Price Check

The Pentagon has a problem. Over the next decade, its plan for modernizing the military far exceeds its anticipated $260 billion-a-year budget. By how much, no one can say for sure. After analyzing available budget and planning documents, the independent Center for Strategic and Budgetary Assessments estimates the mismatch between plans and funding to be about $26 billion a year.

One of the reasons for the shortfall, which the center says could be smaller than projected but just as likely will be larger, is the Pentagon's historic tendency to vastly underestimate the costs of buying, operating and supporting its weapons systems.

Service officials are trying to do something about that. By focusing on the expenses associated with owning weapons, and not just the initial purchase price, they are attempting to get a grip on runaway costs.

"In the past we spent so much effort in areas of research, development and acquisition, because they were tied to the budgets we were receiving, that people didn't ask too many questions in the area of operations and support," says Ron Rosenthal, head of the cost department at the Naval Air Systems Command.

Huge cuts in military spending, especially modernization funding, have forced the services to start asking those questions, military officials say. The concern over modernization funding is palpable at the Pentagon, where managers have been robbing modernization accounts to pay for current, unplanned operations and for training to keep troops ready for war.

Over the next 10 years, the Defense Department plans to spend hundreds of billions of dollars to buy several major weapons systems, including three new fighter aircraft, the New Attack Submarine and a new fleet of surface combatants. Many of these systems will cost at least twice as much to procure as the systems they are designed to replace, exacerbating concerns about their long-term affordability.

The services have reason for concern. All have recently been forced to dramatically curtail purchases, and many officials anticipate more cuts. The Army was forced to cancel its Armored Gun System program in 1996 for lack of money; the Navy canceled its revolutionary arsenal ship program and has delayed for several years the development of a new hull for the CVX, a new class of aircraft carriers; and the Air Force, Navy and Marine Corps have all scaled back the number of fighter jets they plan to buy over the next several years.

Understanding and managing the total ownership costs of military weapons systems is essential to the services' future modernization plans, says Kenneth Oscar, the Army's deputy assistant secretary for procurement.

"This is a huge problem, and one that does not lend itself to easy solutions," he says.

Age-Old Problem

It is also a long-standing problem. Col. Scoop Cooper, director of the Air Force's recently established Total Ownership Cost Program Office, starts all his briefings on the subject with a quote from Sun Tzu, the sixth century B.C. Chinese warrior philosopher. In The Art of War, Sun Tzu estimated that 60 percent of military spending is required to cover broken down chariots, worn out horses, armor, arrows and crossbows, supply wagons and other support costs.

Things haven't changed much. While the weapons are different, the high cost of maintaining them isn't. The Navy, for instance, estimates 64 percent of the lifetime costs of a surface combatant ship can be attributed to operation and support.

"This isn't really a new phenomenon," says Cooper. But the budget crunch has renewed Pentagon efforts to curb operation and support costs. Determining some costs, such as those associated with personnel and logistics support, is extremely difficult, he says. Such costs are usually spread across departments and programs, making it difficult to cull cost information.

The services are devoting resources to the issue, and by the middle of this month, each is to report to Jacques Gansler, DoD's undersecretary for acquisition and technology, with specific plans for curbing costs in at least five pilot programs per service.

"What we're trying to do now is get visibility into the life-cycle cost of our weapons systems [and] even into some of our own facilities, depots, laboratories," says Gansler. "You don't have cost visibility simply because you know how many people are there and what their payroll is. You want to know what they're doing and how that relates to their output, which is what activity-based costing will do."

Steven Kosiak, director of budget studies at CSBA, says, "By far the largest share of DoD's budget is absorbed by [operation and support] costs." Kosiak details the mismatch between Defense modernization plans and the budget in his report, "Cost of Defense Plan Could Exceed Available Funding by $26 Billion a Year Over Long Run."

The military has had a much easier time cutting operation and support costs associated with supporting combat units, such as the cost of fuel and supplies, than it has cutting indirect or overhead expenses, Kosiak found. In fact, some costs have actually increased as a result of expanded requirements and missions, such as environmental cleanup and peacekeeping operations, he said.

Since the end of the Cold War in 1989, the number of active duty troops has been cut by 33 percent. Over the same period, operation and support costs fell by 22 percent. "Thus, while total [operation and support] costs declined, on a per troop basis, those costs actually grew, from about $107,000 to $125,000 per troop," Kosiak reported.

'Affordable Readiness'

The difficulty of managing costs was the topic of a Defense Acquisition Reform Senior Steering Group meeting last November at the Pentagon. The single biggest obstacle to driving down costs is the lack of adequate cost accounting data, according to the minutes of the meeting.

"In the early 1990s, we didn't want to know the real costs; rather, we obfuscated costs," said one participant. Now, when officials want to know the costs, they find their accounting systems cannot support their requirements.

Rosenthal agrees. NAVAIR is developing a process to collect better cost data for everything from depot repair, fuel and spare parts to personnel, to establish a baseline against which progress can be measured for each weapons system NAVAIR manages. "The budgeting process was not conducive to capturing those costs," he says.

Under a plan it calls Affordable Readiness, NAVAIR in 1996 instituted a comprehensive program to address total ownership costs, which NAVAIR defines as all research, development, procurement, operation, logistical support and disposal costs of an individual weapon system. The definition includes supporting infrastructure and personnel costs incurred over the life of the weapon.

