Private & Commercial Space Prof. Henry R. Hertzfeld George Washington University Washington, DC 20052 [email protected] SPACE TRANSPORTATION POLICY

Private & Commercial Space

Prof. Henry R. HertzfeldGeorge Washington Univers i ty

Washington , DC 20052HHertz fe [email protected]

SPACE TRANSPORTATION POLICY AND MARKET RISK SYMPOSIUM

16 November 2011

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Definitions

H. Hertzfeld, George Washington University

Privatization Privatization is the process of applying a market-oriented approach to

government programs with the objective of moving the program’s activities and assets out of direct government management, control, and ultimately ownership.

Commercialization The term “commercial,” for the purposes of this policy, refers to space

goods, services, or activities provided by private sector enterprises that bear a reasonable portion of the investment risk and responsibility for the activity, operate in accordance with typical market-based incentives for controlling cost and optimizing return on investment, and have the legal capacity to offer these goods or services to existing or potential nongovernmental customers. (U.S. Space Policy, June 2010)

A government providing incentives for private sector companies to provide (sell, cooperate, use) goods and services to the government as a customer that is as similar to any end-user customer as possible. This can involve either financial or in-kind exchanges.

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Risk


In the end, it all comes down to who bears what risks.

For space programs, who ultimately bears the risk: government or industry?

There are many types of risk: Technical Market Economic Political Personal

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Tests of Privatization


Ownership of assets If depreciable under tax code, then private ownership If not, then government owned

Assumption of risk Will the Government let the firm go out of business? How will market, economic, uninsurable losses be handled?

Are personal funds, equity interests, and/or loan repayments at risk?

Other Risks Do Not Distinguish Ownership Significant uninsurable risks (but common to both government and

industry) Political; general economic conditions

Insurable risks are passed on to customer through price charged Technical risks (may be shared)

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Why Privatize?


Inadequate budget—lack of funds available to do what Agency wants to do

Overall government policy to stimulate commercial development

A belief that the private sector can do things more efficiently

The emergence of new technologies or new users May create a market environment for current

government services where one did not previously exist

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Reasons the Government Interferes with the Private Market System


When private market mechanisms may fail to: Provide public goods

National security Insuring safety and health Provide incentives for research and innovation (particularly basic

research) Market may be focused on short-term returns (e.g. when interest

rates are very high) Breaking down monopolies (antitrust) to stimulate competition; Or, for aerospace in the 1990s, the opposite: mergers &

consolidation Is this policy now changing for space launch systems?

Protect infant industries Particularly if they are of critical concern to other public interests

such as defense and security.

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Using Large Government Resourcesfor Privatization


Raises questions of unfair treatment of one firm or sector over others;

Raises questions of unfair international trade;May prolong government involvement in the

process of privatizationMay continue inefficient financial and

technical practices By the absence of adequate market incentives, even

after the private sector assumes management control and even asset ownership

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Commercialization and Privatization may fail:Lessons learned from early TDRSS Program*

Concept: leasing services from private owner Contractor to design, develop, implement and operate its own system for

10 years, providing services to the government

Advantage to NASA: defer payments to company until system in orbit

and actual service would begin.

Financing: Company resources and loans

Cost recovery to company: amortized payments by NASA during 10

year operating period

At end of 10 year services contract period, system would transfer

ownership to the government

Prof. H. Hertzfeld, Space Policy Institute, George Washington University

* The following are excerpts from an August 1988 NASA GC Report

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Lessons NASA Learned (or did they?)

The original concept was rational: Combine an established government need for better communications

between satellites and between satellites and the Earth with an existing commercial communications market.

The TDRSS technology and operational concept were fully validated and the support system was an advancement of technology R&D program as well, which is a NASA mission objective

What went wrong? NASA made technological and system design changes The government decided the service to be provided was of a critical nature Significant delays in providing both government and commercial services


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Lessons Learned (2)

Shared (public-private) systems offer possible big cost savings To make it work, a good contract should be specific in advance on:

Rights of the parties (payments, penalties, termination, etc.) Operational needs of both parties Availability (time) of services

A fixed-price contract is not appropriate for critical government R&D development Particularly if significant new systems development is required or Where substantial changes to the design requirements may occur

In a fixed-price contract, delays can be a major problem Litigation may occur Services will be late—of critical concern to the government.


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Lessons Learned (3)

Private financing through loans: The private contractor would not commit equity funds Financial Institutions would not provide private loans

without the “full faith and credit” of the U.S. Government

End Result: the Government had to guarantee the payment on the private loans.


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Other Issues


NASA would have to learn to accept possible loss of control over the assets

NASA would have to accept the risk of system failuresPenalties in the contract were not effective enough to control the

quality of the contractor’s manufactured product. NASA should have written a better contract to avoid this issue

A clear structure for the management team is essential to work with the private sector to develop access and control of key services Contractual arrangements needed to share the accumulated technical and

management improvements (both can move along the “learning curve”).Government interfaces during construction and operation should

be minimized in a leased-services contract arrangement.

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Beware of Promises of Market Demand


1960’s and 1970’s Factories in space—drugs, gallium-arsenide crystals, materials

1980’s Space Power Satellites Direct TV (10 year delay)

1990’s LEO Telecommunications Remote sensing

2000’s Space Tourism (suborbital) Colonization of the Moon; mining of Moon’s resources

2010’s Fuel Depots Demand from foreign governments

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Beware of Misleading Diagrams


Demand curves Always downward sloping Reflect relationship of price

customers willing to pay and quantity they demand at a given point in time—a snapshot

Predictions of future demand are guesses

Supply curves Reflect the costs of

production A long-run cost curve may

also be downward sloping But reflects decreasing

costs of production with larger scale plants

Price

Quantity

Normal Demand Curve

$ (Cost)

QuantityPast Present

Future

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Applicability Today


Recent privatization efforts Space Act Agreements—COTS and Commercial Crew

Cargo Private launch companies depend on government

contracts as an “anchor tenant” (e.g. Space X) Private offerings for R&D facilities on the ISS Potential private operations on the Moon or other

celestial bodiesCan we learn from the past?How can we make this work today?

Documents

Private & Commercial Space Prof. Henry R. Hertzfeld George Washington University Washington, DC 20052 [email protected] SPACE TRANSPORTATION POLICY