oversight

Space Projects: Improvements Needed in Selecting Future Projects for Private Financing

Published by the Government Accountability Office on 1990-09-21.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

                                                                     7
 OfA               United   States   General   Accounting   Office       :

GAO                Report to the Administrator, National
                   Aeronautics and Space Administration
                                                                             ’




September   1990
                   SPACE PROJECTS
                   Improvements Needed
                   in Selecting Future
                   Projects for Private
                   Financing
National Security and
International Affairs Division

B-240473

September 21, 1990

The Honorable Richard H. Truly
Administrator, National Aeronautics
  and Space Administration

Dear Admiral Truly,

This report describes the efforts of the National Aeronautics and Space Administration
(NASA) to find acceptable private financing sources for seven space projects.

This report contains recommendations to you. The head of a federal agency is required by 31
U.S.C. 720 to submit a written statement on actions taken on these recommendations to the
House Committee on Government Operations and the Senate Committee on Governmental
Affairs not later than 60 days after the date of the report and to the House and Senate
Committees on Appropriations with an agency’s first request for appropriations made more
than 60 days after the date of the report.

We are sending copies of this report to the Director, Office of Management and Budget, and
to other interested parties. Please call me at (202) 275-5140 if you or your staff have any
questions about this report. Other major contributors to this report are listed in appendix HI.

Sincerely yours,




Mark E. Gebicke
Director, NASA Issues
Executive Summary


                   To encourage the private sector’s participation in civilian space activi-
Purpose            ties, the President’s fiscal year 1990 budget proposed private financing
                   for seven key projects in the space shuttle and space station programs.
                   The National Aeronautics and Space Administration (NASA) estimated
                   that these projects would cost well over $700 million between fiscal
                   years 1990 and 1994 if the government funded them. Because this was
                   the first effort of this type, GAO reviewed NASA’s actions to determine the
                   feasibility and appropriateness of obtaining private financing for these
                   projects.


                           budget, which was at the $9 billion level in fiscal year 1988, has
Background         NASA'S
                   increased each year since and is expected to continue to do so in the
                   1990s. The agency projects that its fiscal year 1993 request will be over
                   $19 billion. Private financing of space projects was intended to help
                   reduce the rate of increase in NASA'S budget in the near term. Overall,
                   these initiatives were intended to actively involve the private sector in
                   developing space projects into profitable ventures and in sharing the
                   government’s development costs and risks in return for a share of poten-
                   tial revenues.

                   The seven projects in the Administration’s private financing initiatives
                   were an advanced solid rocket motor production facility, a weightless-
                   ness laboratory, a space station payload processing facility, an observa-
                   tional instruments processing laboratory, a robotic arm for the space
                   station, a space station docking system, and part of the extended dura-
                   tion orbiter. In anticipation of obtaining private financing for them,
                   NASA’S budget request and estimates for fiscal years 1990 to 1994 were
                   reduced by about $747 million. The reduction in the fiscal year 1990
                   budget alone was about $208 million.


                   Efforts to develop commercial interest in seven NASA projects were gen-
Results in Brief   erally unsuccessful because most of them were not good candidates for
                   commercialization. The projects were selected for commercialization and
                   funds were removed from NASA'S budget request before the likelihood of
                   their success was adequately screened.

                   In choosing projects for possible commercialization, one important
                   screening criterion is a comparison of the government’s cost to develop
                   projects by using private or government financing. Such a detailed anal-
                   ysis was done to compare the costs of private and government financing



                   Page 2                                          GAO/NSIAD#l47   Space Projectu
                         Executive Summary




                         of the advanced solid rocket motor production facility. NASA recom-
                         mended approval of the private financing option based on this analysis.
                         However, while most of the analysis was well done, it did not ade-
                         quately address the government’s exposure to possible increases in
                         short-term commercial interest rates. In addition, the analysis included
                         cases where the private borrowing rate was assumed to be cheaper than
                         the government’s borrowing rate-an unlikely possibility.



Principal Findings

Most Projects Were Not   The Office of Management and Budget and NASA selected the seven
                         projects and removed them from NASA'S budget request before their com-
Good. Candidates         mercial feasibility and the cost-effectiveness of private financing were
                         adequately studied. Subsequent evaluations showed that private con-
                         cerns were not willing to invest in most of the projects because they
                         perceived few or no commercial markets for them. In addition, about
                         half of the projects were believed to be too far along in development to
                         modify them for commercial use without added expense and delay. Also,
                         the risk of development within estimated costs was judged to be too high
                         for a few projects.

