http://www.businessweek.com/news/2013-02-08/boeing-risks-700-million-tanker-overrun-air-force-says

Bloomberg News

Boeing Risks $700 Million Tanker Overrun, Air Force Says

February 08, 2013

Boeing Co. (BA:US) may have to absorb as much as $700 million in cost overruns on the refueling tanker the company is developing for the U.S. Air Force, about $300 million more than previously estimated, according to the service.

Boeing, which is developing the KC-46A tanker using its 767 commercial airliner, is responsible for all costs exceeding the development-stage contract’s $4.9 billion ceiling, the Air Force said.

The new, higher estimate was disclosed in response to an inquiry about the latest cost projections for what’s planned as a 179-aircraft, $51.7 billion program including research, production and aircraft support.

“The government’s projection of Boeing’s potential liability has increased to about $700 million,” Air Force spokesman Charles Gulick said in a statement. “Government liability is capped,” and any additional “financial liability is completely borne by Boeing.”

The Air Force said its estimate of the cost to complete the development contract is $5.6 billion, up from the $5.3 billion projected in 2011 in the service’s annual cost report to Congress. Chicago-based Boeing estimates the cost at $5.1 billion, according to the service.

The new estimate was based on a review of trends in Boeing costs and schedule data submitted as part of the company’s “earned value management” system, the Air Force said in the statement.

Boeing Response

“While it is not Boeing’s policy to release information on our internal costs, we are meeting the cost and the schedule targets that were established in our” proposal, Jerry Drelling, a spokesman for Boeing’s tanker program, said in an e-mailed statement.

“Our current estimate of the cost to complete” the engineering, manufacturing and design phase “is consistent with our estimate at the time we developed our bid,” Drelling said. “There are no additional costs that will accrue to the government.”

The estimated value for purchasing four development tankers and 175 production planes includes $40.2 billion for procurement. A decision on going into full-rate production is scheduled for June 2017.

Boeing beat out European Aeronautic, Defence & Space Co. for the tanker contract in February 2011, ending an almost 10- year process.

The next month, EADS decided not to protest the award. Ralph D. Crosby, who was chairman of EADS North America, said Boeing won the contract on “an extremely low-ball offer.”

Profit Later

James Bell, who was Boeing’s chief financial officer, told analysts on an earnings conference call in July 2011 that “we have always bid this contract thinking this, on the development phase, would be a very low profitability or break-even.”

“The profit would be generated as we started producing the tanker,” Bell said. “So nothing has changed from that philosophy. Nothing has changed from our bid.”

EADS’s role in the Air Force tanker replacement program began in February 2002 when the Pentagon sought information from its Airbus subsidiary and Boeing before deciding to lease 100 Boeing 767s.

That proposal was scuttled after Arizona Republican Senator John McCain questioned the leasing plan. A Boeing investigation found that Michael Sears, Boeing’s chief financial officer, discussed a job for Darleen Druyun, an Air Force procurement officer, while she was representing the service in the tanker talks.

Sears and Druyun were convicted of violating federal conflict-of-interest laws.

To contact the reporter on this story: Tony Capaccio in Washington at acapaccio@bloomberg.net

To contact the editor responsible for this story: John Walcott at jwalcott9@bloomberg.net


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