Archive for July, 2011

Boeing and DoD Release Latest Estimate for KC-46A First Phase Contract

The Hill is reporting that Boeing (BA) currently estimates the first phase of the KC-46A contract at about $5.2 billion or 6% above the $4.9 billion ceiling price. All of that increase if that is what it turns out to be will be paid for by Boeing. The cost share of the difference between $3.9 billion target price and the $4.9 billion ceiling will be split between the Government and Boeing.

There was some consternation when the reports of Boeing’s efforts costing a great deal more then the $3.6 billion price at which the contract was awarded. This led to charges that Boeing “bought in” the contract by bidding deliberately low so that competitor EADS North America, part of European aerospace giant, EADS (EADS:P), could not win.

As the contract goes forward the total cost will change depending on what challenges the program faces and if it needs more time and investment to develop the variant of the Boeing 767 airliner. It may end up being less then $5.2 billion or even more as the program evolves.

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Department of Defense Not Really That Concerned with Boeing’s Costs for Tanker

At a recent public event the Undersecretary of Defense for Acquisition, Logistics & Technology, Ashton Carter, was asked about the projected cost increases for the KC-46A development. His response was that he, and OSD, are not really that worked up about the fact that Boeing (BA) may exceed the projected ceiling price of the contract.

In his eyes the U.S.’s liability is based on the $4.9 billion price. Boeing’s bid of $3.6 was a conscious business decision on their part. Some members of Congress, led by Senator John McCain (R-AZ), have raised concerns about the increase and the fact that the cost share structure of the contract obligates the U.S. to pay 60% of the first billion in increases.

There is also the idea that this situation would encourage contractors to submit low estimates for development contracts, or buy-in, with the goal of making up the difference in their production or by having the U.S. pay some of the overruns. McCain and the Senate Armed Services Committee (SASC) are also investigating the large cost increases in F-35 production that are requiring the U.S. to pay over $700 million as part of their cost share.

The idea that the Defense Department would accept this kind of business model is interesting. One of the criticisms of defense acquisition is this very point. In the late Sixties when Lockheed, now Lockheed Martin (LMT), did the same with the C-5 transport, although perhaps not deliberately, it is considered one of the examples of acquisition abuse and the program was almost cancelled. Now Carter is saying that as long as it involves a Firm Fixed Price Contract it is an acceptable practice.

This is just the beginning of the situation and Boeing certainly has the ability to not charge more then the ceiling price as they work the KC-46A development. Their current estimate of about $5.2 billion may be conservative and costs for the first 18 aircraft could be under $4.9 billion.

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KC-46A Costs Reportedly Increase

A few weeks ago it was reported that Boeing (BA) had already informed the U.S. Air Force of at least a $300 million increase in the costs of the first phase of the KC-46A aerial tanker program. This led to Reuters asking the Air Force some follow up questions on the situation.

They are now reporting that the way the current contract is structured the Government and Boeing would share in the first $1 billion increase beyond the target price of $3.9 billion for the EMD contract which will also deliver 18 tankers. The original contract value was about $3.6 billion.

Once the price gets beyond $4.9 billion Boeing would be responsible for all costs. Up to that they would pay 40% and the government 60 or $600 million. The reports last month had Boeing predicting that they would spend at least $4.2 billion.

This was the third attempt by the Air Force to award the new tanker contract since 2001. An attempt to award a sole source lease to Boeing was derailed by fraudulent activity by Air Force acquisition chief Darleen Druyun and Boeing’s CFO. In 2008 EADS teamed with Northrop Grumman (NOC) won a contest that was overturned on protest by Boeing. This latest contract is the result of the new competition held due to Boeing’s successful protest. EADS was not able to match the price that Boeing offered which is now seemingly controversial due to the reported cost increases.

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