Pentagon and Lockheed Martin officials finally concluded negotiations that took more than a year for low-rate, initial production Lot 4 of the Joint Strike Fighter.
This is the first time the Pentagon is using a fixed-price incentive fee contract for the F-35, which has fallen under unprecedented scrutiny in the past year for extreme cost growth.
However, the agreed-upon fixed price and incentive fee structure haven't yet been disclosed. Negotiations closed yesterday (Sept. 21) and a contract will likely take weeks to draw up and sign.
What will be key is how much risk the government and Lockheed Martin are each willing to take. This will eventually be visible in both the agreed-upon per-unit price as well as the incentive fee structure. Through this structure, the Pentagon lays out how much both it and the company will pay in the event of a future cost overrun. Similarly, it outlines the financial incentive for the company for performing beyond expectation -- which Lockheed Martin officials say they fully expect to be able to do.
The terms "drive everything,” according to one government official. “You can turn a fixed-price, incentive-fee contract into something that becomes a cost-plus contract” based on the terms. Lt. Gen. Mark Shackelford, military deputy to the Air Force acquisition secretary's office, said this month that earlier cost type contracts did not provide a useful mechanism for government overseers to penalize contractors for poor performance.
The LRIP 4 deal will include purchase of 30 F-35s for the U.S., as well as one for the U.K., according to Pentagon officials. An option also is included for one of the single-engine stealthy strike fighters for the Netherlands. The lot was expected to include all 32 aircraft.
Total contract value is expected to reach more than $5 billion, including production and sustainment elements, according to a Lockheed executive.
Negotiations have been ongoing since October 2009.
“We remain confident that this agreement keeps us on track to reach our long-term price projections for the F-35 at full-rate production,” according to Lockheed’s statement. “We know we have to adapt to the new reality that we face, with more demanding affordability goals that place an even greater premium on program execution, and we are committed to meeting that challenge.”
“The department believes this contract is a fair and reasonable basis for LRIP 4 and sets the appropriate foundation for future production lots,” the Pentagon says in a statement. “The negotiated price is below the independent cost estimate prepared earlier this year and reflects the contract type deemed most efficient by the department.”
The path to get to this point is worth recounting.
Company officials said earlier this year they wanted to wait for a fixed-price deal until LRIP 5. Clearly, the Pentagon felt otherwise, and the Pentagon's statement says the contract includes a fixed price. During the spring, Lockheed officials went on the offensive, claiming that the Pentagon's JSF cost estimates were bloated and didn't take into account the "actuals" experienced in LRIPs 1-3 on the production line in Fort Worth. Pentagon acquisition chief Ashton Carter and David Van Buren, the senior-most USAF procurement executive and chief negotiator on the deal, said they encourage over-performance and that any under-runs could translate to additional aircraft purchases.
Lockheed Martin officials have been walking a tightrope with their low-cost message. While some company officials were pushing for another cost type contract for LRIP 4 (which reduces the company's financial risk in the event of an overrun or delay), citing potential uncertainties early in production, others have been saying that the per-unit cost will be stable and comparable to F-16s and F/A-18s rolling off the line today. So, one could surmise the company wanted to advertise a low cost, especially to international buyers that are so critical to ramping up the production rate and stabilizing it at a high number, but was shy about backing it by fixing the cost contractually in the near term.
Steve O'Bryan, VP of F-35 business development, said in June that the company projects a unit recurring flyaway of about $60 million for a conventional takeoff and landing F-35A.
The Pentagon doesn't typically use unit recurring flyaway cost in its planning. Instead, it uses the APUC -- average procurement unit cost -- and PAUC -- the program acquisition unit cost. PAUC includes the total program cost divided by the number bought, while APUC is a smaller number that doesn't include the price of development. While this figure may quell concerns of would-be international buyers who will purchase their aircraft in later lots, the issue in Washington is the price of a JSF today or next year. Israel's recent deal (subscription only) includes a per-unit price of about $144 million.
The Pentagon's projections as of June for JSF in Fiscal 2010 dollars are the following:
APUC -- $108.7 million (up 84% from $59.1 million in 2001)
PAUC -- $132 million (up 82% from $72.7 million in 2001)