Background Overview of the EDA Program The EDA program is one of several programs designed to build partner capacity through the provision of excess defense equipment and services to foreign governments or international organizations such as the North Atlantic Treaty Organization (NATO). These excess items are provided as part of U.S. security assistance efforts and help to support U.S. foreign policy and national security objectives. The Foreign Assistance Act permits the transfer of excess defense articles provided that such transfers will not adversely affect the industrial base. In particular, under the Act, transfers must not reduce the opportunity for U.S. contractors to sell new or used defense equipment to countries requesting the transfer. Excess defense items can include aircraft, ammunition, clothing, radios, trucks, and spare parts. According to DOD officials, the vast majority of EDA items are low- to medium-level technologies that, if not transferred, would either be stored at cost to DOD or destroyed. Excess defense items can be transferred as grants—as permitted by the Foreign Assistance Act—or sold to eligible foreign governments at a reduced cost in “as is, where is” condition pursuant to the Arms Export Control Act. This means that the requesting foreign government is generally required to pay all repair or refurbishment costs, as well as all costs associated with transporting the EDA item—which can be located in the United States or outside the continental United States. As previously mentioned, for purposes of this report, transfers refer to grants of EDA items unless otherwise indicated. DSCA has overall responsibility for administering the EDA program. The Director of DSCA has been delegated authority to make the determination on whether a proposed transfer could adversely affect the industrial base. The military departments determine when defense items are no longer needed and can designate them as excess and, upon approval, can offer them as EDAs. Multiple federal entities play a role in the EDA program, as illustrated in figure 1. Following the interagency coordination, if DSCA determines the proposed transfer will not adversely affect industry and thus can proceed, DSCA notifies Congress about proposed transfers that are valued at over $7 million or that contain significant military equipment. As part of the congressional notification, DSCA provides information on (1) the purpose for which the item is being provided to the country, (2) whether the item has been previously provided to the country, (3) the current value and original acquisition value of the item, and (4) its findings regarding how industry will be affected by the proposed transfer. After a 30-day congressional notification period, DSCA authorizes the proposed transfer in consultation with State, provided that Congress does not object and all agencies concur with the transfer. DSCA follows the same process to review and approve all proposed EDA transfers—including for excess Humvees. One unique difference for Humvee transfers is a 2018 legislative requirement that Humvees be modernized with an armored or armor-capable crew compartment and a new modernized powertrain prior to a transfer, unless a waiver is granted. DOD Humvee Procurement and Sustainment Humvees, which are four-wheel drive military light trucks, have been part of DOD’s light tactical wheeled vehicle fleet since the 1980s. While the Army is the program office for Humvees, the vehicles have been used by other military departments in support of their own combat operations. Humvees were initially fielded to serve as a light, highly mobile and unarmored vehicle and are commonly used for combat operations; however, the Army National Guard also procures these vehicles for use in homeland defense and natural disaster relief operations. In efforts to adapt the Humvee to modern requirements for combat operations, the Army has increased the performance and protection of the vehicle over time. Over the past 30 years, AM General has produced three models—the M900, M1000, and M1100 series. The company no longer produces the M900 and M1000 series for combat operations and certain parts and components that are unique to these vehicles are obsolete or otherwise not readily available. The M1100 series, which is still in production and supports combat operations and many non-combat related operational and support missions, offers newer capabilities such as increased weight capacity. With the additional weight capacity, the 1100 series is the only model that can support the added armor requirements under the new legislative requirement without a substantial overhaul. Figure 2 highlights some of the capabilities of the different Humvee models. DOD’s light tactical wheeled vehicle strategy has changed since 2010, following lessons learned from military operations in Iraq and Afghanistan. DOD plans to shift from procuring new Humvees to sustaining existing vehicles in its fleet. In its 2014 Tactical Wheeled Vehicle Strategy, the Army stated plans to buy fewer new Humvees because the vehicle no longer fully meets its evolving mobility or protection requirements. While DOD decreased its procurement of Humvees for military operations, it has plans to upgrade and refurbish existing vehicles. There are nearly 300,000 Humvees or vehicles with the Humvee chassis operating globally by the U.S. military and other foreign governments. These vehicles are expected to require ongoing maintenance and upgrades for the next 20 to 30 years. DOD routinely conducts industrial base risk assessments to gain insight on the viability of current suppliers to meet its current and future requirements. The assessment takes into account a range of considerations including (1) factors that could cause a current supplier to go out of business or exit the market and (2) the extent to which an existing supplier relies on DOD, foreign military sales, or commercial sales. While these assessments are not routinely conducted as part of the excess defense article (EDA) transfer process, they may be undertaken to provide input on EDA transfers, as needed. The Army has efforts underway to acquire a new vehicle—the Joint Light Tactical Vehicle (JLTV)—to meet its future requirements. Although a different manufacturer was awarded the JLTV contract, in its industrial base risk assessment for this requirement, the Army stated it intends to maintain two manufacturers—including AM General—to meet its ongoing needs for light tactical wheeled vehicles. In a 2018 congressional briefing, the Army’s Acquisition, Logistics, and Technology Command estimated maintaining a relatively even mix of both vehicles—54,810 Humvees from existing inventory and 49,099 new JLTVs—to sustain operations for the foreseeable future. However, the Army is conducting a more comprehensive review of its light tactical vehicle requirements and plans to release its findings in an updated acquisition strategy expected in 2022. DSCA Approved Almost Half of Humvee Requests to Aid Foreign Governments’ Security Needs, but Approvals Have Halted Since 2017 DOD approved nearly half of the total Humvees requested by foreign governments for fiscal years 2012 through 2018. The requests were in support of foreign governments’ security efforts, such as counterterrorism. However, the number that was actually delivered was less than those approved because DOD decreased the number or foreign governments canceled their requests for various reasons. DSCA halted approvals of EDA Humvee requests since the start of fiscal year 2017 and raised concerns about the new statutory requirement to modernize Humvees prior to transfer. Nearly Half of EDA Humvee Transfer Requests Were Approved but Number Delivered Was Reduced for Various Reasons DOD approved nearly half of the total Humvees requested by foreign governments for fiscal years 2012 through 2018—7,612 vehicles of the 16,005 excess Humvees requested—but has not approved Humvee requests made since the start of fiscal year 2017. Figure 3 shows the number of Humvees requested and approved for transfer each fiscal year. The Majority of Humvee Requests Came from the Middle East and Africa Regions In our analysis of data provided by the Army and DSCA, we found from fiscal years 2012 through 2018, that 23 countries submitted requests for Humvees, including some requests in fiscal year 2018. The delivery of EDA items under the Foreign Assistance Act to certain countries is given priority to the maximum extent feasible. These countries include certain NATO countries, major non-NATO allies in the Middle East and Africa regions, and the Philippines. We found that the Middle East and Africa regions accounted for 75 percent of the vehicles requested over this period. Figure 4 shows the regional distribution of requests. The majority of requests for Humvees from countries in the Middle East and Africa regions were primarily to support various security-related missions. For example, one country requested excess Humvees for border security, counter smuggling, and counterterrorism operations. Such security-related efforts by foreign countries align with the U.S. 2018 National Defense Strategy, which states DOD’s objective to prevent terrorism globally and aid U.S. foreign partners in their counter-terrorism efforts. Additionally, the strategy aims to strengthen alliances and attract new partners by increasing interoperability to work together and effectively achieve military objectives. DSCA is required to state the comparative foreign policy benefits that the United States would gain from a grant transfer rather than a sale when it notifies Congress about a proposed transfer. In the documents we reviewed, DSCA cited foreign policy benefits such as increasing the capability of countries to take on a greater share of military operations, supporting joint operations with NATO, or counterterrorism and counter- narcotics operations. For example, for one request, DSCA determined that a requested transfer was in the U.S. national interest, as equipping the foreign country’s armed forces with Humvees would allow them to have an increased role in military operations in the Africa region. In turn, this would reduce the country’s reliance on U.S. forces for NATO operations. In addition to requesting vehicles for security-related operations, some countries planned to use vehicles for spare parts or had plans to refurbish