5 Ways to Make Government Contracting Cheaper

Since 2000, the US has doubled the amount it spends on contracted work (from $200B to $500B). According to the GAO, of the current 95 major defense acquisitions projects, one in four is overrun. Cost growth from these programs is valued at $295B.  In August 2010, the US Secretary of Defense, Robert Gates, announced sweeping efforts to reduce Defense spending. He announced base closures, overhead reduction targets for all branches of the military, the eradication of Joint Forces Command, and many other targeted reductions.

Because of my day job as a contractor, I see first-hand (or have talked to others who have seen) the system of cause and effect that prevents the current government/contractor system from incentivizing and institutionalizing cost savings. Let me explain a few of the forces at play (very simplified) and then elaborate on potential solutions to reduce the cost of NASA (and DoD) programs.

Background - Contractor:

• Wall Street primarily judges large aerospace companies on three criteria. What are your “Orders”? What are your “Sales”? What is your “EBIT”?
• Orders are the value of new contracts or the value of contract extensions you have won during this period. Usually orders represent work you have not yet done – kind of like “backlog”.
• Sales equal the contract costs incurred plus profit you have earned during this period.  This is the value of your labor, your subs’ labor, any material you procured while executing your contract, and your expected profit for those costs.  Sales represents the volume of work you have completed.
• EBIT is Earnings Before Income Tax – this is the contract profit you earned during the period.
• With Wall Street quarterly judging large aerospace firms on Orders, Sales, and EBIT, companies insist their program managers meet quarterly Orders, Sales, and EBIT targets. 
• Cost Plus Award Fee (CPAF) is the preferred contract vehicle for development contracts. Using this contract vehicle, the Government agrees to pay the contractor for their costs. Then periodically during the contract (at least annually), the contractor’s performance for that period will be judged. The resulting Award Fee (AF) score will dictate how much of each period’s award fee pool the contractor keeps as profit (e.g. 90% AF score would earn the contractor 90% of the AF pool for that period). This contract vehicle allows for easy and straightforward government contract scope changes because the contractor’s costs are covered regardless. Customer intimacy tends to be high with this contract type since the contractor is incentivized to work closely with the government to solve even small problems – growing the work scope and contract size in the process.
• Most development programs are CPAF which means if contractors performing a CPAF contract identify a way to save the Government money, such savings would reduce the contract’s costs which will reduce the company’s Sales and maybe reduce their fee. Saving money on a CPAF contract would reduce at least one (and perhaps two) of the three primary ways Wall Street and upper management judge a program manager and in aggregate, judge the firm.

Background – Government:

• Future budgets for Government programs are often based on current year spending. If you are not spending enough as a Government program manager, the perception will be that you don’t need as much money the following year. This may or may not be true. But such reductions, when they do happen, are usually seen as a bad thing within the local government program office. 
• Politically, it is often better for a large development program to be "Low-Risk and High-Cost" rather than "High-Risk and Low-Cost." Cost saving ideas that increase risk to program execution will often be resisted. I am not saying government programs want to overrun. I am saying the penalties for programs that do not achieve their performance objectives are often greater than the penalties for overrunning programs. Dollar savings at the cost of increased program risk is rarely a gamble government program offices feel incentivized to make.
• As a general rule, corporate profit-making is perceived in a negative light by government personnel. Many within the government feel that profit is the waste in the system.  If profit can be removed, optimum efficiency will be found.  This mindset is changing, but slowly.

