Case Study 24: From Defense Acquisitions, GAO-05-183, February 28, 2005

The U.S. Navy invests significantly to maintain technological superiority of its warships. In 2005 alone, $7.6 billion was devoted to new ship construction in six ship classes—96 percent of which was allocated to four classes: Arleigh Burke class destroyer, Nimitz class aircraft carrier, San Antonio class amphibious transport dock ship, and the Virginia class submarine. For the eight ships GAO assessed, the Congress had appropriated funds to cover the $2.1 billion increase in the ships’ budgets. GAO’s analysis indicated that total cost growth on these ships could reach $3.1 billion or even more if shipyards did not maintain current efficiency and meet schedules.

Cost growth for the CVN 77 aircraft carrier and the San Antonio lead ship (LPD 17) was particularly pronounced. Increases in labor hour and material costs together accounted for 77 percent of the cost growth on the eight ships. Shipbuilders frequently cited design modifications, the need for additional and more costly materials, and changes in employee pay and benefits as the key causes of this growth. For example, the San Antonio’s lead ship’s systems design continued to evolve even as construction began, which required rebuilding of completed areas to accommodate the design changes. Materials costs were often underbudgeted, as was the case with the Virginia class submarines and Nimitz class aircraft carriers. For the CVN 77 carrier, the shipbuilder was estimating a substantial increase in material costs.

Navy practices for estimating costs, contracting, and budgeting for ships have resulted in unrealistic funding of programs, increasing the likelihood of cost growth. Despite inherent uncertainties in the ship acquisition process, the Navy did not account for the probability of cost growth when estimating costs. Moreover, the Navy did not conduct an independent cost estimate for carriers or when substantial changes occurred in a ship class, which could have provided decision-makers with additional knowledge about a program’s potential costs. In addition, contract prices were negotiated and budgets established without sufficient design knowledge and construction knowledge. When unexpected events did occur, the incomplete and untimely reporting on program progress delayed the identification of problems and the Navy’s ability to correct them.

While DOD guidance allows some flexibility in program oversight, GAO found that reporting on contractor performance was inadequate to alert the Navy to potential cost growth for the eight case study ships. With the significant risk of cost growth in shipbuilding programs, it is important that program managers receive timely and complete cost performance reports from the contractors. However, earned value management—a tool that provides both program managers and the contractor insight into technical, cost, and schedule progress on their contracts—was not used effectively.

The quality of the cost performance reports, whether submitted monthly or quarterly, was inadequate in some cases—especially with regard to the variance analysis section, which describes any cost and schedule variances and the reasons for these variances and serves as an official, written record of the problems and actions taken by the shipbuilder to address them. Both the Virginia class submarine and the Nimitz class aircraft carrier programs’ variance analysis reports discussed the root causes for any cost growth and schedule slippage and described how these variances were affecting the shipbuilders’ projected final costs. However, the remaining case study ship programs generally tended to report only high-level reasons for cost and schedule variances with little to no detail regarding root cause analysis or mitigation efforts—making it difficult for managers to identify risk and take corrective action.

GAO recommended that to improve management of shipbuilding programs and promote early recognition of cost issues, the Secretary of Defense should direct the Secretary of the Navy to require shipbuilders to prepare variance analysis reports that identify root causes of reported variances, associated mitigation efforts, and future cost impacts. The Undersecretary of Defense for Acquisition, Technology, and Logistics directed components of the Department of Defense (DOD), including the Navy, to conduct a comprehensive review of earned value management system policies and practices in order to help improve the quality of cost/schedule reporting and surveillance in DOD programs. This review was intended to address recent audit findings and other identified deficiencies, such as the quality of variance analysis reports.

GAO reported these findings on February 28, 2005 in Defense Acquisitions: Improved Management Practices Could Help Minimize Cost Growth in Navy Shipbuilding Programs, GAO-05-183.