Defense Firms Firing Back at the Pentagon

The defense industry, weakened by money-losing contracts and often-hostile Pentagon regulations, has begun doing the unthinkable--taking aim at its sole customer, the government itself.

General Dynamics Corp. has quietly sued the Defense Department for $29 million in U.S. District Court in Los Angeles, seeking to recover the costs of defending itself on criminal fraud charges brought in 1985--charges that the government later admitted were without merit. The case could be a precursor to more such claims as the relationship between the industry and government grows more adversarial.

In another instance, Rockwell International Corp. is preparing to file a claim in the tens of millions of dollars against the Air Force on a money-losing program in which the service allegedly demanded more work than was required under the terms of a development contract for a new aircraft gunship, according to knowledgeable sources. The company declined to comment.

And dozens of other companies are refusing to bid on new government contracts or are selling off subsidiaries that do defense work, not only because contract terms are so financially punitive and the business outlook is so dismal but because government policies have alienated the industry.

At one of the most difficult moments in their history, defense contractors increasingly will be fighting for their financial interests, said Herbert Fenster, a top defense industry attorney at McKenna, Conner & Cuneo, the Los Angeles law firm representing General Dynamics.

“Companies, not knowing whether they are going to be survivors or not, are more interested in protecting their interests,” Fenster said. “This is the first time this kind of a case has been brought.”

A senior Pentagon official said Friday that the General Dynamics suit is “unique and innovative” and that he was not aware of any similar suits filed by a defense contractor. Spokesmen for Lockheed Corp., Northrop Corp. and Rockwell said they were not aware of their firms ever having sued the Defense Department.

General Dynamics and four of its executives were charged with criminal fraud in 1985 for allegedly violating complex procurement rules in the way they billed expenses on the Army’s Division Air Defense System (DIVAD), an armored vehicle with a radar-controlled gun designed to shoot down enemy helicopters. The work was done at General Dynamics’ Pomona Division.

The government began its fraud case against General Dynamics with fanfare, calling a press conference to announce the indictment. But the case eventually became a cause celebre within the industry, because the Justice Department later admitted that it had never understood the details of the Army contract and had even failed to interview top Army officials who negotiated the contract.

The fraud suit was based on an audit by the Defense Contract Audit Agency, a low-profile Pentagon department that has become an object of scorn in the industry for its inexperienced staff and its audit demands on contractors.

General Dynamics alleges that the audit agency failed in its responsibility to assign auditors “with sufficient expertise and training” and “failed to adequately supervise or instruct the individuals.” It even charged that the auditors “failed to read and interpret in a professional and non-negligent manner the relevant provisions of the DIVADs contract.”

The Pentagon on Friday declined to comment on the case.

In addition to General Dynamics, four key executives were indicted, including James Beggs, who by the time of the indictment had become administrator of the National Aeronautics and Space Administration. As a result, Beggs was forced to resign and spend two years defending himself before the charges were dropped. “It was a big price to pay, not to mention the emotional damage,” Beggs said in a recent interview.

“I would like to see General Dynamics prevail--that would be a real trend-setter,” said Charles Culver, a Cal State Northridge instructor in defense contracting and consultant to many smaller aerospace firms. “What we are seeing in many instances are companies saying we have had enough--’You, Mr. Government, have gone too far.’ ”

The Pentagon has sharply increased the powers of auditors in recent years and shifted the focus of the audit agency to aggressive criminal investigations. At the same time, many abuses that were formerly civil or administrative infractions are being interpreted as crimes, industry spokesmen say.

“The industry feels that the pendulum has swung way too far toward criminalization,” Lockheed Chairman Daniel M. Tellep said in a recent interview. “This is an industry that measures up to high standards as well as any other industry. We see the savings and loan scandals or the housing industry scandals. It has finally set in that it isn’t just the defense industry.”

The Rockwell International claim against the government that is reportedly being prepared could be the biggest in defense industry history, involving the company’s troubled AC-130U gunship program. Rockwell has had an estimated $100-million overrun on the fixed-price contract, allegedly because the government has demanded far more than expected in the program, according to sources at the company who spoke anonymously. Rockwell officials declined to comment, as did the firm’s attorney, Fenster.

Some analysts have estimated that the defense industry faces $6 billion in losses on fixed-price development contracts, an amount that has jeopardized the financial health of the industry just as it faces more difficult times ahead as a result of reduced defense budgets.

Under fixed-price contracts, defense companies receive a fixed amount of money for a job; if the costs rise above that level, they must make up the difference and incur a loss. Such contracts, which are especially risky in developing new weapons, have been used in recent years in place of contracts that cover all of a company’s development costs.

Lockheed, Northrop and Hughes Aircraft have announced that they will refuse to bid on any more fixed-price development contracts, after having lost millions of dollars on programs that encountered technical problems.

The list of defectors from the defense industry also has grown. Unisys Corp., Goodyear Tire & Rubber Co., Gould Inc., United Technologies, Lockheed, Eaton Corp. and Honeywell Inc., among others, have sought to sell or have sold some of their defense operations. Nationally, an estimated 80,000 firms, mostly small companies, have stopped doing business with the Pentagon, according to some studies.

“Industry has been pushed too far,” said James Southerland, owner of Contracts Advisory Services, a Torrance consulting firm. “Companies are saying, ‘We are not going to do business by the government’s rules any more.’ ”