5 Ways to Make Government Contracting Cheaper:

1. Stop using Sales as a method for evaluating company performance. Change Wall Street’s focus from judging the industry on Orders, Sales, and EBIT to evaluating the industry on Orders and EBIT only. I believe the volume measurement that the "Sales" category provided is a faulty measurement anyway, and does not necessarily measure company health.  Orders and EBIT do measure company health.  Wall Street, focus on these. 
2. Split cost savings between contractor and government. There are examples of this type of contract clause in use today – although it is used sparingly. The concept is this: If contractors can identify a method to save money on a contract and then demonstrate those savings for XX months, then all future savings could be shared equitably between both parties.
3. Ensure that the government's portion of the cost savings can be kept locally either on the program itself for later enhancements or within the local command as a hedge against future risk. The Secretary of Defense is promising similar treatment of cost savings found in his recent DoD Overhead cost savings efforts. 
4. Change the perception within the Government that profit is bad. In fact, I argue, the profit motive will drive cost savings. The more you can link cost savings to higher profits the more interest you will garner from for-profit companies.
5. Increase the rigor of government proposal auditing. The government already evaluates development contract proposals. These auditors are very thorough, but if we start offering contractors the opportunity to make more money through cost savings, the cynics among us will complain, “if we make it possible for contractors to share in cost savings, contractors will simply pad their initial proposals and then a year later, identify their original proposal padding as 'cost savings'. Such behavior will not help the Government save money at all.” Cynic, I hear you! By ensuring optimum contract sizes to begin with, you will lessen the ability of the unscrupulous to cheat this new system I am proposing. Tough up-front proposal audits are key to maintaining a fair system that rewards heroes, not villains.

So here is a short story of my proposed system in action:

Acme Aerospace signs a Cost Plus Award Fee (CPAF) contract for $100M to provide ISR equipment maintenance on the XX military installation for the next five years. Although the company grumbled at the length and intensity of the government proposal audit, they knew this was a needed step. In the first year of the contract, Sally, the program manager, built a strong relationship with the local program office and organized her team to efficiently and effectively honor all aspects of their contract. At the beginning of her second year, working with her now experienced team, Sally identified several maintenance steps that could be streamlined to eliminate two people on her team, a savings of $200,000 per year ($100K each for easy math). Sally approached her counter-part in the government program office highlighting these potential savings. The government liked Sally’s ideas. The program office authorized Sally to make her staffing reductions as a part of a three-month trial.

After three months of monitored implementation, the staffing reductions had, in no way, adversely impacted maintenance efforts (consistent with Acme’s predictions).  The government program office agreed the probationary period was over. 3.75 years worth of cost savings (the amount of time left on the contract) equal to $750,000 ($200K x 3.75) were split evenly between Acme Aero and the US Government. Some within the government complained that Acme just got paid for “doing nothing”, but the program office reminded these critics that the government also got paid for “doing nothing” and encouraged all parties involved to find more savings of this type. Acme got a check for $375,000 which was recorded as EBIT and included in their upcoming quarterly update to Wall Street. Sally remembered a day when achieving such cost savings would have made her miss her quarterly Sales target, and was grateful for the changes in the way Wall Street measured her company and her program. The US Government directed the government’s portion of the savings ($375K) to be retained on the contract to be used to benefit the war fighter at the program office’s discretion which they used to perform a tech refresh on old ISR servers and equipment that were badly out of date.

If we do nothing…

Without such changes, you will continue to see the CPAF contract vehicle and Wall Street reporting requirements incentivizing contractors to spend every penny of each contract which will continue to leave no reserves in case of unexpected technical challenges which will continue to drive overruns.

But by making these changes (and other ideas not mentioned here), you unleash the power of commerce on the problem. I cannot think of more powerful tools than creativity and self-interest to help reduce contractual costs and save NASA and the DoD some money. 

Designing RLVs with the Lowest Life-Cycle Cost

This was the Space Shuttle we wanted:

The Shuttle parked in the hanger.  Integration for the next mission was supposed to be comparable to Southwest Airlines loading my luggage (maybe I exaggerate a little).  This is the Space Shuttle we got:

The Shuttle requires between 200,000 and 400,000 human maintenance hours between each flight! You can barely see the shuttle in the picture above because of the scaffolding surrounding and incasing the vehicle.

Shuttle experts can (and have) elaborated more eloquently than I could on the reasons why the Space Shuttle reusability goals fell so short. But as we prepare for suborbital RLV operations (and hopefully orbital operations) in the not so distant future, I wanted to discuss the implications of an interesting paper by SpaceWorks Engineering (Michael J. Kelly, et al) and its implications for the costs of RLV design & operations.