                         NASA   received financing proposals for the four facility construction
                         projects, but it rejected three of them because they would have been
                         significantly more costly than government financing. NASA recommended
                         approval of the remaining proposal for funding of the advanced solid
                         rocket motor production facility. The proposal was more expensive than
                         using government financing, but NASA concluded that the cost difference
                         of about 4 percent, or $16 million, was insignificant.


SomeProjects Have Been   Ultimately, only the project involving part of the extended duration
Delayed                  orbiter was commercialized. All of the unsuccessful commercialization
                         projects have been reinstated in NASA'S budget. Four of them-the
                         weightlessness laboratory, the space station payload processing facility,
                         the observational instruments processing laboratory, and the space sta-
                         tion docking system- are not expected to receive any significant
                         funding for this fiscal year. These projects have been delayed.




                          Page 3                                        GAO/NSIAD-f@147   Space FmJeeta
                            Executive Summary




Problems With the            In its analyses of the proposal for private financing of the advanced
                             solid rocket motor production facility, NASA considered a wide range of
Analyses of the Advanced     possible private interest and government discount rates, but did not ade-
Solid Rocket Motor Plant     quately address the interest rate risk associated with financing a long-
Proposal                     term project using short-term money. NASA'S analyses also included cases
                             where the private borrowing rate was unrealistically assumed to be
                             lower than the government’s rate.

                             The private financing proposal called for funding the construction of the
                             facility using 30- to 180-day loans that would be refinanced when due at
                             current rates for a 7.5-year period. NASA recommended approval of this
                             proposal and would have proceeded with it if Congress had not returned
                             the project to NASA’S budget and funded it in fiscal year 1990.


                                   recommends that the Administrator,
Recommendations              GAO                                        NASA,

                           . establish and consistently apply appropriate screening criteria for use in
                             identifying projects for commercialization;
                           . in consultation with the Office of Management and Budget, keep such
                             projects in the budget until they are adequately evaluated as private
                             financing candidates and such financing is found or is judged to be
                             highly likely; and
                           . ensure that financing options for future projects are properly analyzed.


                             UASAand the Office of Management and Budget generally believe that
Agency Comments and          the GAO analysis and report provide a useful review of these space com-
GAO’s Evaluation             mercialization efforts. They believe this review will be helpful in the
                             future, given the newness of such activities and the broad variety of
                             available financing options. The Office of Management and Budget did
                             not directly comment on the recommendations, while NASA objected to
                             being the sole addressee of the draft recommendation to keep projects in
                             the budget until they are adequately evaluated as private financing can-
                             didates. NASA suggested that GAO either withdraw the recommendation
                             or address it to the Office of Management and Budget.

                             GAO  recognizes that the Office of Management and Budget is a key
                             player in finalizing NASA'S budget. The recommendation in the draft
                             report was addressed only to NASA because of its primary responsibility
                             to justify its budget. However, because of the Office of Management and
                             Budget’s position that withholding the projects from the budget request
                             was part of a deliberate strategy to demonstrate the Administration’s


                              Page 4                                            GAO/NSWW147   Space ProJecta
Executive Summary




commitment to pursue commercial financing, GAO modified the recom-
mendation to NASA to include consultation with the Office of Manage-
ment and Budget.




Page 5                                       GAO/BJSIAD-BO-147Space ProJeeta
Contents


Executive Summary                                                                               2

Chapter 1                                                                                       8
Introduction          Descriptions and Estimated Development Costs of
                          Candidate Projects
                                                                                                9

                      Objectives, Scope, and Methodology                                       10

Chapter 2                                                                                      12
Most Initiatives to   Commercialization Projects Were Selected Before Being
                           Adequately Evaluated
                                                                                               12
Obtain Private        Commercialization Efforts Delayed Some Space Projects                    16
Financing for Space        and May Discourage Future Attempts
                      Problems With the Analyses of the Private Financing                      17
Projects Were              Proposal for the Advanced Solid Rocket Motor
Unsuccessful               Production Facility
                      Private Financing for the Extended Duration Orbiter                      21
                           Cryogenic Pallet
                      Conclusions                                                              22
                      Recommendations                                                          23
                      Agency Comments and Our Evaluation                                       23

