Condition of Aerial Refueling Fleet

The KC-10 aircraft are relatively young, averaging about 20 years in age. Consequently, much of the focus on modernization of the tanker fleet is  centered on the KC-135s, which were built in the 1950s and 1960s, and now  average about 43 years in age. While the KC-135 fleet averages more than 40 years in age, the aircraft  have relatively low levels of flying hours. The Air Force projects that E and  R models have lifetime flying hours limits of 36,000 and 39,000 hours,  respectively. According to the Air Force, only a few KC-135s would reach  these limits before 2040, but at that time some of the aircraft would be  about 80 years old. Flying hours for the KC-135s averaged about 300 hours  per year between 1995 and September 2001. Since then, utilization is  averaging about 435 hours per year. The Air Force Report on The KC-767A Aircraft Lease

Section 8159 of the Department of Defense Appropriations Act for fiscal  year 2002, which authorized the Air Force to lease the KC-767A aircraft,  also specified that the Air Force could not commence lease arrangements  until 30 calendar days after submitting a report to the House and Senate  Armed Services and Appropriations Committees (1) outlining  implementation plans and (2) describing the terms and conditions of the  lease and any expected savings. The Air Force also submitted the report of  the proposed lease to the committees as required by section 8159. The Air Force eventually plans to replace all 543 KC-135 aircraft over the  next 30 years and considered lease and purchase alternatives to acquire  the first 100 aircraft. Office of Management and Budget Circular A-94 directs a comparison of  the present value of lease versus purchase before executing a lease. In its  report, the Air Force estimated that purchasing would be about   $150 million less than leasing on a net present value basis. The Air Force plans to award a contract to a special purpose entity created  to issue bonds needed to raise sufficient capital to purchase the new  aircraft from Boeing and to lease them to the Air Force. The lease will be  a three-party contract between the government, Boeing, and the special  purpose entity. Office of Management and Budget Circular A-11 requires that an  operating lease meet certain terms and conditions including a prohibition  on paying for more than 90 percent of the fair market value of the asset  over the life of the lease at the time that the lease is initiated. According to the report, if the government were to terminate the lease, it  must do so for all of the delivered aircraft and may terminate any planned  aircraft for which construction has not begun, must give 12-months  advance notification prior to termination, return the aircraft, and pay an  amount equal to 1 year’s lease payment for each aircraft terminated. If  termination occurs before all aircraft have been delivered, the price for the  remaining aircraft would be increased to include unamortized costs  incurred by the contractor that would have been amortized over the  terminated aircraft and a reasonable profit on those costs. At the expiration of the lease, the Air Force will return the aircraft to the  special purpose entity after removing, at government expense, any Air  Force unique configurations. The contractor will warrant that each aircraft will be free from defects in  materials and workmanship, and the warranty will be of 36 months  duration and will commence after construction of the commercial Boeing  767 aircraft, but before they have been converted into aerial refueling  aircraft. Upon delivery to the Air Force, each KC-767A aircraft will carry a  6-month design warranty, 12-month material and workmanship warranty  on the tanker modification, and the remainder of the original warranty on  the commercial components of the aircraft, estimated to be about 2 years. Considerations in Reviewing the Proposed Lease

Because we have only had the Air Force report for a few days, we do not  have any definitive analytical results. However, we do have a number of  questions and observations about the report that we believe are important  for the Congress to explore in reaching a decision on the Air Force  proposal. It would be useful for the Congress to  understand the process the Air Force followed.
Why GAO Did This Study

This testimony discusses the Air Force's report on the planned lease of 100 Boeing 767 aircraft modified for aerial refueling. These aircraft would be known by a new designation, KC-767A. Section 8159 of the Department of Defense Appropriations Act for fiscal year 2002 authorizes the Air Force to lease up to 100 KC-767A aircraft. We received the report required by section 8159 when it was sent to the Congress on July 10. We subsequently received a briefing from the Air Force and some of the data needed to review the draft lease and lease versus purchase analysis. However, we were permitted to read the lease for the first time on July 18 but were not allowed to make a copy and so have not had time to fully review and analyze the terms of the draft lease. As a result, this testimony today will be based on very preliminary work. It will (1) describe the condition of the current aerial refueling fleet, (2) summarize the proposed lease as presented in the Air Force's recent report, (3) present our preliminary observations on the Air Force lease report, and (4) identify related issues that we believe deserve further scrutiny.

What GAO Found

The KC-10 aircraft are relatively young, averaging about 20 years in age. Consequently, much of the focus on modernization of the tanker fleet is centered on the KC-135s, which were built in the 1950s and 1960s, and now average about 43 years in age. While the KC-135 fleet averages more than 40 years in age, the aircraft have relatively low levels of flying hours. The Air Force projects that E and R models have lifetime flying hours limits of 36,000 and 39,000 hours, respectively. According to the Air Force, only a few KC-135s would reach these limits before 2040, but at that time some of the aircraft would be about 80 years old. Flying hours for the KC-135s averaged about 300 hours per year between 1995 and September 2001. Since then, utilization is averaging about 435 hours per year. The Air Force eventually plans to replace all 543 KC-135 aircraft over the next 30 years and considered lease and purchase alternatives to acquire the first 100 aircraft. Office of Management and Budget Circular A-94 directs a comparison of the present value of lease versus purchase before executing a lease. In its report, the Air Force estimated that purchasing would be about $150 million less than leasing on a net present value basis. The Air Force plans to award a contract to a special purpose entity created to issue bonds needed to raise sufficient capital to purchase the new aircraft from Boeing and to lease them to the Air Force. The lease will be a three-party contract between the government, Boeing, and the special purpose entity. Office of Management and Budget Circular A-11 requires that an operating lease meet certain terms and conditions including a prohibition on paying for more than 90 percent of the fair market value of the asset over the life of the lease at the time that the lease is initiated. According to the report, if the government were to terminate the lease, it must do so for all of the delivered aircraft and may terminate any planned aircraft for which construction has not begun, must give 12-months advance notification prior to termination, return the aircraft, and pay an amount equal to one year's lease payment for each aircraft terminated. If termination occurs before all aircraft have been delivered, the price for the remaining aircraft would be increased to include unamortized costs incurred by the contractor that would have been amortized over the terminated aircraft and a reasonable profit on those costs. At the expiration of the lease, the Air Force will return the aircraft to the special purpose entity after removing, at government expense, any Air Force unique configurations. The contractor will warrant that each aircraft will be free from defects in materials and workmanship, and the warranty will be of 36 months duration and will commence after construction of the commercial Boeing 767 aircraft, but before they have been converted into aerial refueling aircraft. Upon delivery to the Air Force, each KC-767A aircraft will carry a 6-month design warranty, 12-month material and workmanship warranty on the tanker modification, and the remainder of the original warranty on the commercial components of the aircraft, estimated to be about 2 years. Because we have only had the Air Force report for a few days, we do not have any definitive analytical results. However, we do have a number of questions and observations about the report that we believe are important for the Congress to explore in reaching a decision on the Air Force proposal.