Top executives of major U.S. defense contractors should have their pay tied more closely to performance on Pentagon programs, Air Force Secretary James Roche says.
“Senior executives really need to take performance on our major programs more seriously,” Roche said in an interview. “We have examples where our programs have gone to hell and our only alternative is to give (the companies) more money.”
Beyond Cash Donations: How New Forms of Giving Are Transforming Not-for-Profit Accounting
Evolving Funding Landscape for Not-for-Profits Not-for-profit organizations are being asked to do more with less,…
Learn More
The Pentagon wants to rewrite contracts to increase incentives for exceptional performance and penalize poor work. That would respond to contractors’ complaints that industry profit margins are low and would give the Pentagon leverage over cost growth and delays that’s been lost as the industry consolidates
and competition for contracts dwindles.
The cost of the Pentagon’s 70 major weapons programs has grown by 18 percent, or $133.3 billion, since fiscal 2001. Before that, the Pentagon’s annual cost growth on major acquisition programs back to the mid-1980s was 1 percent to 3 percent.
“We have not experienced double-digit cost growth since the early 1980s when weapons costs jumped to 14 percent in 1982 from 4 percent in 1980,” a Pentagon analysis said.
This growth comes as Pentagon asks for $71.9 billion more for weapons in fiscal 2003 — about $10 billion over this year and the largest increase since the early 1990S. Overall, the Pentagon wants to spend about $411 billion on weapons through 2007.
100 Percent Overrun
Executive compensation is almost always tied to how well corporate heads increase shareholder value.
“We want the companies to be held more accountable to performance for us,” said Roche, a former Northrop Grumman Corp. executive.
Roche floated his idea during a speech May 14 to a defense investment conference in New York.
He didn’t single out executives but he highlighted as an example what’s turned out to be nearly 100 percent cost growth with the program to build a new constellation of U.S. early warning satellites.
Lockheed Martin Corp., the nation’s largest defense contractor, is the program manager; Northrop Grumman, the fifth-largest, provides the primary heat-detecting sensors. The contractors are developing a more powerful version of the aging satellites now in use. About 60 percent of the work is complete.
Including procurement, the program is now projected to cost $8.1 billion, twice the original estimate, according to internal documents.
‘Something Is Wrong’
The Pentagon disclosed last month that costs in the development stage increased $2.7 billion, or 66 percent, to $6.7 billion from $4 billion. The launch schedule has slipped to late 2006 at the earliest from October-November of 2004.
The Air Force and the contractors estimated in April 2000 that the overrun in development was only $207 million and they dropped their estimate to about $100 million in October.
“Something is wrong” when a program’s cost estimates are that far off, Roche told the investor audience.
Meantime, the estimated procurement cost for three of the five planned satellites has doubled: to $1.38 billion from $735.9 million in inflation-adjusted “then-year” dollars.
The financial impact of the overruns on Lockheed and Northrop is minimal because the companies are operating under a contract lasting until December 2008 that obligates the Air Force to swallow any cost growth.
The industry team’s penalty since mid-1999 was $38 million: It received just 52 percent of the bonus available for exceptional performance — $40 million of $78 million. (Lockheed says its average bonus rate for all programs is 95 percent.)
Executives’ Pay Increased
The companies’ chief executives saw their pay increase.
Lockheed Martin Chief Executive Vance Coffman was paid $7.09 million last year, a 20 percent increase from 2000, after the stock price rose by a third and the company won a significant military contract.
Coffman, 57, got a salary of $1.41 million, a $3 million bonus and $220,481 in other compensation. He also got $1.23 million in long-term incentive compensation and $1.23 million in restricted stock awards.
Lockheed said it raised Coffman’s pay because its financial performance improved and the company won the Joint Strike Fighter contract from Boeing Co. Lockheed’s stock price rose 37 percent last year, while the S&P 500 Aerospace & Defense Index fell 19 percent.
The satellite program is managed by Lockheed Martin Space & Missiles, whose head Albert Smith got a base salary of $561,538, a 24 percent increase from 2000. His 2001 bonus was $731,300, or 12 percent higher.
Northrop Grumman Chief Executive Kent Kresa received a $3 million bonus last year along with options that could be worth as much as $17.4 million as a reward for exceeding the company’s financial performance goals.
Kresa’s pay package, excluding the options, rose 11 percent to $4.76 million from $4.29 million. His base salary rose to $1.2 million from $1.02 million. He received a $462,070 long-term incentive payout along with $95,874 in other compensation.
‘Getting Their Attention’
Kresa spokesman Frank Moore said the company had no comment on Roche’s remarks.
Lockheed Martin issued the following statement: “Secretary Roche is seeking what we all are — innovative cutting-edge advanced technology programs that perform on schedule and on
budget.”
Roche acknowledged he’s not sure how his views can be turned into policy but “maybe there is a way to get the attention of the people who are running the firms.”
Bloomberg News