The paper is called, What’s Cheaper to Fly: Rocket or TBCC? Why?  In it, SpaceWorks compares two hypothetical RLV designs (one rocket-based and one turbine-based) and discusses the expected operational costs of both systems. Both designs made the following RLV performance assumptions:

• Fleet of three unmanned RLV vehicles
• Fleet flies monthly (12/yr)
• Every 10 flights, RLVs spend 6-mo in offsite heavy maintenance facility
• 100 nautical mile LEO orbit
• Payload 20K lb.

What I found interesting was what ratio the paper’s authors leveraged from the Space Shuttle program to include in their analysis.  The Shuttle utilizes seven support personnel for every one technician in their maintenance and integration efforts. For every one technician preparing the Space Shuttle for its next mission, there are seven individuals supporting that technician. This support staff consists of mission specialists, engineering support personnel, etc. Using this 7:1 ratio, the SpaceWorks paper estimated the need for RLV technicians and then extrapolated the number of support personnel needed.

Using the SpaceWorks rocket-based RLV as an example, below are the costs associated with preparing the rocket for its second flight:

Ignore the exact dollars but pay attention to the percentage. 91% of all “between flight” costs is labor using the 7:1 assumption. Stop worrying about fuel cost – start creating low-maintenance designs.  Of course there are other costs that go into the price of an RLV launch: range costs, fixed cost amortization, development cost amortization, etc. But you can see how critical life-cycle costs become in RLV design discussions.

Quoting the paper, “Any program that can do better than 7:1 will probably save significant money over a program that cannot.” And “In addition to considering operational impacts when selecting engines and TPS materials, vehicle designers should strive to eliminate the need for centralized hydraulics, and for auxiliary power units.”

For example, here is what maintenance and integration costs could look like at various improvements to the Shuttle’s 7:1 support personnel to technicians ratio (all other assumptions unchanged):

I end this post with a quote from Byron Ellis, Executive Director of the Jethro Project, on life-cycle cost and Government Acquisition (just as applicable for RLV designers as Government acquisition agents):

“Executive Order 13123 requires government agencies to use life cycle cost analysis (LCCA) to minimize the government’s cost of ownership. Unfortunately, many stakeholders do not understand the concept of cost and proceed to minimize project acquisition (first) cost, rather than total project cost. However, over the life of the project, facility management cost is often two to three times higher than acquisition costs. Therefore, it is essential to design for minimum facility management cost.”

Interview with bloon's founder José Mariano Lopez Urdiales

There are two main customer categories for suborbital space flights:

1. Those that want “the experience” and
2. Those that want “the view”

Those seeking “the experience” could be adventure seekers valuing the high-g’s, motion sickness, and perceived danger; they could be floaters valuing the micro-gravity free-floating opportunities; or they could be scientists valuing some aspect of the flight profile.

Those seeking “the view” want to see the curvature of the earth, view earth landmarks, see the blackness of space, or take pictures of the stars. These people want an eye-witness account of what space looks like more than an account of what space feels like.

Although most potential customers in category one (“the experience” seekers) are also in category two (“the view” seekers). I doubt the reverse is true. In fact for Virgin Galactic and XCOR, which will be offering suborbital rides that include both both categories of experiences, these companies will sell tickets to "the view" seekers only if there is not a viable alternative for low-intensity, “view only” trips.

Enter an alternative: bloon.

bloon is the first product of Spanish startup, zero2infinity, offering customers “the view” of space while enduring a less intense balloon-based ascent instead of a rocket one. The images above are illustrations from the bloon website.

Here is a quick comparison between the two suborbital offerings - excuse the gross generalizations in the rocktet column:



Below is a video where zero2infinity flies the Spanish Soccer team’s red jersey to 33km highlighting the team's recent success at this year’s World Cup. After the video is my interview with zero2infinity’s founder, José Mariano Lopez Urdiales about his plan for the company.