"The onus is on us to show that we know where we can achieve results, that we understand the system and that we can measure it," says Vice Adm. John Lockard, NAVAIR commander. Lockard has placed heavy emphasis on gathering better cost data to show NAVAIR customers in the fleet and other services where savings can be achieved. NAVAIR received about $16.4 billion in funding last year, mainly from Naval Operation and other Navy and service accounts, to procure products and services.

Under Lockard, program managers at NAVAIR are required to develop Affordable Readiness Plans to capture, manage and reduce costs over the lifetime of each weapon system. They also must estimate savings and justify investments that could save money. Last year, all major aircraft programs had detailed Affordable Readiness Plans. This year, those plans are being refined.

When NAVAIR first began considering total ownership cost data two years ago, it took a specialist as long as 12 months to extract and pull together the relevant data from NAVAIR's antiquated financial systems. Thanks to a lot of hard work by people across the Navy, that process is now taking about three months-still too long, but much better, Rosenthal says.

NAVAIR has been able to break down major cost categories to 136 discrete cost elements and identify internal and external factors that influence them. This has helped managers target areas for cutting costs.

All of the services rely on a data collection system called Visibility and Management of Operation and Support Costs for insight into support costs. But the systems are managed differently in each service and data is not necessarily comparable, a problem when trying to assess costs of programs managed by more than one service. In addition, the system is managed by the financial community, not the acquisition community. The cost data captured by VAMOSC describes what weapon was repaired and where it was repaired, but not why. That missing link is critical to managing costs.

New Maintenance Schedules

"We have to develop new algorithms to even measure costs and determine cost drivers," says Rear Adm. John Chenevey, assistant commander for logistics and assistant commander for industrial capabilities at NAVAIR. Only through detailed analysis of weapons systems and by documenting how weapons wear, what their vulnerabilities are over time, the cost of repairing individual parts, etc., will the Navy be able to manage total ownership costs, he says.

"You have to break down very complex systems to determine where a small investment can have a high payoff," Chenevey says. For instance, using a more expensive part in a weapon, while costing more in the short run, could reap substantial long-term savings if it lasts much longer or requires fewer repairs over the lifetime of the weapon.

So far, NAVAIR has identified savings of $404 million over a five-year period by adopting logistics engineering proposals to make design improvements on items with high cost and high failure rates.

The challenge for NAVAIR will be to get its customers in the fleet and other services to make those initial investments that could reap long-term savings. "This is very difficult. They're living hand to mouth," Chenevey says, and higher costs today are hard to sell for promised savings tomorrow. "We have to be very careful about how fast we introduce these changes," he says.

One area in which it might be easier for fleet managers to accommodate change is maintenance. NAVAIR officials say their cost data analysis shows that adopting new aircraft maintenance schedules may generate substantial savings. For instance, instead of doing major maintenance involving a lot of rework every eight years on a particular aircraft, a process that could take that aircraft out of the fleet for a year, it might make more sense to update certain systems on that aircraft every two years. Also, more maintenance could be accomplished on location, rather than at NAVAIR depots. Such changes could reduce the total investment of time and money over the life of an aircraft and keep the aircraft in service longer.

NAVAIR is analyzing depot-level maintenance to recommend changes in the maintenance schedules for four aircraft programs: the F/A-18 Hornet tactical fighter, the E-2 Hawkeye airborne early warning system, the S-3 Viking surveillance and targeting aircraft and the SH-60 Seahawk rescue helicopter.

Industry Role

Getting support from the fleet is only part of the challenge NAVAIR leaders face. Eighty percent of NAVAIR's budget goes to the private sector. "We wouldn't be responsible if we spent $16 billion and only concentrated on our own costs," says Allan Somoroff, NAVAIR deputy commander.

Several trends-Defense downsizing, the consolidation of the aerospace industry and reduced military spending-have converged to push NAVAIR to reconsider the way it works with industry. Also, the realization that the military would be maintaining aircraft longer, and buying fewer new planes, put additional pressure on military managers to reduce operating and maintenance support costs.

With these factors in mind, two years ago NAVAIR commissioned Coopers and Lybrand to study airline industry best practices in maintaining aging aircraft. What NAVAIR learned was that airlines that came of age after deregulation had developed extensive partnerships with subcontractors to gain efficiencies they couldn't have achieved on their own, says Lawrence Milan, deputy assistant commander for logistics.

"One of the significant driving factors to come out of that-and I'll admit we probably wouldn't have concluded this ourselves-was the opportunity to partner with industry and not invest in infrastructure," Milan says.

Through better contracting, NAVAIR officials believe they will be able to reduce support costs. For instance, a long-term, fixed-price, performance-based contract that requires a contractor to ensure continued operation of a particular aircraft component motivates the contractor to improve reliability of that part over time; reduced maintenance will mean a greater profit margin for the contractor. A traditional fee-for-service contract doesn't necessarily encourage the contractor to improve parts.

Such contracting will make the most of the private sector's strengths. "Industry can more rapidly make changes. They can reengineer something faster, exploit other technologies better than we can. That's what we want them to bring to the table," Milan says.

It may ultimately take more than creative contracting to bring down total ownership costs, though. Congress has restricted the amount of maintenance that can be performed outside military depots, and Defense officials increasingly see outsourcing work to private contractors as the most efficient way to keep down costs.

Even so, there is still plenty of room for improved efficiency within existing rules and regulations, says Lockard.

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