SpaceX Might Win in Court, But Can It Beat the Pentagon’s Procurement Culture?

While SpaceX continues to fight a legal battle to gain access to the military rocket launch market, it remains in doubt whether the company’s commercial business model can coexist with the Pentagon’s highly regulated procurement system.

Rocket manufacturer Space Exploration Technologies Corp., or SpaceX, is suing the U.S. government for the opportunity to challenge the United Launch Alliance, a joint venture of The Boeing Co. and Lockheed Martin that has had a near monopoly on military and intelligence agency satellite launches for more than a decade.

Although Defense Department officials made it clear they dislike being sued, especially by a company that wants their business, they are moving to make SpaceX eligible to compete in future launch programs. They insist it has been their plan all along to open up the market to newcomers, especially now that budgets are coming down and commercial players like SpaceX claim they can put satellites in orbit for a fraction of ULA’s cost.

The obvious financial benefits of free-market competition, however, are not the only forces at play in this contentious battle where billions of dollars worth of future launches are at stake. Of concern to nontraditional companies like SpaceX are cultural and institutional pressures that drive the government to do business as usual with established government contractors.

The Air Force said it is investing $100 million in engineering reviews and other regulatory procedures that are necessary to qualify SpaceX to compete for a portion of the launches that are currently performed by ULA's Atlas V rockets. The certification process began in 2007 — SpaceX entered the launch market in 2002 — and is expected to be completed next year.

SpaceX founder Elon Musk did not mince words in his court filing. "The Air Force has entered into an unlawful contract for rocket launches with the United Launch Alliance," reads a protest filed in May with the U.S. Court of Federal Claims.

The Air Force’s deal with ULA, the complaint states, "defers meaningful free competition for years to come, costing taxpayers billions of dollars more."

Regardless of the outcome of the suit, the Air Force might not be ready to take the leap of faith that would be needed to turn over billion-dollar satellites to commercial vendors, analysts suggest.
The government needs to find a way to better adapt commercial technology, said Randall Garber, partner at A.T. Kearney public sector and defense services. "That means enabling nontraditional entrants."

In the past, military technology development led the way, and now it is the opposite, said Garber. "If our competitive advantage relies on technology, we have to be able to adapt commercial systems more readily than we do today."

It is always difficult for a new player to break into an established market, Garber said. Whether suing its best customer turns out to be a smart move for SpaceX remains to be seen, he said. A more daunting concern for the company — or for any commercial vendor that is pursuing big-ticket military contracts — is that the Pentagon still prefers to pay higher prices if it means zero risk of a launch failure. "Mission assurance and risk issues are really big," Garber said, especially when the government is shooting billion-dollar satellites that take years to build.

What happens with SpaceX in the military market over the coming years will be a test case of how cutting-edge technology intersects with arcane government contracting.

Some experts and policy makers are skeptical. "It seems that the Air Force is still stuck in the old contracting mindset," said Paul Hamill, chief operating officer of the American Security Project, a Washington think tank. "ULA has been fantastic for the Air Force. But they need to develop products without government backing. They have to develop their own rocket with their own money," Hamill said. "We are in a different era now. We need public-private partnerships."

House Armed Services Committee member Rep. Randy Forbes, R-Va., is a frequent critic of Pentagon procurements. He doubts the Defense Department can reform its hidebound ways. "The apparatus at the Pentagon is geared to protect our legacy systems," he told a Brookings Institution forum. "We’re geared to protect the things we’ve all been trained on for years. We are geared to say, 'Let’s have zero risk' and just salute.”

Pentagon officials insist they are committed to opening up the space market. "Companies on their own have started building launch capabilities," said Undersecretary of Defense for Acquisition, Technology and Logistics Frank Kendall. "We are trying, despite what you read in the press, to move to as much competition as we can, as quickly as we can."

The rub is that the commercial market cannot fully replace government-run programs in sensitive national security projects such as space launches, Kendall noted. "The department can't just hope the commercial world will provide products. It has to make sure those products are there," he said. "We have to have the capacity to put satellites into orbit on the schedules we plan."

The shift to a commercial approach will take time, he said. "We have to work our way through all this. ... We want to have the benefits of what is happening in the commercial world." The rise of commercial competitors such as SpaceX creates a dilemma for the Defense Department, Kendall recognized. "We want competition, but we also have to have assured access to space," he said. "The commercial model does not fly all the time."

A Pentagon budget crunch and the SpaceX lawsuit could be the catalysts that force the government to accept a new business model, said Charles Miller, president of the consulting firm NexGen Space.

"You want industry to have some skin in the game. You need competition," he said.

Before ULA was formed in 2005, the Defense Department had been more open-minded about turning over space projects to the private sector, Miller noted. Both the Atlas V and the Delta IV boosters were developed by Lockheed Martin and Boeing under fast-track procurements that gave contractors authority to make key decisions on how to build rockets. Government bureaucracies are now less inclined to do that, Miller said. SpaceX will have a chance to make its case in court, but it also has to prepare for another tough fight against the government's business approach. The problem for SpaceX is that the government cares more about reliability than about cost, Miller said. "That's the dirty little secret."

