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Are fixed price contracts a fad?

The Pentagon's top weapons buyer is trying to put the breaks on the growing momentum for fixed price contracts within the Defense Department even as frustration grows over weapons programs being delivered late and over budget.

The first example that Frank Kendall, the under secretary of defense for Acquisition, Technology and Logistics, typically uses is the A-12 Avenger and the problems that a fixed price contract caused during its development. The Pentagon was forced to cancel the program to build a carrier based stealth aircraft in 1991 after costs and requirements spiraled out of control.

Since then the government and the contractors -- General Dynamics and Boeing -- have been tied up in court disputing the billions the government paid before canceling the program. Most recently, the U.S. Supreme Court overruled in 2011 a federal appeals ruling that stated the contractors owed the government money on the $4.8 billion development contract that General Dynamics and Boeing received.

Kendall said on Tuesday the government wanted to avoid similar court battles as he answered questions about the effect sequestration might have on contracts. He used the time after his speech at the defense conference in Washington D.C. sponsored by Credit Suisse and McAleese and Associates to then explain why fixed price contracts are not always the best option for the Pentagon.

Air Force generals have lauded the fixed price contract it landed with Boeing to build the KC-46 tanker as a success for the service's acquisition branch. So much so, Air Force leaders often say losing it will be one of the worst consequences of sequestration should the service be forced to cancel it for the lack of appropriate funding.

Kendall did use the tanker as an example of a program that could benefit from a fixed price contract. He wrote a piece for the March/April issue of  Defense AT&L, the military's acquisition magazine, in which he lauds the tanker contract, but questions the wisdom of future fixed price contracts for development programs.

His concern is the balance of risk and delivering a product the military wants.

"[Firm fixed price] development tends to create situations where neither the government nor the contractor has the flexibility needed to make adjustments as they learn more about what is feasible and affordable as well as what needs to be done to achieve a design that meets requirements during a product's design and testing phases," Kendall wrote in his article.

On Tuesday, he pointed out that the development portion of contracts receive most of the attention, but the production and sustainment portions of weapons contracts cost the military significantly more. Kendall said spending a little more during development in order to pay less during those later portions of a weapon's life span saves the Pentagon money overall.

While he acknowledged that development programs, especially in the engineering and manufacturing design phase, have run over budget, he said that handing the risk of that portion to defense companies does not necessarily protect the military. Yes, the military is forced to pay less for industry mistakes, but he questioned if that is worse than losing a program all together in certain cases.

Kendall also pointed out the benefits of the government and industry working as partners during the EMD phase and providing the flexibility to balance "financial and technical outcomes" rather than a firm fixed price contract where the focus is "squarely on the financial aspects of the contract."

Along with the Air Force tanker program, Kendall did say there are other program where fixed price development contracts make sense.

"Another example where this can be done is a Navy auxiliary, where the shipyards have a great deal of experience with similar designs and with the design process for that class of ships," Kendall wrote.

On Tuesday, he listed some of the requirements and circumstances in which he would support the use of a fixed price development contract. Kendall explained in his Defense AT&L article that he looks for firm requirements, a program with low technical risk, qualified defense companies, the financial capacity to absorb overruns, and a business case that will motivate the contractor to push through setbacks.

The Pentagon top weapon's buyer suggested that the interest in fixed price contracts could be a fad. He pointed out that after the A-12 fiasco Pentagon leaders wanted nothing to do with fixed price contracts. Twenty years, he said it has been interesting for the cycle to return where critics are asking why the Pentagon doesn't have more fixed price contracts.

"Twenty years ago they said we'd never do fixed price contracts again," Kendall said Tuesday.

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