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Lockheed, Boeing trade barbs over massive Pentagon contract wins

October 24, 2018 at 5:36 PM

In late August, Boeing won a contract to build four MQ-25s, unmanned combat aircraft systems designed to refuel fighter jets in midair. (Photo by Eric Shindelbower/)

In recent years, Lockheed Martin has appeared untouchable at the top of the U.S. defense-contracting hierarchy. It took in a whopping $50 billion from the U.S. government last year, more than twice as much as its nearest competitor, Boeing.

But in the past few months, Boeing’s Arlington-based defense business has landed a series of decisive blows that could signal the beginnings of a comeback.

In August, Boeing became the primary contractor on an expected $7 billion program to build drones that can refuel fighter jets in midair, something that should extend their flying range far beyond U.S. military bases. Then in late September it won a $2.38 billion contract to build replacement helicopters for the Air Force. And it won a high-stakes $9.2 billion contract to rebuild the Air Force’s training jets. Lockheed was a leading competitor for all three programs.

In a Wednesday call with investors, Boeing chief executive Dennis Muilenburg said those combined opportunities could eventually bring in $60 billion in revenue for the Chicago-based company as the government tacks on follow-up contracts. He said the Air Force’s initial $9.2 billion training aircraft contract might actually represent less than 20 percent of the program’s long-term production value and less than 10 percent of what it could eventually charge for related support services like replacing spare parts. And executives also teased the possibility that the plane could be sold internationally as a light attack aircraft.

Related: A little-known Vietnamese airline is buying $5.6 billion in Boeing planes

For Boeing’s defense business, the transformation has been years in the making. In early 2016, the company appointed Leanne Caret to lead the division. Since being appointed, she has led a broader transformation of the company’s corporate bureaucracy designed to help it move faster on major opportunities, slashing layers of management and reorienting the company’s strategy.

Still, analysts are worried that Boeing might have taken on too much risk in a bid to unseat its competitor. If unanticipated costs arise during production, Boeing could have to absorb any overruns itself rather than billing it back to the government.

The Air Force said it saved a lot of money on those contracts. Boeing’s $9.2 billion training aircraft contract, for example, was originally estimated by the Air Force to cost $19.7 billion, suggesting Boeing submitted an especially low bid to capture an opportunity its investors saw as critical.

And analysts are worried because another Boeing program, the KC-46 Pegasus aerial refueling aircraft, has been subject to hundreds of millions of dollars of overruns that Boeing has had to absorb on its own. The company disclosed Wednesday that costs on that program grew by another $140 million in the past three months because of “higher-than-expected effort to meet customer requirements. “

Related: The Air Force's $10,000 toilet cover

Lockheed Martin chief executive Marillyn Hewson drew attention to those fears when she told investors Tuesday that her company would have incurred a $5 billion loss had it met Boeing’s bid on those three programs.

“Had we matched the winning prices and been awarded the contracts, we estimate that we would have incurred cumulative losses across all three programs in excess of $5 billion, an outcome that we do not feel would have been in the best interest of our stockholders or our customers,” Hewson told investors Tuesday morning.

Boeing’s executives sought to project the opposite impression, arguing that they should be able to avoid such cost overruns because they have invested in next-generation, low-cost production techniques. They appear to be betting that the long-term rewards will outweigh any short-term hiccups.

“We see a production opportunity that is well beyond the current contract, the initial contract,” Muilenburg said. “So think of these as investments that enable a production run that begins in the early 2020s and will extend literally for decades.”

Related: L3 and Harris agree to merge, creating a $33.5 billion defense giant

Teal Group aerospace analyst Richard Aboulafia said Boeing probably will have to deal with extra costs on its new program wins, but the company’s commercial jetliner business is doing so well that investors may barely take notice. Boeing briefly led a stock market rally this morning and has been among the top performers on Wall Street for the past two years.

“They’ll lose a few billion at least. The first phase of these contracts could be as gruesome as KC-46,” he said. “But who cares? The jetliner business has been great and is spinning off tons of cash.”


Aaron Gregg covers defense contractors and Washington-area businesses for the Washington Post's financial desk.

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