And now my interview with zero2infinity’s founder, José Mariano Lopez Urdiales.

Project-related Questions:

Q: What is bloon? Can you give a summary of your company’s suborbital balloon experience?

José Mariano Lopez Urdiales: Seeing the curvature of the horizon, a black starry sky under a white hot sun and the Earth atmosphere as a blue thin layer protecting our planet from the harshness of the cosmos. It’s a visual experience that many people would like to enjoy. Well, bloon is my company’s solution to the problem of offering that view in a safe, sustainable and enjoyable manner.

Four flight participants lift off vertically in a pressurized piloted pod. The pod soars to near space with the aid of a helium sail. It spends two hours at a cruising altitude of about 36km. The choice of altitude is optimal in terms of experience and safety because it is high enough so that the human eye can appreciate all the visual cues of suborbital flight and not too high to complicate the return with a high-speed re-entry. Flight participants will be able to gaze at our planet through panoramic windows; this is possible because our speeds are always relatively low. Different customers will want to do different things while they are up there, listen to the explanations from the pilots, eat, pray, write a poem, it’s left to their imagination. Every bloon flight is a bespoke experience and privacy can be provided on board. The descent procedure starts and the pod lands on a predefined spot using a guided parafoil and vented airbags. We’ve selected textile-based decelerators because they’ve proven to be the most reliable and safe way of coming back into the atmosphere and landing. The Russian, Chinese, early American and most new American real spacecraft designers seem to agree.

Q: What are the remaining milestones between today and commercial operations?

José Mariano Lopez Urdiales: We are halfway through our fundraising and expect to be done by the end of 2010. The next major milestone is to fly a first human. That will be an experimental flight and could happen as early as late 2011. In 2012 will be mostly busy testing. Then we’ll go through the certification period, first with EASA and later on with the FAA. Certification is a complex issue, many steps have to be certified, the company, the vehicle, the operators, etc. We expect the first commercial operations to take place somewhere between 2013 and 2015.

Q: You mentioned on your website the potential for participants to experience one-third, one-sixth, or microgravity during a portion of the experience. Describe how this is achieved and how long that portion of the experience might last.

José Mariano Lopez Urdiales: Once the pod separates from the balloon, it free-falls and a stabilizer parachute is deployed. The parachute can regulate how much it opens using a cord at its rim. A control system operates that cord using as data input the acceleration felt by the pod. This technique can reproduce different acceleration profiles. Typically lower acceleration levels can be sustained for shorter times. Thus microgravity can be felt for about 20s and lunar gravity could be about a minute and so on.

Q: What training would I need as a participant?

José Mariano Lopez Urdiales: Strictly speaking, with a half a day briefing on security procedures it should be enough. However many participants will likely enjoy other preparatory activities to make the most of their flight. These may include, space photography, basic astronomy, discussions with scientists providing scientific piggyback payloads, etc.

Q: And now a personal question from looking at the graphics on your website, does the bloon cabin include a drink bar and bathroom? With such a long experience(!), as a participant, I would probably appreciate both?

José Mariano Lopez Urdiales: bloon does include both as we want our clients to be as comfortable as possible and to really enjoy the experience. Food to the taste of the clients can also be provided.

Business-related Questions:

Q: What is your source of company funding (Grants, Friends/Family, Angels, VC’s, Bank Loans, etc.)?

José Mariano Lopez Urdiales: After a year funding it myself, I’ve been blessed with angels that have been able to propel the project beyond what I could achieve with my own resources.

Q: How much funding do you need to raise (and how much have you raised to date)?

José Mariano Lopez Urdiales: The whole project requires about €16M in capital. I cannot disclose the amount committed to date as we are in the middle of a funding round.

Q: Your price point of $100K per ticket is half of Virgin Galactic’s. Talk about your pricing strategy (why not $10K, why not $200K?).

