The Issue of Acquisition and Procurement Reform of Defense Equipments
--- Where Did the Aspect of Maintaining and Promoting the Defense Industry Go? ---
by Yoshio SHONO
Member
of Research Committee, DRC
Maintenance of defense capability is the core of national security promotion.
It is the big misfortune of our country that the realization of maintenance of defense power is being restrained through the price of a modernistic highly efficient equipment articles are soaring in recent years and national finance have been tight, and that defense systems acquisition and procurement are confused with the incident in Central Procurement Office of Defense Agency.
Although acquisition and procurement reform were started as the measure, since it was carried out only in the idea which gives priority to the government who is a customer, and that is rational but the obstacle of promotion of defense power for present and the future on the other side. Present situation is shown here, and the direction of settlement of the issue will be suggested.
1. Defense
Equipments Acquisition Reform
"National Defense Program Outline in and after FY1996" and "1996 Mid-Term Defense Build-up Plan" emphasized the need to consider that a more efficient procurement and supply posture should maintain, while responding to the trend toward an information-oriented society, to reduce procurement and other expenditures. In an increasingly tight fiscal situation, the Defense Agency decided to maintain an efficient procurement and supply posture with a view to controlling the life-cycle cost.
On the other hand, as for the environmental surroundings of the defense industries, in recent years the financial situation has become increasingly severe and order amount has followed a downward trend, the defense industries are making efforts to rationalize their business and improve efficiency, through such measures as personnel reassignment and reduction of capital investment.
In May 1996, the Defense Agency created the Acquisition Reform Committee under the chairmanship of the Director General of the Bureau of Equipment. In June 1998, the committee reported their investigations for measures of various stages of the life cycle of the equipments as follows.
①In the research and development stage, setting procurement cost reduction goals for controlling life-cycle costs, such as the wider use of civilian technologies and trade-off studies of equipments performance, the estimated mass production unit price of the equipments should be reduced.
②In the procurement stage, making wider use of civilian products through relief and restriction of Self Defense Force original demand General Operational Requirement conditions, abolition of the Defense Agency Standards, and adoption of the Commercial Standards and reviewing the SDF Specifications now in use, the procurement prices should be reduced.
③In the maintenance and repair stage, making efforts to reduce costs, periodic maintenance intervals should be skipped or expended under confirming operational safety.
④Introduction of ISO9000s and CALS should be promoted, improving the cost accounting system, equalization of the time of the procurement requests, and early calculation of the standard expense ratio, for improving the efficiency of procurement business.
⑤Through efforts required to the industries, cost reduction goals will be set, with the objective of reducing costs by 10% over the three-year period, by strengthening of market principles.
2. CPO Malfeasance Incident and Procurement Reform
Following a special investigation by the Central Procurement Office from 1993 to 1995 into four companies, overpayment of the Defense Agency based on inflated man-hours requested by these companies was discovered. Regarding return of excess money from these companies, in September 1998 the Tokyo District Public Prosecutor’s Office arrested and charged the former Director General and Deputy Director General of the CPO, together with the CEOs and other officers of these companies, on suspicion of having illicitly reduction of the money.
The Defense Agency was galvanized by this malfeasance incident, insufficient effort to shed light on the real situation by themselves, and some systematical concealing of evidences, then decided to implement fundamental reform of defense procurement system separately from acquisition reform for regaining the public trust which had been lost.
In September 1998, a Study Group into Defense Procurement Systems, including well-informed persons in the private sector such as a university professor and a certified public accountant was convened, and the Defense Procurement Reform Headquarters was established headed by the Minister of State of Defense.
In November 1998, the Study Group submitted the findings of the following basic principle for procurement reform and improvement as a fundamental direction.
①As going back to the origin of defense procurement, improve the government procurement system and structure and cultivate the autonomous attitude of companies.
②Considering that the foundations of the procurement is pursuit of economical efficiency, raise the market principle, reduce procurement cost, and secure fairness and transparency.
③Complete a mutual confidence relation of user and supplier (government and industry), maintaining a strain relation, recover reliance of procurement administration.
Based on the investigation of the procurement system of the foreign countries by the Study Group, "Concrete Measures for Procurement Reform" was reported by the Reform Headquarters in April 1999.
①”Reinforcement of Market Principles”: Promote practical use of civilian products and technologies, review the Defense Agency Standards and Specifications including shift to the Function and Performance Specifications, and secure competition nature under the Sole Source Contract, and also extend the opportunity of entry for new companies as supply sauce through public presentation of Standards and Specifications.