the vehicles on their own. We found that about two-thirds of the Humvees delivered through the EDA program from fiscal years 2012 through 2018 were older models—either M900 or M1000 series—rather than the newer M1100 series. Most countries receiving deliveries of older models were seeking to replace existing vehicles in their fleet or to use EDA Humvees for spare parts. DSCA Halted Approvals and Cited Challenges Regarding New Statutory Requirements As previously mentioned in this report, DSCA has not approved any EDA Humvee requests since the start of fiscal year 2017. One reason, according to our analysis of DSCA data, is the manufacturer’s objections to proposed transfers. Another is because of the legislative provision in the Fiscal Year 2018 NDAA that requires Humvees to be modernized with an armored or armor-capable crew compartment and new, modernized powertrain prior to transferring. The corresponding conference report stated the conferees’ expectation that any modernization and refurbishment work must generally be done at no cost to DOD. According to DOD, the cost to modernize would be incurred by the requesting foreign government. Since the provision’s enactment, DOD has not exercised the authority to waive this legislative requirement for any Humvee request. Foreign governments have not been willing to pay for the modernization, so approvals have halted. Since the enactment of the modernization requirement in December 2017, DSCA has received requests for 4,103 Humvees. According to DSCA officials, when a foreign government submits a letter of request for EDA Humvees, DSCA notifies the country of the modernization requirement and its responsibility to pay for the cost to refurbish the vehicles in accordance with the law. In DOD documents we reviewed, foreign governments cited having limited budgets and being financially unable to purchase defense equipment such as Humvees. As such, they rely on the EDA program to acquire defense items. DSCA officials told us that the modernization work is to be done at no cost to the U.S. government; however, they added that paying the cost to modernize Humvees can be cost-prohibitive for foreign governments. Foreign governments can request, through DSCA, that the modernization requirement be waived. Since December 2017, according to DSCA officials, DSCA has received waiver requests from three foreign governments but has not exercised the waiver authority. According to DSCA officials, these requests likely will remain unapproved for the foreseeable future; however, the provision requiring the refurbishment of excess Humvees prior to transfer is set to expire in December 2020. According to DSCA officials, DSCA plans to resume its normal EDA approval process thereafter. Currently, according to DSCA officials, they are encouraging foreign governments to look at other options to meet their fleet requirements, including purchasing new Humvees. However, DSCA officials acknowledge that, if a foreign government cannot afford to buy new vehicles, DOD does not have any low-cost vehicles to offer as an alternative solution. However, DOD officials and Army documents we reviewed noted that even if foreign governments were able to independently fund the modernization costs, there are not sufficient quantities of the newer model Humvees—M1100 series—in inventory that can support the additional weight of the added armored capabilities for the modernized crew compartment. According to DSCA documentation, the EDA program has a little over a hundred vehicles that could be refurbished to the modernization requirements. Additionally, most of the Humvees in DOD’s inventory are older models that would first require a new expanded vehicle chassis to withstand the weight of adding armor. The officials likened the modernization process for the older model Humvees to essentially building a whole new vehicle. Determinations of Adverse Industrial Base Effects Are Driven by Increasing Objections from the Manufacturer, but Mitigation Actions Have Been Taken DSCA’s determinations of whether there is an adverse industrial base effect to approve Humvee transfers are largely based on objections from the manufacturer about the proposed transfers. Since 2015, the Humvee manufacturer has objected more frequently to the transfer of vehicles to foreign governments. In all but one instance when the manufacturer objected to a transfer, we found that DSCA and BIS took steps to address concerns of the Humvee manufacturer and reach a resolution, such as providing the manufacturer Humvee refurbishment work. Manufacturer’s Objection Is the Primary Factor in DSCA’s Determination DSCA’s decision on whether there is an adverse industrial base effect to approve a transfer of Humvees is largely based on the manufacturer’s perspective on a proposed transfer. DSCA has considerable latitude for such decisions as the Foreign Assistance Act, as delegated, does not specify how determinations should be made on whether proposed transfers could adversely affect U.S. industries. Historically, DSCA has sought input from BIS to aid its determination about potential industrial base effects of proposed transfers. According to DSCA officials, all proposed EDA Humvee transfers have undergone an assessment of adverse industrial base effect by BIS. We found that BIS actively engages the Humvee manufacturer on proposed transfer requests and supported all but one objection from fiscal years 2012 through 2018. BIS’s standard practice is to collect information from the prime contractor and other suppliers to inform its recommendation to DSCA about possible industrial base effects. As part of its efforts regarding proposed Humvee transfers, BIS notified AM General and provided information on all the transfer requests including the requesting country; number of vehicles requested; the vehicle model; and the country’s plans, if known, to repair or upgrade EDA vehicles, including who the country intends to select for such work. BIS officials told us that they request a response within 7 calendar days on whether the manufacturer supports or objects to the proposed transfer. In instances where the Humvee manufacturer objected to a transfer, BIS required that the manufacturer provide an explanation of its objection. In documents we reviewed, the manufacturer objected for various reasons, including that a transfer would: (1) directly interfere with ongoing marketing or planned sales to the requesting country, or (2) adversely affect its business and that of its suppliers. BIS’s standard procedure is to request proof of ongoing sales efforts if a company states that a proposed transfer will interfere with potential sales. In the cases where the Humvee manufacturer cited ongoing or planned business development with a requesting country, BIS required that the manufacturer provide information of its ongoing efforts to sell its vehicles to the requesting country, including: documentation of recent or planned meetings with foreign government officials and a timeline of the meetings; export licenses; and business plans. If a manufacturer submits an objection, BIS will also check if they have registered business activity with Commerce’s Advocacy Center, which provides assistance to defense companies pursuing contracts with overseas governments and government agencies. If BIS concludes the Humvee manufacturer has a basis for its objection due to ongoing business with the requesting country, it will recommend that DSCA not authorize the transfer. According to DSCA officials, this is largely because it considers the possibility that the transfer could dissuade requesting foreign governments from purchasing new or used vehicles. Thus, providing vehicles through the EDA program at no cost or a discounted price to a foreign government could siphon potential business from the manufacturer or could compete with the manufacturer’s sales efforts. Under the Foreign Assistance Act, a transfer request cannot be fulfilled if doing so will interfere with the manufacturer’s ability to sell equipment to the requesting country. During fiscal years 2012 through 2018, we found only one instance where DSCA, based on BIS’s recommendation, did not support AM General’s objection. In that case—a request for Humvees from Albania—DSCA moved forward and approved a Humvee transfer because the manufacturer could not demonstrate ongoing business with the requesting country. Humvee Manufacturer Has Increasingly Objected to Transfers, Leading to Delays in Providing Vehicles to Requesting Countries AM General has objected more frequently to the transfer of vehicles to foreign governments since March 2015. In 2015, the JLTV production contract was awarded to another contractor and the Humvee manufacturer sold its commercial automotive plant, both of which occurred in the wake of decreasing or nonrecurring DOD Humvee procurements in comparison to past years. In total, the Humvee manufacturer has challenged 11 transfer requests for over 4,000 vehicles between fiscal years 2015 and 2018. The manufacturer told us that the increasing number of proposed transfers is concerning because the transfers amount to nearly 3 years’ worth of new vehicles it could produce to sustain its production lines. AM General representatives told us they will continue to object to the transfer of older Humvee vehicles (M900 and M1000 models). For these models, the representatives citied concerns that parts for these vehicles are no longer in production, and thus the manufacturer cannot ensure qualified parts are available for maintenance and repairs. They are also concerned that older vehicles have the propensity to break down, which could damage the Humvee brand internationally—particularly, if counterfeit parts are used. In our review of documents describing requesting countries’ use of vehicles, we found that older model vehicles are, at times, accepted by foreign governments to use as spare parts to maintain an existing fleet and to develop their workforce’s capability to repair vehicles. However, we found that since 2015, the majority of vehicles to which the manufacturer objected were the newer M1100 models—stemming largely from a single 2016 request for Afghanistan. To support its objections to this transfer, AM General has stated that its own international sales are an important source of revenue, particularly because DOD has reduced its procurement of Humvees. AM General