José Mariano Lopez Urdiales: You are correct about the ticket price. From our experience, there is another metric that is as important as the ticket, that is the price per minute of experience. Since the view from near space is the core of the experience (who would pay to fly on a windowless spacecraft?), our price is over an order of magnitude below rocket-based alternatives.

We have to cover our costs and make a profit and that sets a minimum, we could not do $10K with our current technology. We are also very keen to provide highly customized solutions such as taking off and landing from a part of the world, or flying into a solar eclipse, to customers willing and able to afford such extras.

Q: Do you see a market in scientific applications?

José Mariano Lopez Urdiales: Definitely. Just as suborbital reusable crewed rockets are an improvement over conventional sounding rockets, and specific programs like NASA’s CRuSR will support them, bloon signifies an improvement over conventional high altitude balloons. Regardless of the overall density of the means to reach near-space (heavier or lighter than air), having a human physically in the loop is an outstanding advantage for research. If it is valuable at labs at ground level and on orbit as well, I do not see why it would not be valuable for intermediate altitudes.

Q: What has been your greatest success to date with bloon?

José Mariano Lopez Urdiales: With so much to do I tend to move on and think of the next steps and challenges rather than reflect on any particulars events of success. If pressured I’d say: we’ve flown and successfully recovered a pressurized scaled prototype to near space altitudes.

Q: What has been your greatest disappointment (or challenge) with bloon, to date?

José Mariano Lopez Urdiales: I had this romantic idea of the venture capital firms as risk takers and out-of-the-box thinkers that, like free spirits, partner with entrepreneurs to change the world at a profit. Well, I have utterly failed to find any of that, and that was a disappointment. Fortunately, other ways of getting funded exist. And if there are any VCs reading that want to prove me wrong, I’d love to hear from you.

Q: What is your next big challenge to overcome?

José Mariano Lopez Urdiales: We are very much concentrated in our first piloted flight to near space.

Q: Your company is founded in Spain, talk about the experience of starting a space-related company in Spain, with its business and regulatory environment.

José Mariano Lopez Urdiales: For some reason many of the brightest students in Spain tend to pick aerospace engineering as a career choice. From my experience in the USA, France and the Netherlands that is not the case there. Law, Computer Science or Biotech are much better magnets for talent there. Full labor costs (wages + insurances) in Spain are significantly lower than in most other advanced economies. Another huge advantage is the absence of ITAR restrictions. We will be able to fly passengers from any nationality, regardless of the embargo status of their home nation. This is an incredible advantage over firms developing in the USA. And the weather here is amazing, which is equally good for quality of life and test flying.

Q: You have attended the International Space University’s Summer Session. Talk about that experience and how it affected this project. Would you recommend ISU’s Summer Session to other budding Space Entrepreneurs?

José Mariano Lopez Urdiales: I would highly recommend the ISU experience; it really helps to get things to happen. I went to ISU in the Chilean winter of 2000 for their two months program. There I worked on two projects, one the creation of a Chilean Space Agency and the other one was titled Space Tourism: from dream to reality. I find remarkable that in 2001 the Agency was setup along the lines of the white paper we prepared at ISU and that very year the first so-called space tourist, Dennis Tito flew to the ISS. That report was the first time I wrote, and as far as I know anybody else, how balloons can offer the benefits that private space explorers desire.

Review: Suborbital Market Overview and Application of Disruption Theory

In a recent paper, Ken Davidian of the FAA Office of Commercial Space Transportation, and Jeff Foust of the Futron Corporation have applied Clayton Christensen’s Disruptive Innovation Theory to the suborbital launch industry, predicting the impact of RLV’s on the suborbital market by describing the impacts from multiple technology introduction strategies. The resulting paper provides significant insight.

