Factors Causing Prices to Increase

We identified five factors that accounted for about 95 percent of the sales  price increase from $119.99 per direct labor hour in fiscal year 2000 to  $237.84 per hour in fiscal year 2004. By far the most significant of these  factors was material costs, which accounted for about 67 percent of the  total increase. Air Force depot maintenance officials have yet to complete  an effective and comprehensive analysis to determine the underlying  causes of the material cost increases. Our analysis also  showed that the fiscal year 2004 cash surcharge was unnecessary  because the Air Force Working Capital Fund’s $2.5 billion cash balance  as of January 31, 2004, was already more than $1.3 billion higher than  the maximum level allowed by DOD policy. Either the Office of the  Secretary of Defense or the Congress could use this unneeded cash to  satisfy other requirements. Further, our analysis showed that about 61 percent of the higher labor cost  was due to factors that are largely beyond the activity group’s control, such  as annual cost-of-living increases and increased costs for health benefits  for federal employees. The   $2.5 billion amount was more than $1.3 billion higher than the maximum  allowed by DOD policy. When we contacted Office of the Secretary of Defense officials in March  2004 about the Air Force Working Capital Fund’s excess cash, in general,  and the depot maintenance activity group’s fiscal year 2004 cash surcharge,  in particular, they stated that they allowed the Air Force to include a cash  surcharge in its depot maintenance activity group’s fiscal year 2004 sales  prices because (1) problems related to ongoing efforts to implement a new  accounting system made the reliability of the activity group’s accounting  data questionable and (2) uncertainty related to ongoing actions to remove  contract depot maintenance operations from the Air Force Working Capital  Fund made it difficult to reliably project future cash collections and  disbursements. Prices Charged Customers Were Not Set High Enough to Recover Costs

Prices that the depot maintenance activity group charged customers were  not set high enough to recover the group’s reported costs of performing the  work. Air Force officials at the three air logistics centers and the Air Force  Materiel Command informed us that the activity group’s prices were not set  high enough because the Air Force artificially constrained the activity  group’s prices for fiscal years 2000 through 2003 by not including all  anticipated costs in the prices. The Air Force changed its sales price development philosophy in 2002 in an  effort to bring prices charged customers in fiscal year 2004 more in line  with operating costs. In addition, the Air Force allowed out-of-cycle price  increases in fiscal years 2002 and 2003 to alleviate projected losses. Customer Sales Prices Constrained

Air Force officials told us the prices were constrained to help ensure that  the activity group’s customers would be able to get needed work done with  the amount of funds provided them through the budget process. Although these efforts represent a positive step in  trying to better understand and control its depot maintenance costs, the  Command has not (1) completed a successful methodology for analyzing  the reasons for the rapid material cost increases and (2) entered data into a  data repository that is to be used to share cost-saving ideas among the  three air logistics centers on process improvements and track the costs and  savings for these improvements. Scope and Methodology

To determine what factors were primarily responsible for causing the  composite sales price to increase from $119.99 per hour in fiscal year 2000  to $237.84 per hour in fiscal year 2004, we obtained and analyzed budget  documents that provided information on cost factors, such as material  costs, overhead costs, and salaries used in developing the prices. To determine if the Air Force has taken effective steps to improve  efficiency and control the activity group’s costs, we obtained the  Command’s depot maintenance database that contained 108 initiatives  aimed at improving depot maintenance operations.
Why GAO Did This Study

The Air Force depot maintenance activity group in-house operations generate about $5 billion in annual revenue principally by repairing aircraft, missiles, engines, and other assets. In doing so, the group operates under the working capital fund concept, where customers are to be charged the anticipated costs of providing goods and services to them. The group's average price for in-house work almost doubled between fiscal years 2000 and 2004 from $119.99 per hour to $237.84 per hour. GAO was asked to determine (1) what factors were primarily responsible for the price increase, (2) if the prices charged recovered the reported actual costs of performing the work, and (3) if the Air Force has taken effective steps to improve efficiency and control the activity group's costs.

What GAO Found

GAO identified five primary factors that showed why the Air Force depot maintenance activity group's average price increased from $119.99 per direct labor hour of work in fiscal year 2000 to $237.84 per hour in fiscal year 2004. An increase in material costs accounted for about 67 percent of the total increase and was by far the most significant factor. The Air Force has identified some of the causes of the higher material costs such as aging aircraft, but has yet to complete an effective and comprehensive analysis of material cost increases. As a result, it (1) cannot quantify the extent to which individual causes contributed to higher costs and (2) does not know if it has identified all of the major causes. GAO's analysis of the other four factors showed that (1) the increase in labor costs was due largely to events beyond the group's control, such as annual salary increases, (2) the increase in business operations costs was due partly to costs related to implementing a new accounting system, (3) a surcharge intended to recoup anticipated losses on work carried over from the previous fiscal year may have been unnecessary, and (4) a surcharge intended to generate additional cash in fiscal year 2004 for the Air Force Working Capital Fund was unnecessary. GAO's analysis showed that due in part to these surcharges (1) the Air Force Working Capital Fund, which includes the depot maintenance and several other activity groups, had a $2.5 billion cash balance as of January 31, 2004 and (2) this balance was more than $1.3 billion higher than the maximum level allowed by DOD policy. Either the Office of the Secretary of Defense or the Congress could use this unneeded cash to satisfy other requirements. DOD officials told us that they are exploring options on what to do with the excess cash. GAO's analysis of the group's financial reports showed that prices charged customers were not set high enough to recover about $1.1 billion of the group's reported costs for fiscal years 2000 through 2003. The activity group is required by DOD policy to set prices to recoup the cost of doing work. However, Air Force officials informed us that the prices were artificially constrained to help ensure that the group's customers would be able to get needed work done with the amount of funds provided to them through the budget process. The Air Force changed its sales price development philosophy to bring prices charged customers in fiscal year 2004 more in line with operating costs. In addition, the Air Force allowed out-of-cycle price increases in fiscal years 2002 and 2003 to alleviate projected losses. Further, the Air Force Materiel Command has not been successful in its efforts to control costs. Although several promising initiatives are underway, the Command has not (1) developed a successful methodology for analyzing the reasons for the rapid material cost increase and (2) effectively utilized an established data repository for sharing cost-saving ideas among the three air logistics centers on process improvements and to demonstrate whether its cost savings initiatives have been successful.