representatives explained that proposed transfers through the EDA program can threaten their company’s potential future sales to foreign governments that may be less likely to purchase new Humvees if DSCA approves transfers of used vehicles. According to the manufacturer, each transfer is a potential one-for-one reduction of a possible sale of a new vehicle to the requesting country, which can affect its bottom line as well as the suppliers that provide parts and materials to produce the Humvees. In our review of Army procurement data, we found that many countries that requested excess Humvees have not purchased them through the FMS program from fiscal years 2012 through 2018. DSCA officials told us that most of the countries requesting Humvees through the EDA program find it cost-prohibitive to purchase new Humvee vehicles directly from the manufacturer. A new Humvee can cost between $115,000 and $190,000 depending on the model and capabilities included. As a result, these countries rely on EDA Humvees provided through grants to sustain their military fleets. Figure 5 shows the number of Humvees procured by DOD relative to the number of vehicles foreign governments bought through the FMS program and those they were granted via the EDA program. We found that from fiscal years 2012 to 2018 AM General’s objections to proposed EDA Humvee transfers have increased the time that it takes for DSCA and BIS to review and make their determinations. If the manufacturer did not object to a transfer, which was largely the case prior to March 2015, BIS provided its recommendation to DSCA, on average, within 21 days. However, our analysis showed that an objection to a Humvee transfer on average added approximately 152 days to address industry objections. DSCA officials acknowledged that the approval process can be prolonged when the manufacturer objects to a proposed transfer, potentially contributing to longer waiting periods for requesting countries to receive the Humvees. In addition, the longer that vehicles remain in storage, the more likely it is that they will require more repairs to make them operational, resulting in increased costs to the requesting foreign governments to refurbish them, according to a DSCA official. Manufacturer representatives also told us they want to be involved earlier in the process to provide input on the potential effects of proposed transfers. We found that, on average, DSCA notifies BIS about 4 months after a country submits its Humvee request and BIS reaches out to the manufacturer a day or two later. A DSCA official explained that it can be a challenge to involve the manufacturer earlier because the request is not fully stable and could be revised for a number of reasons, including countries canceling the request or changing requirements to obtain different capabilities, and DOD internal policy considerations need to be vetted before reaching out to the manufacturer. Agencies Took Steps to Address Manufacturer’s Concerns In recent years, DSCA and BIS have taken steps to address AM General’s increasing objections to proposed transfers. In 2018, BIS modified its approach to assess adverse effects of Humvee transfers to consider an additional factor. Now, BIS considers the cumulative effect and totality of previous EDA Humvee requests, in addition to assessing each request on a case-by-case basis. According to BIS officials, this was in response to the pattern of consistent objections that they were receiving from the Humvee manufacturer. AM General acknowledged that communication with DSCA and BIS about Humvee EDA transfers has improved. For example, DSCA notified AM General about its decision to sustain the company’s objection and, thus, not move forward on a transfer request made in July 2019 for 2,000 vehicles. AM General told us that in the past, DSCA did not notify AM General about whether it had sustained or overruled the company’s objection to a proposed transfer. AM General’s objections to EDA Humvee transfers have at times led to additional business channels for the Humvee manufacturer. For example, we found that the manufacturer received business opportunities from EDA Humvee transfers to Afghanistan, Iraq, Jordan, and Thailand that included, providing long-term sustainment and refurbishment of Humvees, among other things. In response, the contractor withdrew over a third of its objections between fiscal years 2012 and 2018 based on receiving this type of work or reaching agreements with foreign governments to provide fully operational Humvees. The remaining transfers were cancelled; put on hold pending resolution with the Humvee manufacturer; or in one case, moved forward with an objection in place. The agreements to provide additional support can be financially beneficial to the manufacturer and help sustain its production capabilities. For example, we found that in 2012, the Humvee manufacturer objected to a country’s transfer request of 250 vehicles, but withdrew their objection after reaching an agreement with the foreign government to perform much of the refurbishment work for those vehicles. In another case, we found that for the 2016 proposed transfer of 2,461 vehicles to support the Afghanistan National Security Force, the Humvee manufacturer objected, citing concerns about the large number of vehicles requested, among other concerns (see sidebar). The proposed transfer of EDA Humvees to Afghanistan was requested by DOD after a 2016 Senate report expressed concerns about a lack of insight into the cost-benefit analysis of procuring new equipment instead of refurbishing excess equipment. In response to the proposed transfer, the manufacturer sent a letter to BIS outlining their anticipated role in the Afghanistan transfer, including obtaining Army contracts to add armor kits to EDA vehicles, providing new powered chassis, and if required, new Humvees. The letter also noted the Humvee manufacturer’s withdrawal of its objection to the transfer. DSCA subsequently notified the manufacturer that it did not agree with the terms AM General outlined in the letter to BIS and specified that the proposed transfer would create business opportunities for U.S. industry, including AM General, to refurbish EDA Humvees. DSCA also added that it would continue to ensure that industry is notified of all proposed Humvee EDA transfer requests so that industry can provide input or express concerns. According to DOD officials, the number of Humvees available for transfer to Afghanistan was reduced as DOD decided to split the number of available EDA Humvees in inventory at the time to meet requirements in Afghanistan and Iraq. In total, 1,644 vehicles were identified for transfer to Afghanistan. As part of this effort, according to information we received from the Army, AM General, and the Office of the Undersecretary of Defense for Policy, the Humvee manufacturer was awarded a contract to provide armor kits for the 1,644 EDA Humvees being refurbished by the Army’s Red River Depot. The manufacturer also provided other vehicle parts as part of the EDA transfer request for Afghanistan. According to DOD officials, it currently does not have plans to transfer additional vehicles to Afghanistan to fulfill the remaining EDA vehicles requested as part of the 2016 transfer request and will reevaluate future Afghanistan requirements, as needed. Agency Comments We provided a draft of this report to the Departments of Commerce and Defense for review and comment. Both agencies provided technical comments, which we incorporated as appropriate. We are sending copies of this report to the appropriate congressional committees and the Secretaries of the Departments of Commerce and Defense. In addition, this report is available at no charge on the GAO website at http://www.gao.gov. If you or your staff have any questions about this report, please contact me at (202) 512-4841 or makm@gao.gov. Contact points for our Offices of Congressional Relations and Public Affairs may be found on the last page of this report. GAO staff who made key contributions to this report are listed in appendix II. Appendix I: Objectives, Scope, and Methodology This report provides information about (1) DOD’s approval of grant transfers of excess High Mobility Multipurpose Wheeled Vehicles (HMMWV)—commonly pronounced Humvees— requested by foreign governments from fiscal years 2012 through 2018 and (2) how the Humvee manufacturer’s perspectives on the proposed transfers have been addressed by DOD as part of the determination of any adverse industrial base effects. To provide information about DOD’s approval of transfers of excess Humvees, we analyzed data for fiscal years 2012 through 2018 (the most recent available fiscal year at the time of our review) from the U.S. Army Security Assistance Command, Defense Security Cooperation Agency (DSCA), and the Defense Logistics Agency (DLA). These data provided insight about the countries and geographic regions that have requested excess defense article (EDA) Humvees as well as the condition and types of vehicles delivered to foreign governments. We also reviewed documentation provided by requesting countries to identify the intended purpose of the request. We interviewed agency officials responsible for the data to identify the quality controls in place to help ensure the data are accurate and reliable. To assess the reliability of each data source, we compared the data in each DOD component’s data sets to ensure that the information was complete and consistent. We did this by identifying common identifiers used for the Humvee EDA transfers that occurred within the designated 7-year period. According to DSCA officials, the DSCA EDA database is a consolidation of data provided annually by the military departments, and DLA, and is manually entered into the database by DSCA officials. Furthermore, we reviewed the data for issues such as missing data elements and duplicates, among other steps. Based on these steps taken, we determined the data were sufficiently reliable for the purposes of reporting information about EDA Humvee transfer requests. See table 1 of DOD data sources used to track information on excess defense articles. To provide information about how the Humvee manufacturer’s perspectives on the proposed transfers have been addressed by DOD as part of the determination of any adverse industrial base effects, we reviewed documents, data, and interviewed