Rickover and the "Nickle Letter"

Today's quote comes from page 53-54 of the 1968 Senate hearings on Economy in Military Procurement, Part 2, featuring Admiral Hyman G. Rickover.

"Admiral Rickover. I reccall a recent experience with this type of thinking "the nickle letters." In August of this year the Navy proposed to place a $50 million contract with a company at a profit of 2.29 percent.

"Chairman Proxmire. Let me understand the 2.29 percent figure. Was that the percentage of profit to sales or to cost?

"Admiral Rickover. It is 2.29 percent of estimated cost. That may sound like a low profit -- 

"Chairman Proxmire. It does indeed. In testimony yersterday, the Department of Defense witness said that the average profit on defense work was 9.4 percent.

"Admiral Rickover. Actually, it was quite adequate under the circumstances. The contract incolved no risk for the company and almost no investment, and the Navy has been working on the same terms with this company for many years.

"In any event, because of the amount oof this contract, it had to be approved by higher authority. When I submitted the contract for approval, I received a formal letter stating the contract was disapproved because the profit was too low....However, in order to have the contract approved, I was willing to increase the fee on this $50 million contract from $1,147,023 to 1,147,023.05 -- and increase from 2.29 percent to 2.29000001  percent."

The nickle letter from Rickover shows the DoD's obsession with profit because it have no understanding of value. Rickover quoted Oliver Cromwell who said: "I beeseach you, in the bowels of Christ, to think it possible you have been mistaken." He had to fight the Navy to let a contract that the firm already agreed to!

Today, there does not seem to be the exact same issue. For example, in billion dollar service contracts where there is little or no risk, there is no question the government will pay a small fee in percentage terms, but a huge one in dollar terms.

As Rickover later showed, almost all of the contract to the prime would be subcontracted out. The prime would only incur $1.473 million in labor costs and receive $1.147 million in profit. Of course, the prime's overhead costs outweighed its labor costs. But that's closer to 50% profit on capital invested. Not too shabby.

The general popint is that the meaningful measure of profitability is the percentage profit on invested capital, and not total sales. Retailers such as Amazon or Wal Mart may make far less profit in percentage terms to their total sales because they are not as "vertically integrated" as, say, commodity producers are. They contribute little end value to the item, so their profits should be lower.

This outcome is natural in market competition, but needs to be willfully imposed in the non-market environment of defense procurement.

It appears forgotten in Rickover's biographies just how sophisticated he was in contracting and procurement. In this hearing, Rickover had no preparation (because he was not initially aware they were occuring) and he still provided an absurdly detailed discussion on a vast array of issues.

Advanced prototyping, a last minute deal for the F-16

Today's quote is from the 1971 Senate hearings on Advanced Prototyping. Here is Air Force General K. R. Chapman:

"... we think three- to five-man teams on each project working closely with the contractor, strongly supported by our inhouse laboratories and systems division, would compare very favorably with 50- to 250-man program offices that are in our full scale production efforts.

“Some of the principles that we have looked at, which we think are useful here, are to reduce the requirement for special reporting by the use of the contractor formatted data; to waive or set aside several hundred procedural policy regulations, manuals and directives that normally govern our full development, procedure; also to, in other cases, selectively apply but not contractually invoke some of these existing directives. Reporting of the program managers would be kept as simple and direct as possible and in terms of the split test program we are talking about the services and the contractor jointly performing this with the contractor retaining the right through his designers to make changes during that program...

"We believe that our solicitation can be reduced to a Request for Proposal of about 25 pages compared to what we are doing today. We think the contractor response can be held to about 60 pages compared to what we have received today.”

General Chapman was one of the service representatives accompanying Deputy Secretary of Defense David Packard. They came to the Senate on September 9, 1971 to plead for additional prototype funding in the FY1972 budget, which officially began on October 1, 1971. Further, Packard said "We believe this should be an authorization rather than a reprograming or tradeoff action."

In other words, increase the DoD top line with three weeks left to the start of budget execution. Rather unorthodox, one might suppose. The amount came to $63.7 million. I wonder if some of that money went directly to the YF-16 and YF-17 flyoff:

"In January 1972, proposals were sought for a fighter with excellent acceleration, turn rate and range in the 20,000-pound weight class… In February 1972, Lockheed, General Dynamics, Boeing, Northrop and LingTemco-Vought (LTV, later Vought) submitted proposals… The Air Force selected General Dynamics and Northrop in April 1972 to design and build two prototypes each"

Notice how they took no time at all, requesting proposals from industry just four months after begging for the money and receiving four bids just a month after that; it only took another two months to select the winners. Both were truly winners, as General Dynamics would go on to build the F-16 after winning the Air Force competition and Northrop the F-18, which evolved out of the YF-17 that lost the competition. Both are mainstays.

I'll frame this as a questionable last minute budget deal, purposefully put out in front of the public, that had unquestionable good results. However favorable prototyping is, and it is favorable, the situation feels like short-termism that allowed the DoD not to internalize the reform it asked for. Packard himself resigned two months after the Sepember 1971 hearings.

That second quote was from “Quest to Build a Better Fighter” by Michael Sanibel.

Supercomputer to navigate regulations?

Here is Scott Chandler in a Lexington Institute article:

"The defense acquisition system is a construct of government, erected over decades and codified in statute that now exceeds 180,000 pages.  It is so complex that the Air Force commissioned a supercomputer to make sense of it."

I'll leave the 180,000 pages alone. The news article announcing the Air Force supercomputer to deal with the acquisition process should give one pause. Here is the Air Force justification:

"The Air Force pointed to a 2006 study by the Government Accountability Office, Congress’ top watchdog, which found that 'the challenge of operating in accordance with complex federal acquisition regulations discourages small and innovative businesses from partnering with the government in emerging markets.'

"The Air Force hopes the new system will be an advanced tool, making it easier for businesses to understand the requirements of a contract and to get any of their questions answered immediately by the computer system."

So to encourage small business and innovation in new markets... the Air Force wants a supercomputer to navigate the deluge of regulations? It's not clear what processes the supercomputer would execute, how all the rules will be simplified through number crunching, what information people could to "mine," and whether its biggest benefit accrue to existing prime contractors and lead to further consolidation.

A pristine farm of super computers

Here is a thought to chew on: the Air Force will "teach the system how to understand context so that it can answer questions accurately."