First a quick summary of Christensen’s Disruptive Innovation Theory (think of this as three strategic options for RLV companies entering the suborbital launch market):

1. Sustaining Innovation: As an RLV company, enhance one of the current sounding rocket capabilities. Fly higher, reduce g-forces on payloads, reduce cost of launch, reduce purchase-to-launch cycle times, etc. Competition from incumbents will be high. Marketing Risk will be low (you already know the market exists).
2. Low-End Disruptive Innovation: As an RLV company, offer a lower price than sounding rockets and offer an inferior product (e.g. by not flying as high as a sounding rocket - early RLV’s will offer fewer minutes of quality micro-gravity). Competition from incumbents will be low since this strategy steals the lower margin portion of the market (those customers wanting “a deal”). The incumbent will instead focus on the high-margin portion of the market. Marketing Risk will be low.
3. New Market Disruptive Innovation: Offer a new capability not offered by sounding rockets. Fly people, return experiments at mission end, fly more than once per day, etc. Incumbents will not be able to compete in the near-term in most cases since current sounding rockets do not offer such capabilities. Marketing risk will be high since new market disruptive innovation must pursue “non-customers” – those not currently served by sounding rockets.

Here are some nuggets from the paper:

• The paper argues in favor of Low-End Disruptive Innovation as a preferred strategy for Government customers to support RLV operators – encouraging use of RLV services even before the capabilities of such RLV services fully meet Government needs (or fully matches sounding rocket capabilities). The authors argue this is the best way to help grow a sustainable industry.
• Quoting studies from Christensen’s book, Innovator’s Dilemma, new RLV companies would garner a significant first mover advantage by pursuing either of the disruptive innovation strategies mentioned above: new entrants in an established market were successful only 6% of the time while “first mover” new entrants pursuing disruptive innovation strategies were successful 37% of the time. The first move advantage is large!
• The paper considered “low-end” suborbital markets to be: earth remote sensing, astronomical & atmospheric observations, technology demonstrations, educational payloads, and novelty payloads that can be performed with only one minute of quality microgravity.
• Since 1942, suborbital sounding rocket altitudes are grouped into three categories: 100 kilometers (4 min of microgravity), 300 kilometers (10 min of microgravity), and 300-1500 kilometers (astronomical observation mostly) – with the majority huddled into the 100-300 kilometer range.
• The paper predicts according to Christensen’s Disruptive Innovation Theory, early RLV’s will use proprietary technology and be highly integrated, but as more RLV competitors join the market, RLV products will become more modular.

If I had a critique, it would be:
The authors assume the suborbital market would have a large enough “high-margin” market segment to allow incumbents to thrive even while surrendering the low-margin segments to RLV’s. Let’s assume the high-end segment of the suborbital market is any mission significantly over 100 kilometers and the low-end segment is 0-100 kilometers. Looking at the powerful graph on page 11 of their paper, it is clear that the suborbital market is already disproportionately skewed toward the “low-end” portion of the market (although the higher altitude market does appear to be growing). Just by eyeballing the graph I would estimate 35-45% of the suborbital market is 100 kilometers or lower. Would incumbent sounding rockets be able to charge a large enough premium for launches above 100 kilometers to justify losing 35-45% of the market and not retaliate through lower prices?

Remember, I am not doubting the success of RLV introduction into the suborbital market. Instead I am raising doubts on one of the authors’ key conclusions that the sounding rocket incumbents will flee up market rather than retaliate with lower prices. I am not sure the market is large enough for the incumbent to do that. If not, I would expect sounding rocket companies to lower prices to compete with RLV’s even up to 100 kilometers. If, as an RLV operator, you agree with my critique, “New Market” disruptive innovation strategies (although higher marketing risk) may actually make more sense since sounding rockets would not be able to emulate the new RLV-enabled capabilities (in the near-term).

I am a big fan of Clayton Christensen and believe his disruptive innovation theories (especially low-end disruptive innovation) would more perfectly apply to an analysis of Nanosat launchers as a disruptive orbital launch technology. But with that said, Davidian and Foust’s paper provides a great overview of Christensen’s theories and provides significant insight into the future of the suborbital market. And let’s not forget, this is primarily a government paper written to provide recommendations to the US Government on how best they can promote this industry – I do very much like that!