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Europe Breathes Life, Again, into the Airbus A400

The troubled A400M is getting another life.
The transport aircraft was supposed to compete with the Boeing (BA) C-17 strategic transport and the smaller Lockheed Martin (LMT) C-130 aircraft which dominate NATO countries and foreign sales. Made by Airbus, a subsidiary of EADS (EADS:P), and its seven European customers, the A400M was supposed to be a low-risk concept. The program started in 2003 with EADS agreeing to a fixed-price contract to develop, test and start production. France, Germany, Great Britain, Spain and the other buyers paid up front to cover this activity.

Things didn't work out that simply.

The program took longer and cost a great deal more then planned due to problems with the engines and software. The first flight took place in December 2009, two years behind schedule, and the first deliveries won't be until 2012, three years late. EADS has for the last two years been burning through about $100 million of its own each month and taken total charges for the program of $3.6 billion.

The company and its customers have been negotiating for a year to figure out what to do next. Due to the desire to see the program through, the buyers delayed implementing clauses to make EADS to pay them back, with penalties. EADS demanded a resolution by February 1st.

It looks like a plan has been worked out. EADS will receive $2.04 billion in direct aid to offset losses that would have been reported for the 2009 earnings year. The company will also get a ten percent increase in the price of the aircraft to about $194 million each. If all of the planned sales go through this will generate another $2.7 billion in revenue to help make up for the money EADS spent on the program.

The $2.04 billion infusion is a godsend to EADS. Without it, the company might have had to write off the whole cost of the program at a time when it is already hurting from lower demand for its airliners, especially the A380, and its Eurocopter helicopters.

One issue the agreement won't solve is that three-year delay in the program. Lockheed and Boeing have been selling quite a number of their transports to a diverse set of customers, including Canada, Great Britain, India, and the U.A.E. Operations in Iraq and Afghanistan demand large amounts of lift, both tactical and strategic, so countries like the U.S., Canada and Great Britain who are heavily involved in operations there have been buying these aircraft and helicopters in sizable numbers.

The A400M was supposed to be flying by 2009 at the latest to get a piece of this action. But it was only able to line up two overseas customers--South Africa and Malaysia--and South Africa has canceled, due to the cost increases.

The European countries that support EADS and Airbus wanted a military product competitive with the world's best. They wanted it do it quickly and fairly cheaply to demonstrate their industry's capability, keep people employed and perhaps get some market share. None of this has happened.

The A400M has demonstrated, once again, that defense development and acquisition is not easy. Agreeing to a fixed-price contract for a program that ended up being more difficult and complex then planned hamstrung EADS and its buyers. They were faced with a stark choice of writing off seven years of effort and billions of dollars or working out a way to keep the program alive despite stretched budgets. In the end it looked like keeping the aircraft and the 10,000 jobs related to it trumped other considerations.