under Secretary of Defense (Installations and Environment) to issue detailed guidance explaining how the services should incorporate margins of error in the economic analyses.

    Agency Affected: Department of Defense

    Status: Closed - Implemented

    Comments: DOD agreed with this recommendation and outlined actions for implementation. As a result of a December 2007 meeting of the Utilities Privatization Working Group, DOD has gathered information from the service components on the methods they use for margin of error analysis. The revised DOD instruction 4170.11, Installation Energy Management, will include guidance for margin of error analyses when it is issued in 2009. The revised instruction was issued in December 2009.

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