②”Investigating the propriety of the Cost Accounting Formula etc.”: Clarify the employment standard of the Expense Ratio and the Test & Research Expense, and revise the Estimated Price Directives, which do not suit the modernized accounting processing of company.
③”Measures to Ensure Credibility in Documents Submitted by Companies”: Specify the duty to accept accounting system auditing, and the obligation to keep contract related documents, and the prohibition of the fraudulent documents submission.
④”Maintenance of a System to Check Man-Hours”: Build up the CALS network and develop on-line system for checking man-hours in a comprehensive way.
⑤”Auditors’ Official Visit and Dispatch system”: Improve cost accounting and cost auditing capability through visiting and dispatching to companies.
⑥”Clear Criteria for Handling Business for in Cases of Overpayment”: Specify to implement clear and consistent methods for handling overpayment.
⑦”Measures to Improve Incentive to Companies for Cost Reduction”: Introduce "The Price Reduction Proposal System" which pays 50% of the amount of money of decrease to the company for three years as a charge for the proposed depreciation technology.
⑧”Assuring the Effectiveness of Concrete Measures”: Carry out the reform measures, through fully considering the influence on the defense production and technical basis, and the consciousness reform of personnel.
Subsequently, Reform of Procurement Institutions was shown as follows.
①”Modalities for New Central Procurement Organization”: The Central Procurement Office will be abolished, the Cost Accounting Department will be absorbed into the Internal Bureau, and the Contracts Head Office will be established as a special organization to oversee the Contracts Department. In conjunction with the reform of the central ministries and agencies, the function of the Bureau of Finance and the Bureau of Equipment will be consolidated into the Administrative Bureau, which will be placed with the Cost Accounting Department. (The Reform was carried out on January 2001)
②”Establishment of the Third-Party Auditing System”: Establish the new Defense Procurement Council, and perform a discussion of the procurement standards etc.
③”Enhancement of Education and Training”: Systematic education and training of the special knowledge of procurement business will be conducted for people working in procurement activities, and improve the awareness of them.
Furthermore, reviewing modalities for re-employment of retired Self Defense Force personnel was conducted.
3. The Issue of Acquisition
and Procurement Reform
(1) Maintaining and Preservation of Defense Industry
In Japan, the Defense Agency and the Self Defense Forces have not manufactured any defense equipments. The SDFs have some maintenance capability for operational requirement, so almost of the defense equipments are manufactured, maintained and repaired by civilian companies. This means that maintaining and preservation of defense industry is the basis of the national security.
However, the reform was initiated as doing shopping efficiently based on "Financial priority" and "Correction of the company". Therefore, it was difficult to establish "Posture of the government-industry cooperation", and the stable procurement situation of the defense equipments could not be constructed, and maintaining and strengthening of the defense power and the decrease of acquisition and procurement cost could not be achieved at the same time. Frankly speaking, it seems that the government takes one-sidedly high-ranking posture.
After the Self Defense Forces start, fortunately our defense equipments have never been consumed at all in the actual war, and never been exported to foreign countries because the Japanese government has “Three Principles on Arms Exports”. Therefore, the Japanese defense equipments are models of small amount production of many kinds, mass production effect is not available in the manufacturing, and the cost reduction is not so easy. Then, this system of acquisition and procurement reform, which does not consider the aspect of the maintaining and preservation of the defense industry, is not necessarily good as the national security policy.
(2) Cost Management
The recognition that "The basis of procurement is pursuit of the economy" is the basic idea in this reform as being in the report of the Study Group. This is correct as the economic principle. However, the idea that a concrete method for decrease of the life cycle cost is “Cost Management” is not always applicable to all equipments.
When directly procured equipments said, "Equipments directly procured from company" requested to be procured, so far, the demand origin of the SDF has usually asked to the specific company to establish a project team in the company for research and development. Then, the engineering group had existed for taking charge of the life cycle of the equipments from the stage of planning, development, designing, making models for trial purposes, manufacturing, quality control, inspection, delivery, examination, operation, and improvement remodeling to abandonment. This means that the cost management was enforceable during the life cycle of the equipments at the manufacturer and the demand origin though the procurement related officials of former Central Procurement Office had not understood because only the stage of procurement they took part in.
However, the cost management was not fully enforceable this time, as a result of the reform of reducing the number of sole source contract as much as possible because of non-transparent and non-fair, and shifting to the open bid contract or the limited bid contract. And the prior exchange of the information between the government and company is not enough, the content of the procurement specifications is insufficient, the intention of detail of the demand origin is not explained before "Tender". Consequently, the most important understanding by the company of the object equipments at so-called "Upstream of acquisition business" is not obtained.
