Driving forces: combat vehicle sector could be headed for turbulent times.

The $38 billion U.S. military market for land combat systems--which includes tactical trucks and tracked combat vehicles--continues to enjoy the boom that started five years ago.

The industry has thrived despite erratic government funding and regulatory vagaries. But it must now prepare for a possible downturn during the next several years, and it must also brace for further consolidation and tougher global competition, says a study written by a group of military officers at the Industrial College of the Armed Forces.

The Army estimates it manages more than 200,000 tactical-wheeled vehicles and an additional 85,000 trailers. The Marine Corps controls approximately 25,000 tactical vehicles and trailers. While it is impossible to truly capture the entire cost of this market, the Army has estimated its assets alone amount to more than $36 billion in capital costs.

The land combat systems industry can expect much of its business in the coining years to come from the so-called "reset" market. Reset refers to upgrades, repairs and overhauls that vehicles require when they return from war. Extended deployments in Iraq and Afghanistan have left the services with a tactical-wheeled vehicles fleet that is aging beyond its useful life. More than 50 percent of the Army's fleet is approaching, or has exceeded, its useful life. Further, the capabilities of the current fleet will not meet the future needs of the services.

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Reset efforts will go on for several years. If history is any guide, it took the Army almost two years to reset its forces following Operation Desert Storm in 1991, a conflict that lasted only six months.

A major driver for demand will be the Army's modernization and modularity plan. The U.S. Army, National Guard, and reserves are undergoing a structural change from 58 brigades to 72. In addition, the Army is increasing the number of vehicles in each unit. The Army has also been given authorization to increase its active duo, end-strength by 65,000 and the reserve by 9,000 by fiscal year 2013. The Army expects that it will require the addition of 40,000 more vehicles to its current fleet to meet the requirements of this larger and more modular force. The Marines also were authorized an increase of 22,000, and it too will need additional vehicles and equipment.

Modernization is also driving more technologically sophisticated tactical wheeled vehicles. The Joint Light Tactical Vehicle (JLTV) program requires high survivability in light vehicles, driving industry to experiment with new materials and designs. High-tech solutions such as active defenses may also be required, at least as an option. Such sophisticated trucks make the JLTV market interesting to large defense contractors such as Lockheed Martin and Northrop Grumman.

The Army is pursuing a two-tiered strategy to modernize its current fleet of wheeled- and tracked-combat vehicles, while simultaneously developing its next-generation Future Combat Systems. Under this strategy the Army will equip approximately half of its heavy brigades with the most advanced models of M1 tanks and Bradley fighting vehicles, while the remainder will have less advanced variants. When FCS enters the force in 2016, it will displace the equipment in the less advanced brigades, leaving the Army with 15 FCS-equipped brigades and 18 heavy brigades equipped with state-of-the-art Abrams tanks and Bradley fighting vehicles.

To meet current combat needs while continuing to modernize, the Army is using reset funds--primarily from its operations and maintenance accounts--to refurbish Abrams tanks to the latest M1A1 standard. Concurrent with this, the Army is using "recapitalization" funding (mostly from its procurement account) to upgrade other tanks to the more costly M1A2 standard--with a more advanced fire control systems and upgraded electronics. In a similar vein, some Bradley fighting vehicles are being reset to the latest M2A2 standard, while others are being upgraded to the M2A3 variant.

One new reset and upgrade path that may portend the way of the future for current force vehicles is that of the M109A6 Paladin 155mm howitzer. The latest Army plans call for approximately half of the Paladins to be reset to the current configuration, while the other half is upgraded. The proposed upgrade involves mounting the current turret in an entirely new lower hull. The new hull will accommodate the Bradley engine, transmission and track. That upgrade addresses obsolescence issues facing the current Paladin drive-train, and provides greater commonality of parts within the brigade.

The idea of replacing turrets or hulls as part of an upgrade is not new, but it may become a more common way to upgrade combat vehicles. The current M109A6 Paladins were built in the 1990s by mounting new turrets on hulls of older model M109s built in the 1960s and 1970s. Once the Paladin turrets are mounted on the new Bradley drive-train hulls, there will not be any original M109 metal in the howitzers. Since M1 Abrams tanks and Bradley Fighting Vehicles will remain in the force until 2050, it could be the case that future upgrades to those vehicles involve replacing their hulls and turrets with more capable versions.

