EADS and the A400M: the Real Story
(Source: defense-aerospace.com; published March 11, 2009)
By Giovanni de Briganti

MUNICH --- Most of the media coverage from EADS’ annual financial results conference held here March 10 focused on the fact that a legal clause allowing customers to pull out of the A400M program will kick in on April 1, and played up the fact that in this event EADS would have to repay governments 5.7 billion euros.

But this is neither newsworthy – the cancellation clause was first revealed in a report released by the French Senate on Feb. 10 – nor accurate, as the cost to EADS in the event of cancellation would be far higher.

The company has already taken provisions of over 2.15 billion euros on the program – of which 704 million euros in 2008, it said March 10 – and more are to be expected, as "revised industrial plans to complete the A400M program could lead to a significant charge, weighing on earnings before interest, depending on the outcome of negotiations with customers and suppliers," according to its press release. These negotiations are expected to begin in April.

Cancellation, however, is not an option as OCCAR, the agency which awarded the contract on behalf of participating nations, can only cancel it if all governments unanimously agree to do so. France, Germany and Spain have said they have no intention of pulling out, so unanimity is impossible, and thus so is cancellation.

Another contract clause, however, is potentially far more dangerous for EADS. This clause, CEO Louis Gallois said March 10, allows nations to refuse delivery of “individual aircraft which would be substantially delayed” and then claim cancellation penalties. As delivery delays will not be fully caught up until 2020, according to the French Senate report, there is ample scope for governments to use this clause as a de facto escape route.

In fact, Britain appears to be toying with this idea. In March 3 answer to a Parliamentary question, British Minister for Defence Equipment and Support Quentin Davies said that “The A400M contract ….does not include penalty clauses but does include provisions for liquidated damages for late delivery against the contractually specified delivery dates.” (Emphasis added—Ed.)He added that the “contract specifies delivery of the 25 A400M UK aircraft at agreed dates starting in March 2010 and ending in April 2015.”

The clear distinction made here between “penalty clauses” and “liquidated damages” indicates that MoD has already closely looked at its contractual options, and that it sees refusal of late aircraft as its only option for obtaining financial compensation, should it wish to do so.

Finally, while focusing on the A400M’s short-term troubles is both necessary and salutary, it should not mask the program’s long-term significance for Europe: a unique opportunity not only to break the US monopoly on the tactical airlift market, but also to credibly compete for the real prize: the C-130 replacement market.

Over 2,200 C-130s of all versions have been built over the past 50 years, and Lockheed Martin, its manufacturer, says it has delivered 171 of the 257 C-130J Super Hercules – the latest version - it has sold to date. Demand is such that Lockheed plans to double production by 2010.

Based on the $1.6 billion that the United Arab Emirates are paying for the 12 C-130J-30s ordered in February, the C-130 replacement market is worth well over $200 billion, in addition to the 20 billion euros in revenue that EADS will gain from developing and producing 180 A400Ms for its launch customers. And that’s not counting the airlift needs of countries which don’t operate the C-130, or which find the C-130J too small or too short-legged.

Compared to this ultimate prize, the penalties that EADS may or may not have to pay for late delivery to its launch customers are a rounding error. But the very real risk is that the A400M will reach the market too late, or with delivery dates so far off into the future that they would dissuade potential customers.

EADS now has a net cash position of 9 billion euros, and Gallois prudently says that conserving that cash as a safety net for the future is a major priority. But if the company really is as confident in the A400M as it says it is, he could do worse than invest some of that cash into getting the A400M to market as fast as humanly possible.

EADS has already removed some obstacles by reorganizing Airbus Military and the Military Transport Aircraft division, and by replacing its management. It now needs to kick in the financial turbocharger without wasting months waiting for nations to renegotiate the A400M contract and to agree to higher payments. Both can be done in parallel.

After all, when you’re playing for a $200+ billion prize, what’s the sense in hoarding a billion or three?


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