Moreover, about the acquisition of large-scale R&D equipments said, "Equipments procured through R&D of TRDI" which takes a large part of the defense procurement money, the government post in charge at each stage of planning, performance and functional requirements, development, procurement, or maintenance is different respectively in dividing O lengthways. As a result, the cost management is not surely enforceable after the system is reformed either.
The cost management of civilian products to win by the market rivalry is management of the target cost to achieve the sales price based on marketing research for earnings securing. Therefore, this management is achieved through the negotiation with the subcontract companies or the parts supply companies for sharing incentives, or by the change in the performance and the design of own product.
On the other hand, the achievement of the performance and functional requirements is basically assumed to be the first target in the case of the defense equipments, and then the priority of the cost might be below the second.
Therefore, the procurement method that the required original conditions of the SDFs are eased or limited at the procurement stage and the specification is reviewed for purpose of decreasing procurement cost would not be thought to be applicable to all of the defense equipments used for the combat operation.
(3) Competing Principle
A competing principle has been strengthened based on the Defense Procurement Reform Headquarters Report. However, details of the intention of the demand origin of the directly procured equipments and import equipments be procured by the open bid contract cannot be transmitted enough as previously shown.
Moreover, it is difficult to procure the best equipments at the minimum price by the open bid contract because the present procurement specifications are not the function and performance specifications including all of the requirements postulated.
The cost accounting business at the former Central Procurement Office (about 1,000 government personnel) was about 5,000 a year, and the new contract was about 10,000 a year. About 260 procurement-related officials processed this business, and then the annual number of processing business per person was about 20 to 40.
It is said that the companies submitting material of 8,000-12,000 a year is examined in the United States, and persons in charge of about 4,000 of the DCAA and 13,000-14,000 of the DCMC are executing this business. When the amount of the business per person is compared, the number of procurement-related officials in our country is only about 1/20 or less of the United States.
It might almost be impossible that these few procurement-related officials conduct such business that the execution of an enough preliminary qualification exam of the technological development and manufacturing capacity of all companies ahead of competitive bidding, accurate understanding of the content of the procurement specifications and the demands postulated, the explanation of the procurement specifications, the judgment of the company proposal, confirmation of the warranty of the company in the future, and inspection of the products under manufacturing.
That is, the application of the competing principle might not necessarily be the best method.
(4) Contract Methods
The contract methods for present equipments procurement are the open bid contract, the limited bid contract, the sole source contract, and the limited incentive share contract by the Price Reduction Proposal System. There are no incentive contract methods such as the auto industries are applying, and no various risk incentive contract methods executed in the United States at all. This might be the issue of the government posture that various selectable contract methods for the opponent of the contract are not necessary they think.
Moreover, there is a fixed price contract by the open bid with the condition of the execution of cost auditing. This might become from a stereotype posture that a past sole source contract should be changed to the open bid contract according to the reform policy.
4. Feature of IC&E Equipments Procurement
The procurement amount of the Information, Communication and Electronics (IC&E) Equipments shows the tendency to increase by the advancement of IT. The conversion to the open bid contract from the sole source contract and strengthening the competition are intensively advanced in this communication and electronics field. There are some features in the procurement of this IC&E Equipments.
(1) Manufacturing Cost of Software
One of the kernels of IC&E Equipments is software built into the computer or the microprocessor. It is difficult to estimate the manufacturing cost of this software accurately. Then, the Request for Proposal or the procurement specifications of the IC&E Equipments are difficult to describe strictly and accurately because of difficulty of deciding the appropriate price based on the high R&D and production risks.
An excellent software engineer would be able to make a smart program and to realize the required performance by developing the best algorithm in a short time. However, a person not so could make only a tedious program, which uses a lot of memories even if he/she spends a lot of time, and the amount of bugs would be much.
For a creative and advanced brainwork such as programming or software engineering, a correct evaluation would not be able to give by the cost calculation method using a standard expense ratio and average work man-hours.
The software contents of the composition, the scale, the operation logic, the processing speed, the concatenation, and the data I/O etc., which are the kernel of the product could not be expected to be understood correctly by procurement-related officials whose related knowledge might not be enough.
The price of general-purpose civilian products look alike the defense equipment is decided as a sales price from the target cost of the mass production, so it might be difficult to refer to presume the cost of the defense equipment software.
(2) Life Cycle Cost
As for parts and units of COTS, restyling, remodeling or abandonment by rapid advancement of IT or performance improvement is carried out in the extremely short term. The period of the life cycle of IC&E Equipments, which use parts and units of COTS, would be considerably short.
Therefore, if parts or units of COTS are adapted to the equipments for the price decrease, the life cycle cost might not necessarily be decreased anytime.
