* Industry asked to take on more F-35 production risk
* Lockheed cites potential liability in earnings report
* Lockheed, Northrop cite need for government funding
By Andrea Shalal-Esa and Karen Jacobs
WASHINGTON/ATLANTA, Oct 26 After months of
grumbling behind the scenes, U.S. arms makers are now publicly
criticizing Pentagon plans to change the way it buys weapons and
make industry shoulder more of the risks of development.
No. 1 U.S. defense contractor Lockheed Martin Corp
used its quarterly earnings report to flag concerns about what
it called an "unprecedented" move by the Defense Department's
push to make the company pay for design changes in the F-35
fighter jet that come up during developmental testing, which is
continuing even as the plane has already entered production.
Lockheed said the company needed funding to cover costs
associated with the next production lot of F-35 planes, but
Pentagon officials said such funding would be contingent on the
company agreeing to be responsible for certain costs of changes
arising from testing, under a "concurrency clause."
Chief Executive Robert Stevens told reporters after the
earnings release on Wednesday that Lockheed would be reluctant
to accept "unbounded liabilities for unpredictable or unknown
"I think the problem for industry everywhere would be ... to
have a requirement or a responsibility to be accountable for
things that aren't known, that you can't predict, that no one
can reasonably at this time look forward and either schedule or
define or articulate in some way," Stevens said.
Lockheed's F-35, or Joint Strike Fighter program, has been
under tough scrutiny since it is the largest U.S. weapons
program and has already seen costs rise sharply over the past 10
years -- making it a prime target for future cuts.
Officials estimate it will cost $382 billion to develop and
build 2,447 of the radar-evading fighter jets for the U.S.
The F-35 may be a bellwether for the fate of other weapons
programs as arms makers brace for up to $1 trillion in defense
spending cuts over the next decade.
And Lockheed's frustration with Pentagon contract
negotiations reflects growing unease across the industry.
"The defense industry has grown accustomed to certain kinds
of terms and profits over the last 10 years and it simply isn't
willing to sign up to the tougher conditions that the Pentagon
is now imposing," said defense consultant Loren Thompson.
"There's no way that a company could sign up for unbounded
risk; shareholders wouldn't stand for it," he said.
Lockheed said in its earnings report that it faces millions
in potential termination liability for work it has funded should
additional government funds not come for the next batch of F-35
Wes Bush, chief executive of Northrop Grumman Corp ,
a key supplier on the F-35, said it was crucial to get the next
production contract funded to keep the program and its entire
supply chain on track.
"We're not in the business of financing these programs so
there comes a limit in everyone's capacity to deal with that,"
Bush said during Northrop's earnings call, citing a "strong
alignment" across industry on the issue.
A spokesman for the Pentagon's F-35 program office on
Wednesday said the department had cut the number of planes to be
bought under the fifth batch by four planes to 30, to help fund
cost overruns and the cost of design changes that arose from
testing on the first four production lots.
The change will reduce the value of the contract by hundreds
of millions of dollars.
Proposed contract changes have also drawn the ire of
contractors bidding to build Humvee replacements for the Army:
Britain's BAE Systems Plc , which is also a major
supplier on the F-35, Navistar International Corp ,
General Dynamics Corp , AM General and Lockheed.
Sources say several companies are considering withdrawing
from the Army's Joint Light Tactical Vehicle competition if the
Army does not change draft requirements issued this month.
Arms makers and their backers on Capitol Hill are growing
increasingly worried that the Pentagon's aggressive acquisition
reforms and cost-cutting measures could undercut the long-term
health of the defense industry, which is already facing a dearth
of new programs due to budget-cutting.
House Armed Services Committee Chairman Howard McKeon and
the top Democrat on the panel met with Pentagon acquisition
officials and the head of the F-35 program office, Vice Admiral
David Venlet, this week to share their concerns about how they
were trying to structure the next F-35 contract.
The F-35 program office responded to that meeting and others
by telling Lockheed late on Tuesday that it recognized the need
to cap the company's exposure and would no longer insist on
Lockheed paying for all concurrency-related changes, one source
familiar with the issue told Reuters.
Lockheed officials say they are anxious to begin formal
negotiations on the next batch of F-35 production jets after
Shay Assad, director of defense pricing, completes a review next
week of what the planes should cost.
The Pentagon's F-35 program office responded to Lockheed's
comments on Wednesday by saying it was continuing to work in
"good faith" with the company to reach a deal.
Joe DellaVedova, spokesman for the F-35 office, said the
government paid for "concurrent recurring costs" in all four
previous low-rate production contracts.
But a new Pentagon acquisition memorandum dated Aug. 19
required the next contract to "reflect a reasonable allocation
for Lockheed Martin to share in the concurrence risk associated
with achieving F-35 configuration and capability requirements,"
"The government remains committed to securing a fair
agreement with Lockheed Martin to share in concurrent costs.
This agreement, or undefinitized contract, will happen in
advance of the negotiated final contract," he said.