Lockheed's F-35 proposal shows cost creeping up

By Andrea Shalal-Esa

WASHINGTON (Reuters) - Lockheed Martin's <LMT.N> proposal for the latest batch of F-35 fighter jets shows the price per plane creeping up on the Pentagon's costliest U.S. weapons program, sources familiar with the program said.

Total costs on the first three production contracts for the new radar-evading warplane and its primary engine overshot their targets by 11 to 15 percent, said Joe DellaVedova, spokesman for the Pentagon's F-35 program office.

The Pentagon has restructured the $382 billion program twice in two years to get a grip on nagging technical issues and repeated cost overruns.

The cost of building new warplanes usually goes down over time as manufacturing quantities increase, but Lockheed's bid for a fifth batch of 35 planes was $5 million to $7 million higher per plane than in the fourth contract, said the sources, who were not authorized to speak publicly.

The rising price reflects higher actual costs on the first three sets of production planes, and a switch from "cost-plus" contracts to "fixed price, incentive fee" terms, which make the company more accountable for cost overruns, the sources said.

Navy Vice Admiral David Venlet, who runs the F-35 Joint Strike Fighter program, last month said that defense acquisition and audit officials would carefully review Lockheed's proposal for a fifth batch of 35 production planes, which will be the second on fixed-price, incentive fee terms.

He said 2011 and 2012 would be pivotal years for the program to demonstrate that it had costs and production under control. He acknowledged that the first three contracts had faced schedule delays and cost overruns, but gave no details.

He said he was also anxious to see how actual costs on the fourth batch of production planes aligned with those mapped out in a $3.5 billion contract signed with Lockheed last year.

Lockheed spokesman Mike Rein confirmed that Lockheed, the Pentagon's No. 1 supplier, had submitted a proposal on April 25, but gave no further details. He said the company was focused on providing the warplane at an affordable price.

Lockheed had agreed to absorb about 30 percent of its share of the cost overruns on the first three contracts, Rein said, adding that the cost increases were largely due to changing materials requirements and labor costs.

Work on those contracts is 63 to 89 percent complete, said DellaVedova, the Pentagon contract office spokesman, noting it took longer than expected to produce sections of the early planes and assemble them.

The sources said the total amount of cost overruns on the engines and airframes would be around $500 million, after Lockheed's contribution.

DellaVedova declined comment on the terms of Lockheed's newest proposal, but said the contract would be finalized in coming months after detailed negotiations with the company.

Pentagon acquisition chief Ashton Carter has repeatedly underscored his continuing cost concerns about the program.

Last month, he told lawmakers that costs were growing too fast on both the overall F-35 program, and the F135 engine being developed by Pratt & Whitney, a unit of United Technologies Corp <UTX.N>. He said cost overruns on the airframe were proportionately higher than on the engine.

Carter also included the program as one of 14 weapons programs that will be subject to tougher oversight.

Lockheed is developing three variants of the new warplanes for the U.S. military and eight partner countries, as a replacement for over a dozen warplanes.

The Pentagon estimates that the average cost of each F-35 warplane will be about $90 million, up from early estimates of $50 million per plane. Lockheed projects the average price of the Air Force variant will be around $65 million.

The fourth production contract included 11 Air Force variants at $111.6 million each, excluding the engine; 17 short takeoff, vertical landing versions of the F-35, priced at $109.4 million; and four Navy variant planes, to be used aboard large aircraft carriers, which would cost $142.9 million each.

The contract calls for Lockheed and the government to share equally any cost overrun up to 120 percent of the negotiated price, with Lockheed responsible for any overruns beyond that. If costs are below the target, the government and Lockheed would share those proceeds equally.

(Reporting by Andrea Shalal-Esa; Editing by Tim Dobbyn and Matthew Lewis)