Appendixes            Appendix I: Comments From NASA                                           26
                      Appendix II: Comments From OMB                                           32
                      Appendix III: Major Contributors to This Report                          36

Tables                Table 1.1: NASA’s Estimated Development Cost for the
                          Seven Projects
                      Table 2.1: Reasons Why Projects Were Not Good                            13
                          Candidates for Commercialization
                      Table 2.2: NASA’s Present Value Cost Estimates for the                   20
                           Advanced Solid Rocket Motor Production Facility

Figures               Figure 1.1: NASA’s Budget and Budget Requests, Fiscal                      8
                           Years 1988-93
                      Figure 2.1: Comparison of Short-Term Commercial and                       19
                           Short-Term Treasury Interest Rates, 1974-89




                      Page tl                                       GAO/NSIADW147   Spnce ProJecta
Contenta




 Abbreviations

 CBO       Congressional Budget Office
 GAO       General Accounting Office
 NASA      National Aeronautics and Space Administration
 OMB       Office of Management and Budget


 p&e7                                          GAO/NSIAD@M47   Sm   Projects
Chapter 1

Introduction


                                       NASA’Sfiscal year 1990 budget request proposed using private funds to
                                       help develop seven space shuttle and space station projects. This pro-
                                       posal was a key initiative in encouraging private sector investment in
                                       space activities. The commercialization of space projects is intended to
                                       actively involve the private sector in developing them into profitable
                                       ventures and in sharing the government’s development costs and risks.
                                       In return, private firms would receive a share of potential revenues.

                                       If successful, such initiatives would also have a moderating effect on the
                                       rate of growth in NASA'S budget, which has been increasing significantly
                                       in recent years. The growth trend is expected to continue in the 1990s.
                                       Figure 1.1 shows the growth in NASA'S budget from its fiscal year 1988
                                       level of $9 billion to an estimated request for $19.3 billion in fiscal year
                                        1993.


Figure 1.I: NASA’s Budget and Budget
Requests, Fiscal Year8 1988-93
                                       20   Blllbm     or Dollua
                                       19                                                 I




                                                                            r
                                       16
                                       17
                                       16



                                                                           1
                                       15
                                       14
                                       1s
                                       12
                                       11
                                       10
                                                            -r
                                        9 nr
                                        a
                                        7
                                        6
                                        I            IIII                             I




                                       Note: Data estimated for fiscal years 1990-93.
                                       Source: Budget of the US government, fiscal year 1991




                                       Page 8                                                  GAO/NSIADBO-147 Space Pmjects
                               Chapter 1
                               Introduction




                               NASA proposed private financing for four facility COnStIWtiOn projects
Descriptions and               and three development projects. The four construction projects included
Estimated
Development Costs of   l     an advanced solid rocket motor production facility, to be located in
                             Yellow Creek, Mississippi. It will manufacture improved solid rocket
Candidate Projects           motors used to help power the space shuttle into orbit. The advanced
                             rocket motors are expected to be more powerful and reliable than the
                             ones currently used.
                       l     a neutral buoyancy (weightlessness) laboratory, consisting primarily of
                             a large tank of water, which will simulate the weightless environment in
                             which astronauts will build, operate, and maintain the space station.
                             The laboratory will be built at the Johnson Space Center, near Houston,
                             Texas, headquarters for astronaut training.
                           . a space station payload processing facility, to be located at the Kennedy
                             Space Center on Florida’s east-central coast. It will be used to inspect
                             and prepare elements of the space station for launch and assembly in
                             orbit. Later, the facility will perform a similar function for cargo carried
                             to and from the space station.
                           . an observational instruments processing laboratory, to be located at the
                             Jet Propulsion Laboratory in Pasadena, California. The laboratory will
                             be used to develop and assemble instruments for a wide array of mis-
                              sions, including earth observation, planetary exploration, and astro-
                              nomical studies.

