The Secretary of the Navy Donald C. Winter announced yesterday (April 12, 2007) terminated the construction of the third Littoral Combat Ship (LCS 3), after the Department of the Navy and Lockheed Martin (NYSE: LMT) failed to reach an agreement on the terms of a modified contract after the Navy realized that the cost of the first Lockheed ship would cost up to $375 million, far above the initial projection of $220 million. “LCS continues to be a critical warfighting requirement for our Navy to maintain dominance in the littorals and strategic choke points around the world,” said Winter. “While this is a difficult decision, we recognize that active oversight and strict cost controls in the early years are necessary to ensuring we can deliver these ships to the fleet over the long term.”

The first and third LCS ships, constructed by Lockheed Martin under a cost-plus contract experienced significant cost overruns which led the Navy to stop the construction of the first LCS 3 in January 2007. The construction of the LCS-1 (USS Freedom) is currently underway at Lockheed Martin. Construction of two additional vessels, LCS-2 (USS Independence) and LCS-4 is underway at General Dynamics. The Navy announced it will closely monitor their cost performance at General Dynamics', to prevent the repetition of such problems. "General Dynamics’ ships will continue on a cost-plus basis as long as its costs remain defined and manageable. If the cost performance becomes unacceptable, then General Dynamics will be subject to similar restructuring requirements." Resulting from these problems, the Navy plans to transition to a single seaframe configuration in fiscal year 2010, following an operational assessment.

"we are greatly disappointed by the cost growth experienced on the first LCS and by our inability to reach a satisfactory conclusion with our Navy customer on a path forward for the second ship," said Lockheed Martin Chairman, President and Chief Executive Officer Bob Stevens. "We committed to a course of action that was intended to break the long-standing cycle of first-in-class ship cost growth and, while achieving several important program objectives, did not meet that goal."

Stevens admitted that while Lockheed Martin maintained the ship's schedule and improved on its design, cost overruns have occurred. The company responded to the Navy's request to restructure the contact for the second LCS ship but failed to reach an agreement. "We believe that our proposal was fully consistent with the Secretary's stated desire to bring the benefits of increased competition to shipbuilding while holding the Navy's industrial partners accountable for cost performance within their control". "Our team is understandably frustrated that, having invested nearly three years of dedicated effort and significant corporate resources to bring LCS 1 to within 20 percent of completion, we will not have the opportunity to apply lessons learned to a second ship"