U.S. Department of Defense Faces Obstacles in Meeting Small-Business Contract Goals

For Release

November 12, 2008

Many of the goods and services purchased by the U.S. Department of Defense are from industries that are often better suited to larger companies rather than smaller ones, complicating efforts to meet goals that about one-fourth of prime-contract dollars be awarded to small businesses, according to a RAND Corporation study issued today.

Since 1997, the Defense Department and other federal agencies have been assigned agency-specific goals of spending a set percentage of contract dollars on goods and services with small businesses. In 2004 and 2005, the department exceeded its goal of 23 percent, but fell short during 2002, 2003 and 2006.

In addition to the prime-contracting goal, the Defense Department also has a goal of having 35 percent of the work performed under large contracts be subcontracted to small businesses, a level the DoD has exceeded in most recent years.

"Our research found that the Department of Defense spends more within industries where there are fewer small businesses, and less within industries where small businesses are better represented," said Nancy Young Moore, the study's lead author and a senior management scientist at RAND, a nonprofit research organization. "In many cases, the reasons are beyond the department's or the contractor's power to control."

Equipment and services the Defense Department purchases -- such as aircraft manufacturing, engineering services, and ship-building -- are provided mainly by industries dominated by large companies. Also, because of competitive pressures for economies of scale, flexibility, innovation and agility, many of these industries are often better suited to larger companies rather than smaller ones.

Industry consolidation through mergers and acquisitions has further reduced the number of companies in some industries. And in industries where the small businesses share is greater than Defense Department use, more research is needed to determine if there is a poor match between the department's requirements and the products and services offered by smaller companies, according to the report.

For some goods and services, the Defense Department uses small businesses in a larger proportion than its industry concentration in order to meet its overall goals, Moore said. In six industries in which the department spends at least $100 million a year, its small-business utilization rate is more than 95 percent. Those industries are: fruit and vegetable markets; janitorial services; sporting goods stores; landscaping services; industrial supplies merchant wholesalers; and photographic equipment and supplies merchant wholesalers.

The Defense Department's percentage of small-business contracts also fluctuates depending on what its spending priorities are from year to year, Moore said. In 1985, when weapon system procurement was at a peak, the department spent only 19 percent of its prime-contract spending with small businesses, its lowest level in decades. In 1996, when weapon system procurement was at an ebb and operations and maintenance spending was a larger portion of the Defense Department's total spending, it spent 23 percent of its prime-contract spending with small businesses.

One way to help the Defense Department better meet its contracting goals would be for the U.S. Small Business Administration to raise its threshold levels for what defines a small business in industries where a large scale of production or investment is necessary. Alternately, small-business utilization goals could be set for specific industries rather than as a constant percentage of total spending, Moore said, so that industry-specific goals reflect the practical realities of the ability of small businesses to function in certain industries.

The RAND study found that the Defense Department's e-commerce system does not appear to deter small businesses from competing for contracts.

However, Moore and her colleagues found numerous instances in which the Department of Defense does not have enough information to determine what may hamper its ability to increase the use of small businesses. Federal procurement regulations limit the consolidation of contracts into a single contract that would not be suitable to award to a small business. But the study found insufficient data to accurately calculate the extent of "bundling" in department contracts or even if such bundling is a significant barrier for small companies.

The study was sponsored by the Defense Department's Office of Small Business Programs and conducted within the Acquisitions and Technology Policy Center of the RAND National Defense Research Institute, a federally funded research and development center whose sponsors include the Office of the Secretary of Defense, the Joint Staff, the Unified Combatant Commands, the defense agencies, the Department of the Navy, and the defense Intelligence Community.

The study, "Enhancing Small-Business Opportunities in the DoD," can be found at www.rand.org. Other authors of the study are Clifford A Grammich, Julie DaVanzo, Bruce Held, John Coombs and Judith Mele, all of RAND.

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