U.S. tanker aircraft rules spark concern in industry

WASHINGTON Thu Oct 22, 2009 5:41pm EDT

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WASHINGTON (Reuters) - Industry executives are starting to raise fundamental questions about the Pentagon's draft rules for a new refueling airplane competition and say the government's drive to lock in a "fixed-price" deal for such a big weapons development program is unprecedented and risky.

Boeing Co and Northrop Grumman Corp have been poring over a draft request for proposals (RFP) issued by the Air Force on September 25.

Neither company said much on the record, but some executives are beginning to privately air concerns about the rules for the Air Force's third attempt in eight years to begin replacing its aging fleet of flying gas stations used to refuel fighter jets and other military planes in mid-flight.

For its part, the Air Force has answered only nine of more than 50 public questions posed by the companies about specific details of a competition that is valued at around $100 billion. Executives said that meant the government might need to release a second draft before it finalizes the terms.

"They're obviously struggling ... and wondering what happened to their bulletproof RFP," said one industry executive, who asked not to be named, citing the sensitivity of the ongoing competition between the two companies.

The companies had each been granted only one senior-level meeting with the Air Force after it released the draft rules last month and one meeting before the rules were released.

After being faulted by government auditors for its handling of the last contract -- which was canceled after being initially awarded to Northrop and its European partner, Airbus parent EADS -- the Air Force was determined this time to spell out all its requirements in careful detail.

The goal was to ensure that the military service could defend against any new protests filed by the losing bidder, but analysts say the changes could actually increase the likelihood of protests this time around.

Defense analyst Loren Thompson of the Virginia-based Lexington Institute, said both companies had serious concerns about the draft rules, which could increase the likelihood of them filing protests if the rules were finalized as is.

Under the new rules, the Air Force raised the number of mandatory requirements for the new planes to 373 from 37; said it would not adjust bids for price and schedule risk as it did the last time; and made myriad requirements for the new planes equal in value, industry executives said.

For instance, the rate at which the plane's refueling "boom," a large external fuel line, is supposed to deliver gas to fighter planes is now deemed equally important as the rate at which water flows in the on-board passenger toilets, said one industry executive, calling the decision "illogical at best."

The government also wants to lock in firm pricing over the 18-year life of the 179-plane program, a decision industry executives say would create big problems for suppliers in future years and could prove unworkable over time. Other fixed price agreements are usually capped at 10 years.

Defense Secretary Robert Gates has sought to move away from more traditional "cost plus" contracts that often leave the government paying the difference when weapons costs rise.

A new defense acquisition law passed earlier this year encourages the Pentagon to adopt more "fixed-price" contracts, which put the burden on industry to cover cost increases, but industry executives say fixed price deals are not usually adopted until the companies are done developing new weapons.

"You'd think they'd want to try it out with a smaller program and see if it works first," said a second executive.

Both Boeing and EADS are building tankers for other countries, but the U.S. version of the plane requires many design changes, which the companies say will make it tough to stick to a fixed-price development contract.

The first industry executive said the new competition rules added 20 percent more requirements to each of the planes offered during the last competition, but the companies had very little time to figure out how to meet those requirements -- and then set fixed prices for them for the next 18 years.

"Frankly we've never done that before," said the executive, adding the government for its part also rarely kept the same budget plans for more than two years, much less 18 years.

The contract would also only pay companies the final 20 percent of the development bill when work was completed, which meant companies would wind up financing "several hundred millions of dollars" on their own dime, a move that threatened to undermine the very profitability of the project.

Northrop was worried that the larger fuel-carrying capacity of its bigger A330 tanker would not be valued and that the competition would ultimately result in a "price shootout," which could favor the smaller Boeing 767 plane, Thompson said.

The A330's ability to land on shorter runways, travel longer distances and carry more passengers would count in Northrop's favor only if the cost of the two bids were within one percent of each other.

Boeing remained concerned some issues it raised in its protest, including the Air Force's complex computer model to assess fuel use, still had not been addressed.

(Reporting by Andrea Shalal-Esa; editing by Andre Grenon)

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