The Atlas V and Delta IV rockets were built to be "affordable" and to compete in the commercial market, but the government loaded them up with layers of oversight and regulatory requirements that made them uncompetitive, Miller said. "Defense Department requirements for mission assurance drove the costs through the roof." The red tape and oversight grew out of concern that the government could not afford to lose a spacecraft. "It's a burdensome process to squeeze out any error that might seep into the system, and it drives up cost," said Miller. "There are huge armies of people looking over each others' shoulders. It's very process intensive."

Reliability is a legitimate issue, he said. The United States launches hugely expensive satellites with no backup and can't afford for it to fail. The government is usually willing to spend an extra $100 million per launch to eliminate any chance of error, Miller said. Commercial operators manage risk differently. They have backup satellites so if there's a mishap they're not out of business, and buy insurance against launch failures. Commercial launch providers prove their reliability by flying a lot.

How the government deals with that issue could put SpaceX in a tough spot, Miller said. Once the company is certified to compete against ULA, will the government pile on reliability requirements? "I would be scared that suddenly they will be buried in process," said Miller. "I assume SpaceX is scared, too, that its low-cost rocket would no longer be low cost." Musk has said his cost per launch would be one-third or less than what ULA charges. The company, though, is not willing to "bury itself in paperwork and armies of oversight people," Miller  said. "That may be the source of some friction between the SpaceX way of doing things and the Defense Department's mindset about how to achieve reliability."
SpaceX executives declined to comment for this story, citing the pending lawsuit.

Another potential headache for SpaceX is the contracting approach the Air Force chooses to apply to future launches. By law, the Pentagon is directed to buy space launch services under Federal Acquisition Regulation Part 12, which iapplies to commercial services. But the latest multiyear deal with ULA for the evolved expendable launch vehicle (EELV) program was under FAR Part 15, which allows the government to audit the company's operations and obtain full cost and pricing data. Commercial firms reject Part 15 contracts as anathema to their business model.

The EELV program started in 1995 with the expectation that Boeing and Lockheed would go head to head. The government later decided it would be more efficient to merge the two into what became ULA.

Principal Deputy Under Secretary of Defense for Acquisition, Technology and Logistics Alan Estevez told lawmakers that the decision to go with Part 15 for the EELV contract was prudent given the program's history of cost overruns. The contracting approach "has to be weighed acquisition by acquisition," he said during a hearing of the Senate Armed Services Committee. "There are benefits to having that full cost and pricing that have been helpful to us."

Estevez was grilled by Sen. John McCain, R-Ariz., who has criticized Pentagon leaders for not creating a level-playing field in the launch market. "We're committed to the competitive course," Estevez said. "We are aggressively pursuing to get SpaceX certified so that they can launch our satellites."
The Air Force said it would set aside seven launches that would be open for SpaceX bids once the company's Falcon 9 booster is certified. A "full and open competition" for all launches would start in 2018.

A potential wildcard that could play for or against SpaceX is ongoing tensions between the United States and Russia. The Atlas V rocket uses the RD-180 engine made in Russia by NPO Energomash, which is owned and controlled by the Russian government. In its protest, SpaceX charged that "each instance in which the Air Force procures an Atlas represents significant U.S. taxpayer money flowing to Russia’s military industrial complex." SpaceX manufactures its own line of rocket engines.

A Rand Corp. study said an interruption in the RD-180 engine supply would cause a "significant disruption in EELV launch operations, because a large number of Atlas V launches are scheduled in the next few years."

How to potentially replace the RD-180 rocket engine is now the subject of much study and debate within the U.S. government. ULA has 15 engines on hand. Two more are scheduled to be delivered in August and three in October. Six more would be ordered next year.

So far, it is “business as usual,” said Air Force Gen. William Shelton, chief of U.S. Space Command. If the situation with Russia deteriorates, the Pentagon is preparing contingency plans to deal with engine shortages, said Shelton. If and when engine supplies might be disrupted is still unknown.

ULA announced in June it has signed commercial contracts with multiple American companies to investigate next-generation liquid oxygen/hydrocarbon first stage propulsion concepts. “ULA has a number of very promising alternatives, and we are working with the very best propulsion companies in America,” George Sowers, ULA’s vice president of advanced programs, said in a statement.

Pentagon officials said they have not yet settled on a plan for how to develop and acquire a new engine. The effort could be government-run or some form of public-private partnership. Miller, of NexGen Space, said a new engine program gives the government an opportunity to tap into massive investments that are being made by private companies. "This is the heyday of rocket engines," he said. Besides SpaceX, other startups have shown they can build advanced rocket engines. Blue Origin, founded by Amazon.com CEO Jeff Bezos, developed a new engine for commercial rockets. "Lots of small startups are developing lots of technology," Miller said. "Industry has capability."

Topics: Business Trends, Doing Business with the Government, Procurement, Acquisition Reform, Defense Department, Space