                               The three development projects included

                           l a space station flight telerobotic servicer that will be attached to the
                             space station. This mobile robotic arm will be used to perform mainte-
                             nance and other activities outside the station.
                           l a space station docking system that will join the shuttle or other vehi-
                             cles to the space station to allow the transfer of personnel and supplies.
                           . a cryogenic pallet for the extended duration orbiter. The pallet will be
                             carried in the space shuttle’s cargo bay to provide additional supplies of
                             liquid oxygen and liquid hydrogen for power generation and life sup-
                             port. This pallet is a part of a set of modifications to a shuttle orbiter
                             that will extend the current limit on shuttle flights from about 10 days
                             to 16 days.

                                NASA  estimated the development cost of these seven projects at $794 mil-
                                lion between fiscal years 1990 and 1994 if they are fully funded by the
                                government (see table 1.1).




                                Page 9                                        GAO/NSLALMO-147 Space Projects
                                           Chapter 1
                                           Introduction




Table 1.l : NASA’s Estimated
Development cost for the &Ven   PrOjeCtS   Dollars in millions
(Fiscal Years 1990-94)
                                                                                                                Fiscal year
                                           Facilitie3                                      1990       1991      1992     1993   1994    Total
                                           Advanced solid rocket motor
                                             production facility                             $60          $60    $60     $93      $0    $273
                                           Weightlessness laboratory                          30            0      0       0       0      30
                                           Space station payload processing
                                             facility                                         43           41      0        0       0      84
                                           Observational instruments
                                             processing laboratory                             14           0      0        0       0      14
                                           Proiects
                                           Flight telerobotic servicer arm                    45           45     50       45      45     230
                                           Soace
                                           -r---
                                                   station dockina
                                                             ~~   e
                                                                    svstem
                                                                      1
                                                                                               7           27     28       45      13     120
                                           Extended duration orbiter crvoaenic
                                                                            .   1


                                                                                              25           15                      0      43
                                           Total                                           $224       $188      $141    $183     $58    $794
                                           aThe facilities’ estimates do not include capital equipment.
                                           Source: NASA.


                                           During budget discussions with the Office of Management and Budget
                                           (OMB), NASA agreed to seek private financing for the seven projects. OMB
                                           then deducted most of the projects’ estimated development costs from
                                           NASA'S budget request and budget estimates for fiscal years 1990
                                           through 1994, a reduction of approximately $747 million. The reduction
                                           in the fiscal year 1990 budget alone was $208 million. The President’s
                                           budget request to Congress for fiscal year 1990 mentioned these projects
                                           as private financing initiatives.


                                            We examined NASA'S efforts to determine the feasibility and appropriate-
Objectives, Scope,and                       ness of obtaining private financing for the seven space projects. We
Methodology                                 interviewed NASA headquarters, OMB, and Congressional Budget Office
                                            (CXO)personnel to gain an understanding of the initiatives, the basis for
                                            their selection as candidate projects, and the results of NASA'S and CEIO’S
                                            analyses of these projects. We also interviewed an OMB economist who is
                                            an expert on OMB Circular A-104, which sets out the factors involved in
                                            deciding whether to lease or purchase an asset and presents a model for
                                            conducting a present value analysis.’



                                            ‘A presentvalue analysis compares the relative vah~esof aitemative adions that have different
                                            timing patterns to their flows of revenuea and/or costs.This techniquetakesinto accountthe time
                                            value of moneyand allows alternative actionsto becomparedon an equaleconomicbasis.



                                            Page 10                                                             GAO/NSIAD@O-147SpaceProjects
Chapter 1
Introduction




We obtained detailed information about specific projects and their cur-
rent status from NASA program office personnel at headquarters and at
field centers. In addition, we discussed the initiatives with officials from
NASA’S Office of the Comptroller and Congressional Relations Office to
determine how the initiatives had affected NASA'S budget.

We visited NASA’S Johnson Space Center, Houston, Texas, and Marshall
Space Flight Center, Huntsville, Alabama. At Johnson Space Center, we
obtained information from program and procurement officials respon-
sible for the weightlessness laboratory and the extended duration
orbiter. At Marshall Space Flight Center, we discussed with program
and procurement officials the efforts to privately finance the advanced
solid rocket motor production facility and reviewed a NASA analysis of
the private financing proposal for the facility. We also obtained infor-
mation from Kennedy Space Center officials about their attempts to find
private financing for the space station payload processing facility.

NASA and OMB comments on a draft of this report are included as appen-
dixes I and II, respectively. These comments are addressed, where
appropriate, throughout the report. Our review was performed between
August 1989 and March 1990 in accordance with generally accepted
government auditing standards.




