How Lockheed-Martin Ate The Pentagon

Michael Byers: The F-35 is now unaffordable thanks to the low Canadian dollar

Michael Byers, National Post | September 17, 2015 | Last Updated: Sep 18 1:29 PM ET
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REUTERS/Tom Reynolds/Lockheed Martin Corp/Handout/FilesAn F-35 Lightning II, also known as the Joint Strike Fighter (JSF), is seen as it arrives at Edwards Air Force Base in California in this May 2010 file photograph.

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The Royal Canadian Air Force’s (RCAF) hoped-for-purchase of F-35 fighter jets has hit another obstacle, in the form of a Canadian dollar that has dropped 25 per cent against its U.S. counterpart since 2013. Another, less expensive, non-developmental plane will now need to be chosen to replace the three decade-old CF-18s.

The cost of the F-35 first became an issue in 2010 when the Harper government announced it would acquire 65 of the planes for $9 billion, with a total project cost of $16 billion. The Canadian dollar was then at US$0.96.

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After the 2011 election, Auditor General Michael Ferguson revealed that the Harper government had been operating with two different cost projections for the F-35, with the internal estimate being $10 billion higher than the number provided publicly.

The Harper government responded by suspending the procurement, ordering the RCAF to conduct an “options analysis” of the F-35 and alternative aircraft, and setting a $9 billion limit for acquisition cost.

The Harper government also commissioned KPMG to clarify the cost of 65 F-35s. In November 2012, the accounting firm came up with a total project cost of $45.8 billion. The Canadian dollar was then at US$1.01.

In November 2014, the Department of National Defence (DND) released an update on the F-35 procurement that estimated the same total project cost as KPMG, namely $45.8 billion. It arrived at that number using an exchange rate of US$0.92.

Here’s the bottom line: the total cost of the F-35 program is now $49 billion — an increase of $3.2 billion from the projections provided by KPMG in 2012 and DND in 2014.

In its update, DND also acknowledged that changes in the exchange rate were a “major, uncontrollable risk to the program cost estimate.” It went on to explain that an exchange rate of US$0.755 would raise the acquisition cost by approximately $1.7 billion and the sustainment cost by approximately $2.6 billion. Sustainment costs, incurred during major repairs and upgrades, are affected by the exchange rate because this work is conducted by the F-35’s manufacturer, Lockheed Martin, in the U.S.

By happenstance, the Canadian dollar has been hovering around US$0.755 for the last few weeks. This means that 65 F-35s would now cost $10.7 billion — well above the $9 billion acquisition cost limit set by the Harper government — and that the sustainment cost would now be $16.86 billion, up from $14.26 billion.

On the positive side, the operating cost for a fleet of F-35s has decreased by $1.15 billion (from $20.75 billion to $19.6 billion), due to a 30 percent drop in the cost of jet fuel since November 2014. According to DND, every 10 per cent reduction in the cost of fuel reduces the life-cycle operating cost by $382 million.

Here’s the bottom line: the total cost of the F-35 program is now $49 billion — an increase of $3.2 billion from the projections provided by KPMG in 2012 and DND in 2014. This includes all acquisition, sustainment and operating costs and assumes that development, disposal and attrition costs have not changed.

Is it any wonder that Conservative Leader Stephen Harper has avoided mentioning the need for new fighter jets recently? For this $3.2 billion in additional costs will require a tough decision by any prime minister committed to balanced budgets.

One option is to purchase only 54 F-35s, which is all that $9 billion can now buy. The problem is, the RCAF has stated that it requires a minimum of 65 fighter jets.

Another option is to divert the $3.2 billion from other military projects. But the Harper government has already cut defence spending to one per cent of GDP, the lowest level in half a century.

Fred Thornhill / ReutersPrime Minister Stephen Harper speaks to employees at Virtek Vision International Inc., which deals with lasers and manufacturing the materials used in the new F35 fighter jet.

A third option is to purchase a less expensive plane. For instance, a fleet of Boeing F/A-18 Super Hornets would cost about $6.5 billion at the current exchange rate, and would be significantly cheaper to operate and sustain than a fleet of F-35s.

Unlike Harper, who has not revealed his current plan, both opposition leaders are committed to a full competition for new aircraft to replace the CF-18s. Yet any such competition would be constrained by a budgetary ceiling and a baseline number of planes, which — given current circumstances — would preclude the F-35 from the outset.

It is certainly possible to envisage a competition involving one or more European-made fighter jets, but their already-high costs have also risen — due to a sharp decline in the value of the Canadian dollar against the Euro.

Although untendered procurements are far from optimal, a sole-source purchase of Super Hornets now seems likely. It might, in the end, deliver the very planes that Canada should have bought in a more organized and logical manner.

The fact is, Harper took a reckless approach to replacing the CF-18s. He could have held a fair competition at the outset, and bought a proven model of fighter jet on-time and on-budget. Instead, he reached for the latest and most expensive technology, took on a significant cost risk, and got burned.

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Michael Byers holds the Canada Research Chair in Global Politics and International Law at the University of British Columbia.