Call it the Great Canteen Cup Crisis.

Two years ago the Army was running perilously low on canteen cups -- considered a "combat essential" item that must be stocked at high enough levels to outfit all troops in case of emergency mobilization.

To replenish the seriously dwindling supplies of metal cups, which fit around the outside of a canteen like a second skin, the Defense Department put out the message that it was in the market to buy 596,700 new cups. Eleven companies replied and the first contract for half of the cups went to the lowest bidder, an Israeli company, S. Hanany Metal Craft, which said it could produce the cups for $787,644, or about $2.64 each.

But, one of the losers, Pacific Fabrication, better known as PACFAB, cried foul. The California company, which came in sixth in the bidding, alleged that its Israeli competitor did not have the expertise or equipment to manufacture the cups, much less the quality-control devices to ensure that American troops would slurp their coffee and instant soup from cups that met all military specifications.

PACFAB took its complaints to five federal agencies, from the Federal Bureau of Investigation to the General Accounting Office -- none of which found reason to question the contract award to the Israeli firm.

Now, two years later, Hanany is thousands of cups behind schedule on its production lines and the Pentagon is considering canceling the contract, according to a new GAO investigation. Army canteen cup stockpiles, at critically low levels in 1985, had received only 34,200 new cups from the company as of October, 5 percent of its total order, the report said.

As a result, the Defense Department earlier this year had to buy an emergency supply of 199,950 cups. Those cups will cost $3.53 each, about 34 percent more per cup than the average price under the Hanany contract.

The GAO, which reopened its inquiry into the canteen cup question at the request of Sen. Alan Cranston (D-Calif.) and two of his California colleagues in the House, found that the Pentagon's various contracting agencies had done a sloppy job of monitoring the cup contracts.

Contract auditors for the Defense Logistics Agency, overseer of the Pentagon's supply purchases, did not conduct their first inspection of the Israeli assembly lines until 13 months after the first contract was awarded. Military regulations require that inspection within 30 days of awarding the contract.

A spokesman for the Defense Logistics Agency said yesterday it had no auditors available for the overseas inspection in Israel and contracted the job out to Army auditors, leading to communications delays among the agencies.

In the meantime, the Defense Department -- not realizing that the Israeli company was facing major production problems in filling the first contract orders -- awarded Hanany another contract for the second batch of cups because nobody could beat its $783,169 bid.

A U.S. District Court has issued a preliminary injunction halting the company's second contract.

Hanany ended up seven months behind schedule in its first delivery, the report said. Another branch of the Defense Logistics Agency failed to issue the Israeli firm the proper notices that would have allowed the government to begin procedures for canceling the contract and recouping payments made on cups that had not been delivered, the GAO found.

The agency's failures "impaired the government's ability to take remedial action against Hanany and unduly delayed the receipt of critically needed items," the GAO concluded.

The report did not provide details of what caused the Israeli firm's problems, other than to note that the company originally told the U.S. government it would have no problems obtaining a device it didn't own for testing the hardness of the metal used in the cups.