 Page 11                                         GAO/NSIAL%90147 Space Projects
Most Initiatives to Obtain private Financing for
SpaceProjectsWere Unsuccessful

                         The candidates for private financing in fiscal year 1990 were selected
                         and removed from NASA'S budget request before their commercial via-
                         bility was determined and the cost-effectiveness of using private
                         financing was properly evaluated. Except for the extended duration
                         orbiter cryogenic pallet, the projects failed to attract private investment
                         because (1) commercial demand for the services to be offered by the
                         projects did not exist, (2) some projects were too far along in their devel-
                         opment to be considered for commercialization without incurring rede-
                         sign costs and causing delays, and (3) the risks of successful
                         development within estimated costs were too high. Furthermore, private
                         financing would have significantly increased the government’s cost for
                         some projects. In addition, NASA'S safety concerns about two of the
                         projects caused it to limit consideration of potential investors to the cur-
                         rent contractors.

                         Ultimately, the unsuccessful commercialization projects were reincorpo
                         rated into NASA's budget, and some of them have been delayed because
                         significant fiscal year 1990 funding has not been found for them.

                         NASA  has agreed to a proposal from its current orbiter contractor to pri-
                         vately finance the extended duration orbiter cryogenic pallet, and NASA’s
                         analysis of the proposal shows that the plan is cost-effective. The plan
                         allows NASA to defer paying the pallet’s development costs.

                         NASA  analyzed a proposal for private financing of the advanced solid
                         rocket motor production facility, concluded it was a viable option, and
                         was moving in that direction before being stopped by congressional
                         action. NASA’S analysis did not adequately address the government’s
                         exposure to the short-term interest rate risk. A rate increase could have
                         lead to substantial additional cost to the government for that facility
                         under the private financing option.


                         OMEand NASAjointly agreed to the seven projects for commercialization
Commercialization        during budget discussions in late 1988 to reduce NASA’s fiscal year 1990
projects   were   &hkd   b u d get request and to help achieve the goal of increasing private invest-
Before Being             ment in space. The projects were removed from NASA’S budget request
                         before their suitability for commercialization had been adequately eval-
Adequately Evaluated     uated. Subsequent evaluations by NASA personnel and consultants
                         showed that six of the seven projects were not good candidates for pri-
                         vate financing. (See table 2.1.)




                         Page 12                                          GAO/N-147       space Projecta
                                       Chapter 2
                                       mat lnltlatlvea to obtain Private F+inAnclng
                                       for Space Pro.jecta Were Unsu~




Table 2.1: Rea8ons Why Project8 Were
Not Good Candidates for                                                Lack of     Projects too           High Private financing
Commercialiration                                                  commercial       far along in     technical      rigniticantly
                                                                      demand      development              risk      more costly
                                       Advanced solid rocket
                                         motor production
                                         facility                             X
                                       Weightlessness
                                         laboratory                           X                                                  X
                                       Space station payload
                                         processing facility                                  X                                  X
                                       Observational
                                         instruments
                                         processing laboratory                X                X                                 X
                                       Robotic arm                            X                X             X
                                       Space station docking
                                         svstem                               X                              X


                                       In addition, NASA officials were concerned about the potential safety
                                       implications of introducing new contractors for the extended duration
                                       orbiter cryogenic pallet and the space station docking system. Conse-
                                       quently, NASA limited its search for private developers on these projects
                                       to the contractors already engaged.


Lack of Commercial                     Commercial demand for the services the projects would offer is vital to
Demand                                 establishing a long-term financially successful operation and to the
                                       sharing of the future financial burden on the government, which would
                                       otherwise be the projects’ sole customer. A lack of commercial demand
                                       affected five projects. NASA found that commercial aerospace, construc-
                                       tion, and finance companies were not willing to invest in four projects
                                       because they perceived that few or no commercial markets existed. For
                                       example, there are no specific commercial applications for the robotic
                                       arm, and prospective investors’ market surveys found no practical com-
                                       mercial markets to justify investment. Also, NASA’Smarket survey found
                                       no interest in joint use or shared ownership of the weightlessness labo-
                                       ratory. Although four commercial firms expressed interest in lending
                                       the government the money for the facility, NASA did not accept these
                                       proposals because they would have cost significantly more than govern-
                                       ment financing.