officials from DSCA and the Bureau of Industry and Security (BIS) within the Commerce Department, that advises DSCA on industry effects of proposed EDA transfers. For purposes of this report, unless otherwise indicated, transfers refers to grants of EDA under the Foreign Assistance Act. We reviewed BIS policies and procedures related to the EDA program to identify the factors BIS considers in making adverse effect determinations. We also reviewed data generated by BIS to identify the extent to which the Humvee manufacturer objected to proposed transfers for the 7-year period included in our review. We also reviewed data provided by the Army on the number of Humvees procured for the Army’s use and for vehicles sold to foreign governments through the Foreign Military Sales program from fiscal years 2012 through 2018. To gain insight about DSCA and BIS’s approach to assess industrial base effects of proposed transfers, we selected two transfer requests as illustrative case studies: a 2016 transfer for Afghanistan which was the single largest proposed transfer and a 2016 transfer for Albania as it was the only proposed transfer that BIS did not sustain the manufacturer’s objection. We also spoke with representatives from AM General to obtain their perspectives on the EDA program and gain insight about the effect of EDA transfers on their business. We conducted this performance audit from February 2019 to February 2020 in accordance with generally accepted government auditing standards. Those standards require that we plan and perform the audit to obtain sufficient, appropriate evidence to provide a reasonable basis for our findings and conclusions based on our audit objectives. We believe that the evidence obtained provides a reasonable basis for our findings and conclusions based on our audit objectives. Appendix II: GAO Contact and Staff Acknowledgments GAO Contact Staff Acknowledgments Marie A. Mak, (202)-512-4841 or makm@gao.gov In addition to the contact name above, Candice Wright (Assistant Director) and Sameena Ismailjee (Analyst-in-Charge) managed this review. James McCully, Lorraine Ettaro, Phillip Farah, Stephanie Gustafson, Miranda Riemer, and Roxanna Sun made significant contributions to this report.


Background Overview of the FHLBanks The FHLBank System comprises 11 federally chartered banks. The FHLBanks represent 11 districts and are headquartered in Atlanta, Boston, Chicago, Cincinnati, Dallas, Des Moines, Indianapolis, New York City, Pittsburgh, San Francisco, and Topeka (see fig. 1). Each FHLBank is cooperatively owned by its members––such as commercial and community banks, thrifts, credit unions, and insurance companies. As of December 31, 2017, the number of member institutions in each district varied widely, as did the total amount of assets each FHLBank held (see table 1). FHLBank Board of Directors Each FHLBank has a board of directors made up of member directors and independent directors. As shown in figure 2, the Federal Home Loan Bank Act (as amended by HERA) and its regulations set forth a number of requirements for FHLBank board directors. As of October 2018, each FHLBank board had 14–24 directors, for a total of 194 directors (see table 2). Of the 194, 108 were member directors and 86 were independent directors, including 24 public interest directors. Each board elects a chair and vice chair who serve 2-year terms. As of October 2018, of the 11 board chairs, six were member directors and five were independent directors, including two public interest directors (see table 3). Each FHLBank has a president who reports to the bank’s board of directors, but no representatives from bank management may serve on the boards. FHFA’s Diversity-Related Requirements and Oversight of FHLBanks To implement requirements in HERA, in December 2010 FHFA issued the Minority and Women Inclusion rule to set forth minimum requirements for FHLBank diversity programs and reporting. Among other things, the 2010 rule required each bank to create its own Office of Minority and Women Inclusion (OMWI) or designate an office to perform duties related to the bank’s diversity efforts, and establish policies related to diversity and inclusion, including policies on nominating board directors. The 2010 rule also requires FHLBanks to submit an annual report to FHFA on their diversity efforts. FHFA also evaluates the quality of corporate governance by board directors as part of its on-site annual examinations and off-site monitoring of FHLBanks. For example, FHFA’s examination includes reviewing the bank boards’ responsibilities, board and committee meeting minutes, and the boards’ oversight of the banks’ operations and corporate culture. Our Previous Work on Diversity Our previous work on diversity includes reports on Federal Reserve Banks’ board diversity, FHLBank board governance, women on corporate boards, and diversity in the financial services sector. In 2011, we found limited diversity among the boards of the 12 Federal Reserve Banks. We recommended that the Board of Governors of the Federal Reserve System encourage all Reserve Banks to consider ways to help enhance the economic and demographic diversity of perspectives on boards, including by broadening potential candidate pools. The recommendation was implemented in December 2011. In a 2015 report on FHLBank board governance, we found that FHFA and FHLBanks had taken steps to increase board diversity, including creating regulations that encouraged the banks to consider diversity in board candidate selection and developing processes to identify and nominate independent directors. In a 2015 report on women on corporate boards, we found that while the share of women on boards of U.S. publicly traded companies had increased, reaching complete gender balance could take many years. We identified factors that might hinder women’s increased representation on boards, including boards not prioritizing recruiting diverse candidates and low turnover of board seats. In addition, in 2017 we reported that representation of women and minorities at the management level in the financial services sector showed marginal or no increase during 2007–2015. FHFA Has Taken Steps Since 2015 to Encourage Board Diversity at FHLBanks Since our 2015 report on FHLBank board governance, FHFA has taken additional actions to encourage diversity on FHLBank boards, including adding a requirement for the banks to report board demographics, clarifying expectations for board elections outreach, requesting the creation of a system-wide board diversity task force, and allowing some banks to add an independent director. FHFA has a limited role in overseeing FHLBanks’ board diversity, according to FHFA staff, because that is not part of the agency’s statutory responsibilities. While FHFA reviews the list of independent director nominees for FHLBank boards to ensure that the nominees meet all eligibility and qualification requirements, board directors are not FHLBank employees. Rather, they form the oversight body of each bank. In contrast, FHFA has a larger role in monitoring diversity efforts related to the workforce and suppliers of the banks. For example, the agency’s annual examination manual contains a section that covers such efforts. FHFA oversight of diversity efforts also includes reviewing the FHLBanks’ annual reports on diversity efforts, which the banks are required to submit under HERA. In adopting its Minority and Women Inclusion rule of 2010 to implement this requirement, FHFA stated that it would analyze and include information from the banks’ annual reports in the agency’s own annual report to Congress. The banks’ annual reports initially included data related to their workforce and supplier diversity efforts. In May 2015, FHFA amended the 2010 rule and added two reporting requirements for the annual reports: (1) data on gender and race/ethnicity of board directors (which the directors would voluntarily self-report), and (2) information on the banks’ outreach efforts (such as to promote diversity when nominating and soliciting director candidates). FHFA stated in its 2015 amendments that it intended to use the director data to analyze future trends in board diversity and the effectiveness of each bank’s policies and procedures to encourage board diversity. FHFA also clarified expectations on FHLBank diversity efforts in a 2016 amendment to its regulation related to bank board directors as well as in guidance and communications to FHLBanks. Clarifying scope of election outreach activities. According to FHFA staff, FHLBanks had inquired if the existing regulation would prohibit the banks from conducting outreach to or recruiting of diverse board candidates in the nomination or solicitation process. FHFA regulation restricts FHLBanks from advocating for a particular member director candidate or influencing the board election for member and independent directors. According to FHFA staff, to address these concerns, the agency amended the regulation in 2016 to clarify that the banks may conduct outreach to find diverse board director candidates. FHFA staff added that the regulation amendment also made clear that the banks may fulfill the regulatory requirement to encourage consideration of diversity in nominating or soliciting candidates for board director positions without violating restrictions on advocating for particular director candidates. Guidance. FHFA provided FHLBanks with guidance related to diversity, including board diversity. For example, the agency provided guidance on the roles and duties of the banks’ OMWI officers and the scope of diversity regulations. FHFA provided the banks a template to report newly required data on the gender and race/ethnicity of board directors. To help banks prepare their annual reports, in June 2018 FHFA also developed an annual report template that outlines and describes the contents of the required reporting elements. The template includes sections for individual FHLBanks to present data on board composition by diversity categories and to describe past and future outreach activities and strategies to promote board diversity and outcomes from the bank’s activities. Communications. FHFA has communicated guidance and discussed board diversity issues with FHLBank boards and with staff involved in the banks’ board diversity efforts. For example, FHFA staff gave presentations at meetings during which FHLBank board