At Apogee Consulting, Inc. we are focused on driving excellence into all aspects of program performance—from proposal preparation to invoicing, and from program management to supply chain management.  We view the entire series of program execution steps as being integrated and interdependent, as opposed to many who see independent silos and “fiefdoms” that only grudgingly work and share information with each other.  Lean principles focus on elimination of muda (waste) from processes, and our belief is that muda exists in all business processes, and that all processes are fit subjects for continuous improvement.

So when we report, over and over, that program execution is of paramount importance, we mean it.  But we also acknowledge that program execution is dependent on myriad business processes that, like the cylinders in a combustion engine, all need to be working at maximum efficiency to ensure that the program execution team is positioned for success.

This is especially true when one is a contractor supporting the U.S. Defense Department.  To succeed in that complex and difficult environment, a company must surmount many obstacles, from achieving expected “contract outcomes” (i.e., cost, schedule, and performance/quality requirements), to successfully passing audits by the Defense Contract Audit Agency (DCAA), to managing changing customer requirements.  The U.S. defense environment is (generally) poorly understood by those entities outside the country’s borders, and consequently the acquisition environment is (generally) viewed as a barrier to entry by those entities who want to sell goods and services to the U.S. Department of Defense (DOD).

One European company, however, claims to have found the secret to succeeding as a DOD Prime Contractor, and this article in FlightGlobal.com discusses the lesions it learned along the way.  The article reports on AleniaAeronautica’s experience in manufacturing 18 G222s light transport planes for delivery to the Afghan Army Air Corps., performing as Prime under a US $287 million contract awarded by the U.S. Air Force.

AleniaAeronautica is a subsidiary of Finmeccanica, a global A&D company with 2008 revenues of € $15.billion (roughly US $22 billion at today’s conversion rates). Alenia was part of a team (that included L-3 Communications) who was awarded the contract in 2007.  As Prime Contractor, Alenia was responsible all aspects of the program, from change and configuration control to quality assurance, including (most especially) supply chain management.  It was a daunting challenge, yet the article reports that Alenia saw the G222s program as a critical part of its “strategic push” into the lucrative U.S. defense market (whose annual value is equal to the aggregate defense spending of the rest of the world combined). As the old cliché goes, failure was not an option.  The FlightGlobal article reported, “Finmeccanica executives knew they could not afford a cost overrun or a major schedule delay on its first prime contract. The US military records how contractors perform, and poor marks damage future bids.”

Even though Alenia suffered setbacks in program execution, it absorbed them (instead of passing them onto its customer), because of the strategic importance of performing well on its first DOD prime contract.  The article reports—

· The G222s arrived at ­Alenia's factory in Capodichino requiring far more work than the company's engineers had predicted. Alenia absorbed the financial ­impact of a 150% increase in contract work scope.  (It is unclear if this was based on a decision by executive management, or because of the contract type.)

· After the DCAA refused to accept Alenia’s financial statements (which, like all European companies are based on International Financial Reporting Standards (IFRS) not U.S.-based Generally Accepted Accounting Principles (GAAP)) and declared Alenia’s accounting system inadequate, the company found itself ineligible for progress payments or submission of cost-reimbursement vouchers.  Thus, according to the article, “Alenia officials agreed to internally finance the programme for nearly nine months, a big departure from Finmeccanica's corporate practice.”

To us, one important lesson that stands out from the foregoing is the involvement of Alenia and Finmeccanica’s executive management in sponsoring the program.  When the program plan met the reality of execution, the executives bent the corporate rules in order to help the program succeed.  Key to the flexibility was the context:  the executives didn’t measure success based solely on the results of this particular program, but instead saw it as a part of a strategic portfolio of programs they were attempting to build.  Thus, they understood that losing money on this particular program (as they almost certainly did) was not as important as it would be on another program, because of its strategic importance.

When we work with program management teams, one of the most important questions we ask is, “What is the definition of success?” As Aaron Shenhar writes in the November 16, 2009 edition of Aviation Week & Space Technology, “not all programs are equal.” In Alenia’s case, it was important to its customer that the program finish on time and on budget; however, it was important to the company that its customers were satisfied, even if that meant losing money in the process.  (Obviously that logic would not hold true in all instances; otherwise the company would go out of business.)

Did the company succeed in meeting customer expectations?  According to the article, Col Tim Freeman, commander of the USAF's 330th aircraft sustainment wing, said “I am very impressed. They did exactly what they said they were going to do."  Clearly, that is the kind of customer feedback Alenia and Finmeccanica were looking for.

More prosaically, with hindsight we can see how AleniaAeronautica might have better positioned its program to succeed with its U.S. Government customer.  First of all, it is surprising that DCAA would refuse to “accept [Alenia’s] financial statements [because] Alenia’s accounting system was based on European standards.” While IFRS and U.S. GAAP differ, the differences are not so pervasive or overwhelming that adjustments couldn’t have been made.  (See this brochure by Ernst & Young, or this brochure by PricewaterhouseCoopers, explaining key differences between the two.  Importantly, most commenters believe the two sets of financial reporting standards are converging.)  One suspects that DCAA may have had other issues with the AleniaAeronautica accounting system, such as the company’s timekeeping and labor reporting practices. Additional investments by the company in this (and other) areas may avoid the future need to forego interim contract payments, thus boosting cash flow.  It is possible that the time-value of the money saved may have paid for the efforts.

Second, had Alenia negotiated Performance-Based Payments, it could have received interim contract payments without the need for DCAA to agree that its accounting system was adequate.  Performance-Based Payments (PBPs) are a relatively new form of DOD contract financing, not even entirely well-understood by experienced US-based defense contractors. Those companies that have taken advantage of them, however, generally have reported being quite pleased.  (See our articles on PBPs here and here.)

Consequently, we conclude that international companies who want to do business with the U.S. DOD should consider investing in preparing their management internal control “business systems” to meet DCAA standards, and in understanding what options may be available to them if they run into difficulties with their Government oversight officials.  Thus, the story of AleniaAeronautica’s success with its first U.S. Air Force prime contract has several good lessons within it.