                                        NASA  also determined that one of the five projects-the observational
                                        instruments processing laboratory-was      not amenable to shared use
                                        and, therefore, decided not to seek private financing.




                                        Page 13                                                    GAo/lvsmMm147     space Projects
                            chapter 2
                            Most Initiativea to Obtain Private Pinaming
                            for Space Pro,jecta Were U~ucceaafiIl




SomeProjects Too Far Into   NASA  had approved conceptual designs and begun detailed designs on
                            four projects when they were selected as commercialization candidates.
Development                 To modify three of these projects for commercial uses, developers would
                            have had to do redesign work. This could have added costs and delayed
                            the projects. For example, at the time NASA initially solicited private
                            interest in the space station payload processing facility, the design was
                            60 percent complete. Three firms that indicated an interest in shared use
                            stated that the facility design would have to be modified. They felt that
                            the space NASA had allocated for commercial use would not be large
                            enough to meet their needs.

                            In the case of the observational instruments processing laboratory, NASA
                            had already completed preliminary engineering designs, selected a site
                            at the Jet Propulsion Laboratory in Pasadena, California, hired an archi-
                            tect and engineer, and invested $1 million in the design process by the
                            time the project was selected as a commercialization candidate. Bringing
                            aboard a private investor at that stage could have delayed construction
                            and resulted in additional design costs if design changes were required
                            to adapt the facility to commercial use.


High Technological Risk     NASA  also found that potential private sector investors were not willing
                            to invest in the robotic arm and the space station docking system
                            because they believed the technical risk was too high. Technical risk fac-
                            tors include whether equipment can be developed to accomplish the
                            stated task, whether development problems will arise and increase
                            costs, and whether the equipment developed will perform reliably.
                            NASA’S consultants concluded that the high technological risks of devel-
                            oping the robotic arm and the space station docking system would
                            frighten away most investors, who could invest in other, less chancy
                            ventures.

                             Space station funding problems and schedule delays also create uncer-
                             tainty that discourage private investment. One NASA consultant stated
                             that the space station docking system and the robotic arm are perceived
                             as highly risky from a business point of view because the “parent” pro-
                             gram, the space station, is perceived as vulnerable to budget cuts and
                             schedule delays. A potential developer of the space station payload
                             processing facility also confirmed this view.




                             Page 14                                       GAO/‘NSIAKWO-147 Space Pro&&
                           Chapter 2
                           Most Initiatives   to Obtain Private   Financing
                           for Space Project.8 Were Unsuccerreinl




Private Financing Would    NASA  inquiries stimulated private financing proposals for five of the
                           commercialization projects-the      advanced solid rocket motor produc-
Be Significantly More      tion facility, the weightlessness laboratory, the space station payload
Costly to the Government   processing facility, the observational instruments processing laboratory,
                           and the extended duration orbiter cryogenic pallet. Except for the
                           extended duration orbiter cryogenic pallet, the proposals did not offer to
                           invest in the projects, but rather to develop them for NASAin return for
                           long-term leases or mortgages.

                           NASA’S   economic analyses of these five projects showed that the private
                            financing offered for three of them would be significantly more expen-
                            sive than government financing. NASA, therefore, rejected the private
                            financing proposals for these projects.

                            NASA concluded that the private financing proposals for the solid rocket
                            motor production facility and for the extended duration orbiter cryo-
                            genic pallet were viable options and pursued them. These proposals are
                            discussed later in this report.


Only Current Contractors    Two of the projects, the space station docking system and the extended
                            duration orbiter cryogenic pallet, had critical safety considerations that
Acceptable for Safety-      caused NASAto limit consideration of private development contractors to
Critical Projects           those already working on the projects. NASA believed that using other
                            private developers would have created unacceptable safety risks.

                            Some commercial demand is forecast for the extended duration orbiter
                            cryogenic pallet, and NASA has negotiated a private financing arrange-
                            ment with its orbiter contractor. In return for financing pallet develop
                            ment, the contractor will share in revenues generated from commercial,
                            extended duration shuttle flights. So far, NASA has identified one large-
                            scale commercial flight, which is scheduled for 1994. According to NASA,
                            there are also numerous potential smaller shared payloads.