directors shared information on board diversity efforts. The staff noted FHFA’s OMWI director generally attends the semi-annual conferences of the banks’ OMWI officers, during which she discusses diversity issues such as the roles and responsibilities of these officers and the scope of the FHFA regulations. Furthermore, FHFA OMWI and other offices developed and implemented some strategies to help FHLBanks maintain or increase board diversity. In 2016, FHFA OMWI staff met with FHLBanks and requested that the banks create a Bank Presidents Conference Board Diversity Task Force to share practices to promote board diversity. The staff said that they act as facilitators and informal advisors and may provide technical assistance to the system-wide task force—for example, by developing a list of practices related to board diversity. Also, as encouraged by FHFA, starting in 2017, each bank has a representative (a board director or the bank president) on the task force. Also, based on FHFA’s 2016 annual FHLBank board analysis, the FHFA Director approved requests from three FHLBanks to add an independent director seat for their 2017 boards to help maintain or increase board diversity. FHFA extended the offer to the other banks (except Des Moines, as its board was undergoing restructuring after the merger with Seattle). FHFA staff said in preparation for their 2017 FHLBank board analysis, they informally monitored the gender and minority status of the additional independent director seats filled by the seven banks that accepted the offer. Six of the seats were filled by women (of whom two were minorities) and one seat was filled by a minority male, according to FHFA staff. FHFA staff also told us the FHFA Director has some discretion on the number of director seats based on an individual bank’s circumstances, including the request to maintain diversity. For example, in 2018, one FHLBank requested to retain its female board vice chair to help preserve diversity and institutional knowledge on its board. FHFA granted the bank’s request to keep the director for another year. FHFA staff told us that FHFA has considered issuing guidance in two areas, but that these areas do not represent immediate priorities for their diversity efforts. Specifically, FHFA OMWI staff stated that the office intended to develop an examination module on board diversity, but this is not the office’s high priority for 2019. As previously noted, FHFA’s current examination manual includes a section that covers FHLBanks’ workforce and supplier diversity efforts. But, the manual does not consider board diversity-related issues in as much detail as the supplier and workforce section. For example, it covers FHFA’s review of the quality of corporate governance by board directors and mentions the consideration of diversity for potential board director candidates. Also, the 2015 rule amendments noted that the agency intended to develop guidance to further elaborate on its expectations related to outreach activities and strategies for the banks’ board directors. FHFA staff told us that they would like to focus on ongoing diversity efforts and gather more information before starting new efforts. FHLBank Boards Increased Share of Female Directors Since 2015, but Trends for Minority Directors Were Less Clear Share of Female Board Directors Increased from 2015 to October 2018, and Varied by FHLBank At the overall FHLBank board level, the share of female directors increased from 18 percent (34 directors) in 2015 to 23 percent (44 directors) in October 2018 (see fig. 3). This represented a continuation of an upward trend. For example, we previously reported a 16 percent share (31 female directors) in 2014. Each FHLBank had at least two female board directors in October 2018, but some boards had higher shares of female directors than others. As shown in figure 4, four banks—Chicago, Des Moines, Dallas, and Pittsburgh—had four or more female board directors (representing 22–38 percent of the boards). In comparison, seven banks had two or three female directors (representing 14–20 percent). Additionally, FHLBanks varied in how many female directors were added from 2015 to October 2018—one bank added two, six each added one, and four added none. For additional information on the number of board directors by bank and by gender from 2015 to October 2018, see appendix II. Women have some representation in board leadership positions. In October 2018, two FHLBanks—Des Moines and Pittsburgh—had female vice chairs of their respective board. Another bank (San Francisco) had a female vice chair of its board in 2016 and 2017. In 2015, we reported that one bank (Atlanta) had a female board chair. Additionally, each bank’s board has committees (such as the Audit Committee and the Risk Management Committee) with committee chairs and vice chairs. Ten of the 11 banks had board committees with at least one female chair or vice chair in October 2018. The share of women who chaired board committees was the same as the share of women on the overall FHLBanks boards in October 2018—23 percent. We compared female representation on FHLBank boards to that of other corporate boards and that of senior management in the financial services sector. Women constituted 23 percent of FHLBank boards in October 2018 and 22 percent of boards of the companies in the Standard and Poor’s 500 in 2017, as reported by Institutional Shareholder Services. Our analysis of the most recently available EEOC data found that the share of women in senior management positions in the financial services industry in 2016 was 29 percent. The share of women on FHLBank boards was 19 percent in the same year. Senior management in the financial services sector represents a pool of comparable candidates that could provide directors for FHLBank boards. FHLBank Data Showed the Share of Minority Directors Increased Since 2015, but Data Are Incomplete The share of directors who self-identified as racial/ethnic minorities increased from 2015 to 2017, but the size of the increase is unclear due to the number of directors who did not report this information. Board directors voluntarily submit demographic information, including race/ethnicity. Some directors might have chosen not to self-identify their race/ethnicity. Reported Data Showed Increases in Minority Directors At the overall FHLBank board level, the share of directors who self- identified as racial/ethnic minorities increased from 2015 to 2017 (see fig. 5). Eleven percent (20 directors) of FHLBank board directors self- identified as racial/ethnic minorities in 2015 and 15 percent (30 directors) in 2017. Four percent (7 directors) did not self-identify in 2015 and 8 percent (15 directors) in 2017. The increase in the number of directors who identified as racial/ethnic minorities shows an upward trend from 10 percent (19 directors) in 2014, as we reported in 2015. The number of directors who self-identified as racial/ethnic minorities varied by bank. As shown in figure 6, all 11 FHLBanks had at least one minority director on the board in 2017, and six banks had three or more minority directors. Ten of the 11 banks each added one minority director during 2015–2017. For additional information on the number of board directors by bank and by race/ethnicity in 2015–2017, see appendix II. More specifically, as seen in table 4, in 2017, 9 percent (18 directors) identified as African-American, 4 percent (8 directors) identified as Hispanic, 2 percent (3 directors) identified as Asian, and 1 percent (1 director) identified as “other.” Racial/ethnic minorities have limited representation in board leadership positions. As of October 2018, one FHLBank had a vice chair of its board who identified as a minority. In 2017, another bank had one vice chair of its board who identified as a minority. We compared the FHLBank boards’ share of racial/ethnic minorities to those of corporate boards and senior management in the financial services sector. In 2017, 15 percent of the FHLBank board directors identified as racial/ethnic minorities, as previously noted. This compares to 14 percent on boards of directors of companies in the Standard and Poor’s 500 in 2017, according to Institutional Shareholder Services, and 12 percent in senior management of the financial services industry in 2016, based on our analysis of EEOC data. In 2016, the share of minority directors on FHLBank boards was 13 percent. Varying Collection Processes May Contribute to Data Gaps Board demographic data collection processes vary by FHLBank, which may contribute to the differences in the number of directors who did not self-identify their gender, race/ethnicity, or both. FHFA has not reviewed the banks’ varying processes to determine whether some processes were more effective, such as whether the practices allowed banks to more effectively identify and follow up with directors who may have forgotten to respond. All directors at three banks self-reported their gender and race/ethnicity in 2015–2017, but some directors at the other eight banks did not self-identify this information. However, we could not determine whether those directors deliberately chose not to self-report this information or inadvertently did not respond to the data collection forms or questions. As allowed by FHFA regulation, FHLBanks varied in the data collection forms they used, questions they asked, and methods they used to distribute forms to board directors to obtain self-reported gender and race/ethnicity information. For example, the three banks with complete data from all directors each used different data collection forms. One bank collected gender and race/ethnicity as a voluntary section of its annual board director skills assessment, which was filled out by each director. Two banks distributed a separate data collection form at a board director meeting or through an online survey, which might have included a mechanism for tracking which directors had not responded to the survey. The other eight banks, which had incomplete demographic data, also used varying data collection processes. Of these, four banks distributed their data collection forms during a board meeting or through an e-mail, and the other four banks used online surveys. Of the 11 banks, six included an option on their forms to mark “opt not to self-identify,” while five included similar language as part of the form indicating that completing the form is