Looking out five years, it is reasonable to expect reset and upgrade work to continue at a healthy pace, but production of new vehicles may slow down.

The result will be an industrial base consolidation that could take many forms. It will be important for the Defense Department to ensure that the consolidation does not result in such a small number of companies that competition is jeopardized. Private-sector manufacturers and public depots will compete for scarce modernization funds. Both will lay off contract employees, which will return workforce levels before the wartime surge. Lower production volumes will cause overhead rates and other fixed costs to increase the unit costs.

These cost increases will drive the Army to reconsider whether it can afford to have four major production sites: BAE Systems in York, Pa.; General Dynamics Land Systems in Lima, Ohio; Red River Army Depot in Texas; and, the Anniston Army Depot in Alabama. Base realignments may also drive closure of one of the depots. Another possibility is requiring BAh to cohabitate with General Dynamics in Lima, especially if both engage in FCS production with its promised parts commonality. The Army may also encourage JLTV production at Lima or York rather than creating a new production location.

Industry will probably undergo a period of consolidation as it did in the 1990s. The award of the production contracts for the manufacture of the FCS manned combat vehicles will have a profound effect on the industry. Will Boeing be involved in production, or will the Army contract directly with BAE Systems and General Dynamics? Where will production of the common lower hull take place, Lima or a BAE facility in York, or both? If either contractor is cut from lower hull production, it could significantly weaken that contractor's standing in the market.

Further consolidation of combat vehicles manufacturing seems unlikely, but it will probably occur in the tactical wheeled vehicles sector. General Dynamics or BAE may also decide to diversify into producing these lighter vehicles now that they are becoming combat vehicles with more technological influences.

The industry, additionally, will face decisions about maintaining a viable workforce, investing in new technology, and shifting business to commercial activities and potentially overseas. Globalization has already moved production of many automotive components offshore; this trend is likely to continue. Compliance with the Berry Amendment--which requires that weapon systems contain only U.S.-produced specialty metals--will make U.S. vehicles increasingly expensive and out of place in a globalized industry. The U.S. government will be faced with a decision whether to continue these costly protectionist policies, which also hinder the nation in time of war, or embrace globalization and seek to manage the accompanying risks.

The defense spending draw down will also mean that Allison's Plant 14, where employees manufacture and rebuild military transmissions, will again suffer from a workload reduction. Allison may question whether to remain in the business of military transmissions unless the Defense Department can provide sufficient workload.

The ICAF study noted that industry lobbying significantly complicates the government decision making process. Firms have the opportunity to significantly influence government decisions. The economic well being of firms (or other stakeholders such as labor unions) is dependent not just upon the firm's ability to compete on the basis of price and quality but also its "political efficiency"--the ability to influence the public decision making process to the advantage of the firm.

In the long term, the Pentagon should work with Congress to establish better ways to fund procurement in time of war. Congress should authorize an emergency fund during a national crisis, giving the Defense Department authority to purchase critical weapons such as truck and body armor. The Defense Department should also request statutory authority for the secretary of defense to waive Berry Amendment strategic material restrictions during times of national crisis.

The United States also needs to reassess restrictions on buying foreign steel. This would allow the Pentagon to save money in the short run with cheaper, foreign produced ballistic steel and help to stabilize the short term price of both U.S. and Canadian steel during times of increased demand. The Defense Department will also need to address its depot infrastructure as workload decreases.

The military should demand high-tech solutions only where needed, and should not lose sight of opportunities to use commercial solutions, especially in the truck fleet. The emphasis on armoring and networking the entire fleet is overly ambitious. Some of the fleet requires these capabilities, but not all of it. in cases where the services have unique technology requirements and product niches, it must be prepared to bear the full cost of maintaining a separate and unique industrial base. In other cases, however, many problems can be solved by revamping the procurement system to make it easier for companies to sell solutions to military problems using commercial technology.

EDITOR'S NOTE: The complete ICAF study on the land combat systems industry can be found on the National Defense Magazine website www.NationatDefenseMagazine.org.

Alan L. Gropman is a distinguished professor of national security policy at the Industrial College of the Armed Forces, National Defense University. The views expressed in this article are solely those of the author and do not represent those of the Defense Department or the U.S. government.