DoD Buzz

Lockheed CEO gives new warnings about sequester danger


DoDBuzz readers may have thought they'd heard every possible reason why sequestration would be bad for government and industry, but Lockheed Martin CEO Robert Stevens has a new one for you.

In a stemwinder for reporters at the defense titan's annual media day, Stevens gave many now-familiar arguments for why Congress must step in and prevent the sequester -- then a twist.

"The near-tem horizon is completely obscured by a fog of uncertainty," he said. "With only 196 days remaining, we have no insight into how sequestration, this law, will be implemented. Which programs will be cutailed; which sites will be closed; which technologies will be discontinued; which contracts will be reformed; which suppliers -- particularly our small business partners who are vital to our supply chain -- will be impacted and certainly, most tragically, how many people are going to be affected; how many dedicated employees are going to lose their jobs; how many families are going to be disrupted."

The defense industry simply cannot withstand another $487 billion in reduced DoD budget growth over the next decade, Stevens said. It just can't do it.

"I suspect that on one level, it might be flattering to believe our industry is so robust, so durable, to as to absorb the impact of sequestration without breaking stride, but this is a fiction. The widespread disruption of across-the-board cuts with significant layoffs means our industry will suffer a loss of learning, a loss of talent and an erosion of quality.”

Stevens returned to the bit about the contracts in response to a reporter's question, and here's where the new wrinkle comes in: Because the sequester takes place in the middle of the fiscal year, the disruptions it would cause to existing contracts between DoD, Lockheed (and other firms) and sub-contractors would fall like a rockslide. Stevens warned that if federal funding dropped off for a given program, Lockheed would have to dial back its deals with its own vendors. They could claim Lockheed had violated their contracts and charge it more money, and Lockheed would have no choice but to pass those charges onto Uncle Sam.

Here's how Stevens spelled it out -- notice his use of the legal and technical jargon that might well appear in Lockheed's agreements with the feds and its own vendors:

"In our drive for affordability, where I think we’re quite aligned with Pentagon expecations, many people have stretched, throughout our supply chain, to lower their costs to provide the most affordable prices for high technology and equipment," he said. "They've done that within reasonable boundaries of what the future business environment is likely to look like. If sequestration occurs, those expectations upon which those cost and pricing structures have been built will be completely off the table. The question will be: How will the contracts will be modified?

When we have a modification of our contracts, we’re going to come out and re-phase and reschedule, in our case, 40,000 suppliers. My sense is, those 40,00 suppliers will say that’s a business disruption, and we’re going to provide a claim to you for the adverse impact for a disruption in business. It's happened before, even when individual contracts are modified.  You will therefore be compelled to assemble this portfolio of requests for equitable adjustments for claims and pass that along as the prime contractor to our government customers. I have not heard any discussion about how that number of requests for equitable adjustment of claims will be managed.

[I've also not heard] whether or not $53 billion [in the first year of sequestration] is a net number or a gross number, because if $53 billion is gross, I rather suspect there’s going to be some kind of add-back for the adverse costs consequences of modifying across the board, perhaps every contract that we have. So it’s just not clear to us and, more importantly, not clear to our small business suppliers -- and that really puts them under an enormous amount of pressure."

Did you copy all that? Stevens is warning that the drop-off in funding caused by the sequester would effectively abrogate the contracts that DoD has with its big prime contractors. That would, in turn, force those vendors to abrogate the deals they have with their suppliers. Those suppliers could say, all right, under the terms of our deal, I get to charge you, Lockheed, for this disruption. Lockheed would come back to the feds and say, guess what, Mr Secretary, you owe us X percent more to cover all these ripple effects.

Stevens also warned, as other defense leaders have, that the contractual problems in the defense industry might start before sequester even takes effect. We've heard before that the mid-fiscal year drop of the guillotine means that in October, at the beginning of the fiscal year, vendors and their sub-contractors must assume sequester will take effect and begin laying people off. But even as that's happening, vendors might also insist on a premium in the fewer deals that can actually get done, to protect against the risk of sequestration. So even as firms are tightening their belts and laying people off, the business of the Pentagon could still cost more.

Still reading? Thanks for sticking with it -- here's the bottom line: Sequester could turn into chaos, Stevens warned, and it would be much more costly than anyone seems to appreciate. He urged Congress to act fast to keep the blade from falling, but even his warnings didn't seem likely to break the deadlock between Democrats and Republicans.

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