voluntary. Although some banks had similar approaches to data collection, such as using an online survey, it is unclear whether certain approaches helped some banks to obtain more complete data despite directors’ right to opt out of self-reporting demographic information. FHFA has implemented some efforts on improving the quality of the data FHLBanks report to the agency, but FHFA staff told us that such efforts have not included a review of how the banks collect board director demographic data. For example, FHFA created templates to help banks report board data and board-related content, and its data reporting manual focused on reporting data related to the banks’ workforce, supplier base, and financial transactions. However, none of these documents discussed processes for collecting board director demographic data. According to FHLBank staff, FHFA’s instructions on board director data collection are limited to what is stated in the regulation. That is, banks should collect data on their board directors’ gender and race/ethnicity using EEOC categories, and such data should be voluntarily provided by the directors without personally identifiable information. FHFA’s 2015 regulation amendments require FHLBanks to compare the board demographic data with prior year’s data and provide a narrative of the analysis. FHFA also stated in the amendments that it intended to use the director data to establish a baseline to analyze future trends of board diversity. Additionally, federal internal control standards state that agency management should use quality information to achieve their objectives. Quality information would include complete and accurate information that management can use to make informed decisions in achieving key objectives. By obtaining a better understanding of the different processes FHLBanks use to collect board demographic data, FHFA and the banks could better determine which processes or practices could contribute to more complete data. For example, there may be practices that could help banks more effectively follow up with directors who might have missed the data collection forms or questions. More complete board demographic data could help FHFA and the banks more effectively analyze data trends over time and demonstrate the banks’ efforts to maintain or increase board diversity. FHLBanks Report Some Challenges, but Have Taken Steps to Increase Their Board Diversity FHLBanks report some challenges that may slow or limit their efforts to increase board diversity, which include low levels of diversity in the financial sector; member institutions not prioritizing diversity; balancing the need for diversity with retaining institutional knowledge; and competition for women and minority candidates. Despite these challenges, the banks have taken several steps to help increase board diversity. FHLBank Boards Report Some Ongoing Challenges in Their Efforts to Increase Diversity, Especially among Member Directors According to FHLBank representatives, including board directors, the FHLBank boards face challenges that may slow or limit their efforts to increase diversity, including the following: Low levels of diversity in the financial sector. Twelve representatives from nine FHLBanks told us that the pool of eligible women and minority board candidates is small in the banking and financial sector. For example, five representatives emphasized that the majority of member institutions have chief executive officers (CEO) who are white males. In particular, one director told us that out of the hundreds of member institutions affiliated with his FHLBank, he knew of only six female CEOs. Directors representing five banks also noted that the pool of eligible, diverse candidates in senior management positions in the financial services sector can be even smaller in certain geographic areas. As a result, it can be particularly challenging for some banks to fill member director seats because, by statute, candidates for a given FHLBank board must come from member institutions in the geographic area that the board seat represents. For example, one director said that the pool of such candidates is especially small in rural areas. In 2015, FHFA told us that the overall low levels of diversity in the financial services sector, including at FHLBank member institutions, increased the challenges for improving board diversity. However, representatives of corporate governance organizations with whom we spoke told us that the financial services sector does not face unique challenges. Representatives also said that qualified women and minority candidates are present in the marketplace. Our analysis of 2016 EEOC data found that the representation of women in senior management in the financial services sector was within 1 percentage point of the share of women in senior management in the private sector overall, and minority representation was within 4 percentage points. Member institutions may not always prioritize diversity in director elections. As previously discussed, member institutions nominate member director candidates and vote for the member director and independent director candidates. Ten representatives from eight FHLBanks stated that member institutions may prioritize other considerations over diversity when they nominate and vote on board candidates, such as name recognition or a preference for candidates who are CEOs. One director told us that the member banks may not be as interested in diversity as the FHLBanks. Another director emphasized that FHLBanks are trying to change attitudes and embed diversity in the member institutions’ operations. He characterized this process as a marathon, not a sprint. Board directors with whom we spoke also stressed that FHFA regulations do not allow the FHLBank boards to exert influence over how member institutions vote. Board directors can emphasize the importance of diversity to member institutions but cannot in their official capacity campaign for specific candidates. Balancing the need for diversity with retaining institutional knowledge. Directors from five banks told us that they aim to balance bringing in new women or minority directors with retaining the valuable institutional knowledge of incumbent directors. One director added that new board directors face a steep learning curve. Thus, the directors at some banks will recruit new directors only after allowing incumbent directors to reach their maximum number of terms (which could translate to several years). As we reported in 2015, FHFA staff acknowledged that low turnover, term lengths, and the need to balance diversity with required skills posed challenges to the FHLBank board diversity. In our 2016 report on women on corporate boards, relevant stakeholders acknowledged this as a challenge because directors with longer tenure possess knowledge about a company that newer directors cannot be expected to possess. Competition for women and minority candidates. Board directors from five FHLBanks told us that they face competition as they seek to recruit women and minority candidates. For example, a director from one bank told us that his board encouraged a potential female candidate to run for a director seat. However, the candidate felt she could not accept the opportunity because of her existing responsibilities on the boards of two publicly traded companies. While these challenges can apply to member and independent directors, representatives from all 11 FHLBanks emphasized that it can be particularly challenging to find and elect female or minority member directors. Our analysis of FHLBank board director data confirmed that across 11 FHLBank boards, female representation was lower among member directors (13 directors or 12 percent) than independent directors (31 directors or 36 percent) in October 2018. FHFA stated in this review and in 2015 that they are aware of the potential difficulty of identifying diverse candidates for member directors and that greater board diversity likely would be achieved with independent directors. FHLBanks Developed Practices and Strategies to Help Increase Board Diversity Since 2015, FHLBanks have taken actions to help increase board diversity, including developing and implementing practices and strategies that target board diversity in general and member directors specifically. As previously discussed, at the request of FHFA, the banks established the Bank Presidents Conference Board Diversity Task Force. The purpose of the task force is to develop recommendations for advancing board diversity and to enhance collaboration and information sharing across FHLBank boards. Each bank is represented by a board director or the bank president. Representatives meet regularly to discuss challenges, recommend practices, and receive training. One task force representative told us that her participation on the taskforce has helped demonstrate to her board and bank that diversity matters. Others mentioned that the ability to share practices and learn from other banks was a great benefit. As part of its work, the task force developed a list of practices that FHLBanks have used or could use to improve board diversity (see text box). According to bank staff, the list was approved by the presidents of each bank and distributed to bank staff. The practices can be generally summarized into three categories—emphasizing the importance of diversity; assessing skills diversity; and seeking new ways to find candidates—which are generally similar to the commonly cited practices for improving board diversity we identified in 2015. Summary of Practices Developed by Bank Presidents Conference Board Diversity Task Force of the Federal Home Loan Banks Include references to diversity on the bank website, in appropriate publications, in presentations about the bank, and particularly in all election materials. Educate current board members on the business case for diversity. Educate member institutions on the business case for diversity through member meetings, newsletter articles, etc. to help develop a more diverse member base and help groom new leaders. Perform a skills assessment of current board skills and areas of expertise and determine skill sets and expertise needed. Review the term limits of current directors and determine the possible loss of continuity if multiple incumbent directors leave the board in a short period of time. Build a pool of diverse member and independent