RichardAboulafia.com 

:: March 2008 Letter ::

link

Dear Fellow Shock Victims,

Political talk shows are a dismal form of entertainment. Self-aggrandizing pundits yammering on ("Giuliani is clearly the man to beat") are a terrible cure for a Sunday morning hangover. Yet consider this: a few weeks before EADS/Northrop's surprise tanker victory, Bloomberg's Jim Gunsalus took a poll. Ten out ten analysts predicted a Boeing win. That motley gang of Saturday night quarterbacks – me included – was entirely wrong, just like those bloviating pundits. We have met the enemy, and he is us. But since a political storm is hitting the defense industry, we pundits have no fear of losing our jobs.

The KC-X (now KC-45) decision could transform the defense business. It wasn't just the sheer magnitude of the deal, nor was it that it went to a company domiciled in Don Rumsfeld's “Old Europe.” Rather, I think this is the first time anywhere in the world that an imported defense system won against a domestic direct competitor. JCA, LUH, VXX and many others were either competitions between asymmetric products or were decided without locally-built competitors.

There are essentially two views on the KC-X. The first view is that the USAF communicated its criteria for this selection, and they focused on requirements – aircraft capability, cost, and risk. According to this view, the A330 did very well on most of these. To Boeing's misfortune, no criteria were related to the defense industrial base, subsidies, jobs, or most other economic concerns. Worse, the first view holds, Boeing got complacent, and EADS worked incredibly hard. In this view, it was a classic tortoise/hare story.

The second view is that somehow the selection process was politicized, with the criteria weighted (or miscommunicated) to Boeing’s disadvantage. This tipped the balance in EADS’s favor and magnified the KC-30’s rating advantage. The Air Force then very publicly exaggerated this advantage. In this second view, a possible culprit is Senator John McCain, a long time enemy of the Boeing tanker (and Boeing) and a forceful advocate of the KC-30. After the contract, his office was revealed to have close connections with EADS, with EADS lobbyists also serving as McCain staffers. Disregarding ethics and legality for a moment, these connections look awful. An adjunct of this second view: the Air Force basically offloaded the decision, placating McCain and letting Congress deal with the messy aftermath.

These two views are incompatible. Like that law of physics that I’ve long ago forgotten, they can’t occupy the same place at the same time.

Boeing, of course, has filed a protest. I may be a pundit, but I can’t judge its merits. While Boeing’s protest doesn’t mention McCain, he’s there in the background, acting as an alleged conspirator behind a purportedly flawed procurement process.

There’s a lot at stake, other than the contract itself. If the second view is correct, McCain interfered with the Air Force’s decision. If the first view is correct Boeing’s supporters might force the service to factor in the political and economic concerns. Either way the implications for the USAF are not good. Politicizing defense contracts is a great way to hurt a military service.

Look at the rest of the world. The UK RAF is getting rebuilt Nimrods instead of P-3s, which would cost less and evoke less laughter. Japan's JASDF got the F-2 XCW (eXtra Cracking Wing) instead of F-16Cs which would cost one-third the price. European helicopter forces are strange menageries of every type of helicopter made by AgustaWestland or Eurocopter, depending on the nation. France buys only French equipment, ensuring more than a few weak links in the country’s arsenal. Instead of more F-15s, Saudi Arabia got Tornado ADVs, which are less effective than, I don't know, Cessna Caravans armed with bottle rockets.

All of these decisions were made for political, industrial base, economic, or foreign policy reasons. Guys in suits won. Guys in flight jackets lost. The result: higher costs and reduced combat effectiveness. These militaries suffer because they lack the USAF's independent procurement process. Sucks to be them.

It's not so great to be Boeing right now either, although some of this is psychological. This was one of the few open programs, and the broader defense market is flattening. The 767 dies by 2012. Worse for the company, until the USAF launches KC-Y, all international tanker orders will go to EADS. The eight KC-767s for Italy and Japan are now orphans. Boeing's decades-old tanker market reign is over. By 2015, the company’s military platform business will be reduced to helicopters and the P-8. Unlike the defense unit, the commercial business has an upside — additional resources for the other four production jet models. Besides, what’s 15 767s a year when they’re ramping up to 600 commercial jetliners annually?

As for EADS, we analysts might have misunderestimated their strategery, as George W. Bush might say. They and Northrop did an outstanding job of communicating the virtues of their larger product to the customer. They also did a fine job of exploiting the Boeing products weaknesses (“frankentanker,” “paper airplane,” etc.). EADS has attained its highest priority: access to the only defense market that matters. Airbus's widebody business, under pressure since the A380 fiasco, also gets a strong boost. These tankers will help them bridge the gap between the A330 ramp down and the A350 XWB ramp up.

Boeing’s protest faces a long fight, but this could change over the coming months. McCain’s dubious efforts on the KC-30’s behalf could give the Democrats plenty of ammunition. They could create an alliance of people who despise each other, with the Democrats joined by isolationist Republicans (Duncan Hunter, R-CA, for example) and Republicans from Kansas. Both Democratic presidential candidates have already made unfavorable comments about the contract. If the Democrats win the presidency and control HASC/HAC and SASC/SAC in November, the KC-767 could come back, either as an add-on or, just conceivably, as a politically driven contract reversal.

If it’s the latter, the US could go from looking extremely good in foreign eyes to extremely bad. It’s also very tough for politicians to directly oppose the recommendations of a military service. Boeing’s best hope is that the contract is split—10-14 per year for each tanker. It’s inefficient, but it avoids a brutal, no-win partisan fight. That might well be the baseline scenario.

As I write this, it’s already clear that this could be one of the biggest political battles fought over a military acquisition. The decision came at an impossibly bad moment, when every politician is looking for talking points in the election run-up. Very few politicians are going to stand up in the local union hall and say: “Here’s my position: free trade in defense is great, even if our tax dollars go to the French!” In short, politics are tough to exorcise from anyone's procurement process — even the USAF's.

Or am I just still punditizing? Funny story: four years ago I likened EADS tanker efforts to Charlie Brown's attempts to kick a football as Lucy pulled it away. EADS’s Ralph Crosby sent me a copy of that cartoon scene with “Who's who here?” written on it. Given the tortuous maneuvers between the Air Force, Congress, McCain, EADS, and Boeing, it really is difficult to tell.

This month's Aircraft Briefing updates include the A330 and A350 (now separate reports), F-35 JSF, E-2, the A320, 737/MMA, all the Gulfstreams (including the new 650), and the AV-8B. Have a good month, and if you live in Washington watch for fallout.

Yours, Until KC-Z Preoccupies Us All Again,
Richard Aboulafia

 

© Richard Aboulafia 1997-2006, All rights reserved.
RichardAboulafia.com
  ~  Last updated on January 08, 2006