(3) Forms of Enterprise
A small-scale venture company might be able to receive an government order likely the one shot by proposing lower price of the product much used civilian parts after the procurement reform, which recommended the open bid contract.
Majority of the Japanese IC&E Equipments companies have existed as a small-scale defense production and sales section in the big electronics company, which mainly manufactures the civilian products.
If an equal profit to other civilian products sections in its company is required to obtain, the defense IC&E Equipments section could not survive in-house because of being defeated by a small-scale venture company at the competition.
5. Direction for Problem Solving
(1) Maintaining and Preservation of the Defense Industry
The S D Fs do not have any operational experience of the actual combat, and so there would be many problems in adequate acquisition and procurement of the defense equipments, which will be immediately used upon the emergency in the future.
It is important that the level of company engineer's knowledge and skill should be improved through that the performance and functional requirements decided by the operational results of the exercise and by the research of the future combat aspects are informed concretely to the defense industry and that the conference for realization as the equipments is held with them.
It is necessary that the maintaining and preservation measure of the defense industry should be concretely planed and executed, recognizing that the suppliers should not be bullied but be fostered, researching the case with the foreign country, and considering special circumstances of our country, which does not export any arms.
(2) Reconstruction of Situation for Government and Industries Cooperation
The acquisition and procurement reform was advanced only because of the intention of the government, and neither the opinion nor the demand from the private sector was adopted. Therefore, after generating the Central Procurement Office incident, the relation between government and industries has been estranged.
A good cooperation between the customer, user and the supplier should try to be constructed again, providing an opportunity to talk each other in equality, for a smooth and efficient acquisition and procurement of the important defense equipments.
(3) Capability Improvement of Procurement-Related Official
The polite transaction of business affairs and the adequate judgment are required in the defense equipments procurement, but there is not enough number of the person in charge and the business time to do so. Moreover, almost of procurement-related officials would not be providing with a necessary and intimate capability.
Then, it is necessary to increase the officials first of all, to strengthen the education and training, to introduce the Official Capacity System, which clarifies the correspondence of the ability and the business level, to make up the duty regulations at each arrangement, and to specify the procurement-related officials authority and the responsibility clearly.
However, the whole government administrative reform is being executed now, the procurement-related official increase might be difficult, then it is necessary to establish the independent organization for supporting or supplying the procurement business, and to promote the use of outsourcing. Moreover, the SETA (System Engineering Technical Assistant) system should be introduced for reinforcing a technical capability of the government when the large-scale system is developed.
(4) Diversification of Contract Method
It is necessary to set the contract method to which the government also allots the risk and to set the various risk incentive contract methods that the company can judge the difficulty of the business through the conference with the government and select.
Moreover, setting the long duration of contract such as the contracts of a long-term full service of six years or more might be necessary.
(5) Proper Evaluation of Brainwork
It is necessary to recognize that there is a difference of the capability level in the brainwork which is the intellectual business, and set two or more expense ratios corresponding to worker's mental level as already carried out in the United States.
The standard target value of an appropriate working time or program size would be able to be specified for programming referring to a lot of the developed programs, and assign of no recognition for the amount of work more than the target value. Moreover, assuming the fixed price contract by the value evaluation of the equipment as well as the civilian products might be an effective method for IC&E Equipments.
The full studies on the brainwork evaluation are necessary including the investigation of the case with the foreign country.
(6) Neutralization of Grievance Organization
It is not necessarily appropriate that the contract organization is accepting the complaint from the company concerning the contractual price, the condition of contract or the vendor selection, etc. The third party should perform handling the complaints.
Moreover, the "Defense System Ombudsman" system should be established as the neutral organization of a third party, which audits the realities of acquisition and procurement and situation of trouble in a fair standpoint.
The acquisition and procurement reform being carried out now is based on the government requirements and the customer priority initiations, and have the feeling from which some bitterness has been forced on the defense industry.
It seems that the considerable defects would be caused in the defense power maintenance in the future, as the way will be going.
The issue of the acquisition and procurement of equipments should be settled, not losing sight of the aspect of the effective maintaining and the stable preservation of production and technological basis of the defense industry for the national security, including the additional surveillance study on the case with the foreign country.
In the defense power maintenance, it is necessary to recognize that the true final customer is Japanese citizen.
Reference
1. Defense White Paper, 1999-2001st edition
2. Defense Agency Homepage, 2001.8.1
3. Toshihiro Nishiguchi, Business Review, Hitotsubashi University Innovation Research Center, VOL.47, NO.4, Mar.2000
4. Renya Inagaki, Monthly JADY, June 2001