candidates. Conduct outreach to regional and national business organizations, such as trade associations, women and minority business groups, and professional organizations, to ask for referrals of possible candidates and form relationships prior to a board election. Seek an additional independent board seat from the Federal Housing Finance Agency. Example of Diversity Statement in an Election Announcement for a Federal Home Loan Bank The Federal Home Loan Bank of New York (FHLBNY) included the following statement in its 2017 director election announcement package: “The FHLBNY’s Board of Directors consists of a talented group of dedicated individuals that benefits from, among other things, demographic (including gender and racial) diversity, and we expect that this will continue in the future. As you consider potential nominations for Member Directorships and give thought to persons who might be interested in Independent Directorships, please keep diversity in mind. Your participation in this year’s Director Election process is greatly appreciated, and will help continue to keep the Board and the FHLBNY diverse and strong.” Emphasizing the importance of diversity. All 11 FHLBanks included statements in their 2017 election announcements that encouraged voting member institutions to consider diversity during the board election process. Six banks expressly addressed gender, racial, and ethnic diversity in their announcements. One female director with whom we spoke said that she was encouraged to run for a board seat after reading an election announcement in 2013 that specifically called for candidates with diverse backgrounds. All 11 FHLBanks also referenced their commitment to diversity on their websites, including posting diversity and inclusion policies, describing diversity missions, or including board statements on diversity. Directors we interviewed from all 11 FHLBanks told us that their bank conducted or planned to conduct diversity training for board directors. The training sessions covered topics such as the business case for diversity and unconscious bias. Additionally, board directors from two banks discussed efforts to encourage member institutions to increase diversity, such as holding a panel on the importance of diversity at the annual member conference. In 2015, we found that demonstrating a commitment to diversity in ways similar to these is a first step towards addressing diversity in an organization. Assessing skills diversity. Nine FHLBanks performed board skills assessments annually or biennially. These assessments asked directors to evaluate their knowledge of specific topic areas. FHFA regulation allows each bank to annually conduct a skills and experience assessment and, if applicable, inform members before elections of particular qualifications that could benefit the board. In 2015, we found that conducting a skills assessment was a commonly cited practice for boards seeking to increase representation of women and minorities. The other two FHLBanks conducted board self-assessments annually, focused on board effectiveness and organization, but did not evaluate the skills of their individual directors. All 11 FHLBanks also reported regularly reviewing the remaining terms of current directors to determine the possible loss of continuity. Seeking new ways to find candidates. Representatives from 10 FHLBanks noted that their banks maintain a pool of diverse director candidates for future open positions. FHLBanks described using various methods to build these pools. All 11 banks described outreach to trade organizations, industry groups, universities, and nonprofit organizations when looking to identify women and minority candidates. For example, FHLBank of Pittsburgh identified 15 organizations in its district that actively promote diversity and the inclusion of women and minorities in business to specifically target in 2017. Directors from seven banks also reported hiring a search firm or consultant to help them identify women and minority candidates. These activities are consistent with commonly cited practices described in our 2015 work that boards can use to reach out beyond the typical pool of applicants. As previously mentioned, seven FHLBanks requested or were offered an additional independent director seat by FHFA. According to FHFA staff, four of the seats were filled by white females, two were filled by minority females, and one was filled by a minority male. Example of a Diversity Practice Focused on Member Directors In 2017, the Federal Home Loan Bank of San Francisco developed a Member Director Diversity Outreach Plan. The plan included eight steps that provide timelines and specific assignments for directors and bank management. For example, steps include conducting early outreach to trade organizations where women and minority directors might participate, individual director outreach to potential candidates, and developing a list of prospective candidates in case of vacancy appointments. Following the implementation of this plan, member institutions elected one female director and one minority director to fill the vacant member director seats. Fill interim seats with women and minority candidates. FHLBanks can appoint women or minority candidates to fill interim member director seats. By regulation, when a director leaves the board in mid- term, the remaining board directors may elect a new director for the remaining portion of the term. For example, the FHLBank of Pittsburgh reported electing a minority director in 2017 to fill a vacant member director seat. One director told us that when a female or minority director is elected for an interim term, the election increases the likelihood of the director being elected by the member institutions for a following full term. Conduct mentoring and outreach. FHLBank board directors also can use their personal networks to conduct outreach and mentor potential candidates. Current directors can pledge to identify and encourage potential women and minority candidates to run for the board. For example, one director told us that his board emphasizes the need for directors to pay attention to potential women and minority candidates they meet. This director said he had personally contacted qualified potential candidates and asked them to run. Another director noted that women and minority directors are likely to know other qualified candidates with diverse backgrounds. These directors can identify and refer individuals in their networks. Another director emphasized the importance of member directors conducting outreach to member institutions. Member directors have the most interaction with the leadership of member institutions and can engage and educate them on the importance of nominating and electing diverse member directors. Look beyond CEOs. Additionally, FHLBanks can search for women and minority candidates by looking beyond member bank CEOs. By regulation, member directors can be any officer or director of a member institution, but there is a tendency to favor CEOs for board positions, according to board directors, representatives of corporate governance organizations, and academic researchers with whom we spoke. The likelihood of identifying a woman or minority candidate increases when member institutions look beyond CEOs to other officers, such as chief financial officers or board directors. For example, the FHLBank of Des Moines expanded its outreach to women and minority candidates to include board directors at member institutions. In 2017, a female director who is a board member of her member institution was elected. Conclusions The Housing and Economic Recovery Act of 2008 emphasized the importance of diversity at the FHLBank System, and FHFA and FHLBanks have undertaken efforts to encourage diversity at the banks’ boards. In particular, FHFA plans to use data it collects on the gender and race/ethnicity of board directors as a baseline to analyze trends in board diversity. While FHFA regulation allows directors to choose not to report this information, the banks’ varying data collection processes did not always allow banks to accurately account for missing information (as in the case of directors forgetting to respond to the data questions or fill out forms). Reviewing the processes the banks use to collect the demographic data could help FHFA and the banks identify practices to produce data that would better allow FHFA to track trends in board diversity. FHFA could work with FHLBanks (potentially through the system-wide Board Diversity Task Force) to conduct such a review. Recommendation for Executive Action The Director of FHFA’s Office of Minority and Women Inclusion, in consultation with FHLBanks, should conduct a review on each bank’s processes for collecting gender and race/ethnicity data from boards of directors and communicate effective practices to FHLBanks. (Recommendation 1) Agency Comments We provided a draft of this report to FHFA and each of the 11 FHLBanks for review and comment. In its comments, reproduced in appendix III, FHFA agreed with our recommendation. FHFA commented that it intends to engage with FHLBanks’ leadership in 2019 to discuss board data collection issue and address our recommendation. FHFA also stated that it plans to request that the Board Diversity Task Force explore the feasibility and practicability for FHLBanks to adopt processes that can lead to more complete data on board director demographics. In addition, four FHLBanks provided technical comments, which we incorporated as appropriate. The other seven FHLBanks did not have any comments. As agreed with your offices, unless you publicly announce the contents of this report earlier, we plan no further distribution until 30 days from the report date. At that time, we will send copies to the appropriate congressional committees, the Acting Director of FHFA, and other interested parties. In addition, the report will be available at no charge on the GAO website at http://www.gao.gov. If you or your staff have any questions about this report, please contact me at (202) 512-8678 or ortiza@gao.gov. Contact points for our Offices of Congressional Relations and Public Affairs may be found on the last page of this report. GAO staff who made key contributions to this report are listed in appendix IV. Appendix I: Objectives, Scope, and Methodology This report examines the (1) extent to which the Federal Housing Finance Agency (FHFA) has taken steps to encourage board diversity at the Federal Home Loan Banks (FHLBank); (2) trends in diversity composition (gender, race, and ethnicity) for the boards of individual FHLBanks; and (3) challenges FHLBanks face and practices they use in recruiting and maintaining a diverse board. While diversity has many dimensions, this report focuses on gender, race, and ethnicity. To understand the steps FHFA has taken to encourage FHLBank board diversity, we reviewed relevant laws and regulations related to FHLBank boards, including FHFA regulations on director elections and diversity reporting requirements. For example, we reviewed the relevant sections in the Housing and Economic Recovery Act of 2008 pertaining to FHFA and the banks and FHFA’s 2010 Minority and Women Inclusion rule and its 2015 amendments. We also reviewed other FHFA and bank documentation related to board director elections and diversity considerations. For example, we reviewed FHFA’s annual board director analysis for 2016–2018 to identify actions the agency took to help maintain or increase the number of female or minority directors at the FHLBank boards. Additionally, we interviewed FHFA staff to understand the agency’s role in overseeing FHLBank board diversity and the agency’s efforts in helping the banks maintain or increase board diversity. To describe trends in FHLBank board diversity, we analyzed gender and race/ethnicity data self-reported by board directors in FHLBanks’ annual reports to FHFA as of the end of 2015, 2016, and 2017. The banks’ annual reports use the gender and race/ethnicity classifications from the Employer Information Report (EEO-1) of the Equal Employment Opportunity Commission (EEOC). The EEO-1 report race/ethnicity categories are Hispanic or Latino, White, Black or African-American, Native Hawaiian or Other Pacific Islander, Asian, Native American or Alaska Native, and Two or More Races. The Hispanic or Latino category in EEO-1 incorporates Hispanics or Latinos of all races. For our report, we used the following categories: Hispanic, White, African-American, Asian, and “Other.” We included only non-Hispanic members under White, African-American, Asian, and “Other.” We included Asian American, Native Hawaiian or Pacific Islander under the Asian category, and we included Native American or Alaskan Native, and Two or More Races under “Other.” To provide more recent data on gender composition, we also analyzed data on the gender of directors who were on boards as of October 17, 2018. Specifically, we compiled a list of board directors who started or continued their terms on the boards in 2018, based on board director information from the banks’ 2017 Form 10-K filings with the Securities and Exchange Commission (SEC). The filings include the names and brief biographies of board directors, which we used to derive the gender data for directors. For example, if directors were referred to as “Mr.” in the Form 10-Ks, we counted them as male. If they were referred to as “Ms.,” we counted them as female. We then confirmed with each FHLBank the compiled list of board directors, as of October 17, 2018. Because some directors did not self-identify their gender in 2015–2017 annual reports, we also used information in the banks’ 2014–2016 Form 10-Ks to derive data on the gender of the banks’ board directors. As a result, we were able to report the gender information for all FHLBank board of directors from 2015 through October 2018. We separately requested the names of the chairs and vice chairs for the committees of each bank’s board as of October 26, 2018. We then derived the gender of the chairs and vice chairs for these committees based on the information in the banks’ Form 10-Ks. To analyze data on board director race/ethnicity, we relied on FHLBanks’ 2015–2017 annual reports. However, we were not able to use banks’ Form 10-Ks to derive data on race/ethnicity for board directors who did not self-identify race/ethnicity in the annual reports because the 10-Ks do not include such information. We also requested and analyzed from each bank data on the gender and race/ethnicity of their board chair and vice chair as of October 17, 2018. We assessed the reliability of the data from the banks’ annual reports and Form 10-Ks through electronic testing, a review of documentation, and interviews with knowledgeable agency staff, and we determined these data to be sufficiently reliable for describing the overall trends and composition of gender and race/ethnicity at the FHLBank boards, except the data for directors who did not self- identify their race/ethnicity, as discussed in the report. We also compared the most recently available demographic information on FHLBank board directors with the demographic composition of senior management in the financial services industry and the overall private sector (excluding financial services), based on data from the 2016 EEO-1 report from EEOC. Senior management in the financial services industry represents a pool of comparable candidates that could provide directors for FHLBank boards. The EEO-1 report data are annually submitted to EEOC by most private-sector firms with 100 or more employees. The data include gender and race/ethnicity of the employees by job category. We included workforce from all sites of multi-establishment companies (companies with multiple locations). Consequently, the analysis included in this report may not match the analysis found on EEOC’s website, which excludes workforce from sites of multi-establishment companies with less than 50 employees. In our analysis of senior management-level diversity in the financial services sector, we included companies in the finance and insurance industry categorized under code 52 of the North American Industry Classification System. We assessed the reliability of the data from the EEO-1 report through electronic testing, a review of documentation, and interviews with knowledgeable agency staff. We determined these data to be sufficiently reliable for comparing the composition of gender and race/ethnicity in the financial services sector and the overall private sector with that of the FHLBank boards. Furthermore, to provide a general comparison of FHLBank board diversity composition with corporate boards of U.S. companies, we reviewed research that discussed data related to diversity at corporate boards of U.S. companies in recent years. In addition, from each FHLBank, we requested and reviewed the instrument they used to collect gender and race/ethnicity information from their board directors. We also obtained and reviewed information on the methods the banks used to distribute and collect the data collection instruments, and any instructions FHFA provided to the banks or that the banks provided to the board directors on collecting this information. We reviewed relevant information from the banks’ annual reports and relevant regulations on collecting and submitting board directors’ gender and race/ethnicity information. We also compared the banks’ data collection processes with relevant federal internal control standards. To determine the challenges the FHLBanks face and practices they use to recruit and maintain a diverse board, we interviewed staff at FHLBanks and FHFA to learn about the Bank Presidents Conference Board Diversity Task Force and the list of diversity practices compiled by the task force. We reviewed and analyzed the banks’ 2017 annual reports to learn about the most recent practices the banks implemented. We also reviewed the banks’ websites and bank documents, such as election materials and skills assessments for all 11 banks. In addition, we conducted semi- structured interviews with 10 board directors and one bank president, who act as representatives on the system-wide board diversity task force. We also conducted semi-structured interviews with a nongeneralizable sample of FHLBank board chairs from six banks (Atlanta, Boston, Des Moines, Pittsburgh, San Francisco, and Topeka). We selected these banks to achieve variation in board diversity composition (share of women and minority directors), asset size, and geographic locations. In these interviews, we asked directors and staff about the challenges their banks faced as they sought to increase or maintain diverse boards. We also asked about their participation on the task force, the task force diversity practices, and any other practices their banks had implemented related to board diversity efforts. To determine if the task force diversity practices generally followed commonly cited practices used to improve board diversity, we compared the task force practices against commonly cited practices we identified in previous work in 2015. To verify that the practices we identified in 2015 were still relevant and useful, we interviewed three academics and representatives of four organizations that advocate for board diversity, including gender and racial/ethnic diversity. We selected these external stakeholders based on their research and experience related to increasing board diversity and referrals from others knowledgeable in the field. In our interviews with external stakeholders, we also asked about the challenges that financial organizations or other publicly traded companies may face as they work to increase or maintain board diversity. We compared these answers to the challenges that FHLBank representatives described. We conducted this performance audit from July 2018 to February 2019 in accordance with generally accepted government auditing standards. Those standards require that we plan and perform the audit to obtain sufficient, appropriate evidence to provide a reasonable basis for our findings and conclusions based on our audit objectives. We believe that the evidence obtained provides a reasonable basis for our findings and conclusions based on our audit objectives. Appendix II: Number of Board Directors at Federal Home Loan Banks, by Gender and by Race/Ethnicity Appendix III: Comments from the Federal Housing Finance Agency Appendix IV: GAO Contact and Staff Acknowledgments GAO Contact Anna Maria Ortiz, (202) 512-8678, ortiza@gao.gov. Staff Acknowledgments In additional to the individual named above, Kay Kuhlman (Assistant Director), Anna Chung (Analyst in Charge), Laurie Chin, Kaitlan Doying, Jill Lacey, Moon Parks, Barbara Roesmann, Jessica Sandler, and Jena Sinkfield made key contributions to this report.