Risk and reward must be part of DOD acquisition reform efforts

Undersecretary of Defense for Acquisition, Technology and Logistics Ashton Carter has launched an important and potentially valuable initiative to improve the department’s acquisition processes and outcomes. In so doing, he has developed a roadmap of primary focus areas and has set down some key markers.

Among those markers are improvement in the tradecraft for acquiring services, increasing competition, driving innovation, and reducing high-risk contracts in favor of more fixed-price contracts. Carter has also stressed that his goal is not to reduce contractor profitability but to reduce costs and improve performance. It remains to be seen whether in execution that will be the case.

Carter is right that the department’s services acquisition practices and processes are too often characterized by inconsistency, inadequate requirements definition and a lack of internal knowledge of the services market. But it is not at all clear that the policies emanating from the initiative will actually produce better outcomes or are consistent with sound business practices. That is largely because it appears that one key factor is not being adequately considered—that factor is risk.

The essence of a business deal revolves around the participants’ relative risks and rewards. In some of Carter’s initiatives, however, that balance is in real question.

For example, while the increased use of fixed-price contracts might make sense in certain cases, by definition it means that risk is being shifted to the private sector. But the rewards are being diluted through increased formal or informal pre- and post-award cost audits and arbitrary limits on profit, both of which are directly counter to balancing risk, as well as the letter and spirit of current law and regulation.

Similarly, the Defense Department is concerned that some contractors have earned excessive profits on some time and materials contracts. Such a narrow focus ignores the fact that on other contract types, profitability is often far lower, often in the low to mid-single digits. From a business risk perspective, overall profitability across a company portfolio is more important than the profit on an individual contract. And when total profitability is considered, the available data make clear that this sector is average at best when compared to the commercial marketplace. However, there are no signs that this holistic view is part of the department’s current thinking.

Carter has also advocated for increased innovation. One crucial key to innovation is the effective use of best value contracting, through which bidders get meaningful credit for their competitive discriminators and innovative approaches. But today, far too many DOD procurements are awarded on little more than basic technical qualifications followed by a price shootout. Thus far, this dichotomy remains unaddressed in these acquisition initiatives.

Finally, even as Carter appropriately called for the development of a taxonomy defining the varied services DOD procures, we continue to see a one-size-fits-all approach to acquisition policy, and few signs that this is changing. Far too few acquisition strategies or policies meaningfully consider the dramatic differences between different services sectors and the subsets within sectors. This must be a core element of any forward-looking acquisition policies.

Carter’s initiatives have real potential to drive better outcomes for the government, and he deserves credit for putting them out there. But success is only possible if those responsible for implementation look broadly and objectively across the spectrum of business issues rather than narrowly at only a select few pieces of the puzzle. Because there is little evidence of this broader perspective today, concern is growing that these important initiatives could ultimately both reduce the health of a critical industry and fail to achieve the valuable objectives Carter has set. That’s a lose-lose situation.