Overhead Allocation and Incentives for Cost Minimization in Defense Procurement

摘要

Defense firms typically produce a large number of products and it is oftendifficult to keep track of the cost of producing each separate product. Much as the rest of American industry, defense firms have typically dealt with this difficulty by directly charging a small fraction of their costs. The remaining costs are grouped together in overhead pools and allocated across products usually in proportion to direct labor use. The purpose of this report is to explain a problem that this creates for the defense procurement process. The problem occurs because the responsiveness of price to accounting cost varies between products.