                            After determining that no commercial demand existed for the space sta-
                            tion docking system, NASA officials opted not to seek private financing.




                             Page 15                                          GAO/NSL4D90-147 Space Projects
                       chapter 2
                       Mmt Initialives to Obtain Private FInancing
                       for Space P&ect+¶ Were UnaucceasftIl




                       Except for the extended duration orbiter cryogenic pallet, the commer-
Commercialization      cialization projects have been ruled out for private financing. All of the
Efforts Delayed Some   unsuccessful commercialization projects were returned to NASA’S budget,
SpaceProjects a Id     and NASA is funding them, or will attempt to do so. NASA'S budget request
                       for fiscal year 1990 totaled $13.3 billion without significant funding for
May Discourage         the commercialization projects. Although NASA'S appropriation for fiscal
Future Attempts        year 1990 ultimately included funding for some of the projects,’ the
                       total appropriation was only $12.4 billion. Thus, NASA had to contend
                       with a lower-than-requested appropriation and, at the same time, had to
                       attempt to find money for the unfunded projects.

                       Four of the unsuccessful commercialization projects-the space station
                       docking system, the weightlessness laboratory, the space station
                       payload processing facility, and the observational instruments
                       processing laboratory-may     not receive any significant funding in fiscal
                       year 1990. These projects have been delayed, and any significant
                       funding for them has been put off to fiscal year 1991.

                       In addition to having an adverse effect on individual projects, the poor
                       results from the commercialization efforts could hamper future initia-
                       tives, and good commercialization candidates could languish, As pointed
                       out by a NASA consultant,

                       If NASA pursues non-commercially feasible systems on a commercial basis for polit-
                       ical or other reasons, viable alternative candidates for commercial projects may not
                       be pursued. . . .

                        Industry may perceive that NASA is supporting token commercial space
                        development and only because of “off-budget financing” or other bene-
                        fits to the agency. Industry may be disillusioned with the possibility of
                        real commercialization, refusing to propose privately operated services.

                        We agree with these observations.




                        ‘For example,Congressappropriated$90 million for the advancedsolid rocketmotor production
                        facility and $80 million for the robotic arm.



                        Page 16                                                    GAO/NSLUHO-147 Space Projecta
                            chapter2
                            Moat Jnitiatives to Obtain Private Financing
                            for Space Projects Were Unsuccessful




                            As previously noted, NASA received private financing proposals for the
Problems With the           four facility construction projects, but rejected three of them because
Analyses of the             private financing would have cost the government significantly more
Private Financing           than government financing. In the case of the advanced solid rocket
                            motor production facility, however, NASA analysts concluded after a
Proposal for the            comprehensive evaluation that, although private financing was more
Advanced Solid              expensive than government financing, the difference was not significant
                            because it was well below the threshold of accuracy, given the method-
Rocket Motor                ology and data used. Therefore, they recommended private financing.
Production Facility         However, we found that, although the final analysis of the government’s
                            financing options for the advanced solid rocket motor production
                            facility was, for the most part, properly done, it did not adequately
                            address the government’s interest-rate risk. This risk could have
                            exposed the government to far higher costs than anticipated.

                            Also, in some cases, NASA’S analyses implied that private borrowing
                            would cost less than U.S. government borrowing. History consistently
                            shows, however, that U.S. government borrowing is less costly than pri-
                            vate borrowing for the same borrowing period.


Private Financing           NASA'S request for proposal for the advanced solid rocket motor produc-

Recommendedfor the          tion facility required offerors to propose development and construction
                            of the production facility using government financing and private
Advanced Solid Rocket       financing. NASA'S Source Evaluation Board made a detailed analysis of
Motor Production Facility   cost proposals for each financial approach. The Board used a model that
                            a NASA consultant developed based on OMB’S requirement for a “present
                            value” cost analysis.

                            From its analysis, the Board determined that private financing would
                            cost the government more than government financing on a present value
                            basis, but that the additional cost was insignificant given the overall
                            cost of the facility. NASA recommended the private financing option
                            because OMB had excluded funding for the motor facility from NASA’S
                            budget request. NASA did not consider it possible to get additional appro-
                            priations and wanted to avoid delaying the project. Project managers
                            also noted that during tight budget periods, government-funded pro-
                            grams are often stretched out to reduce current year outlays. Stretching
                            out funding for the advanced solid rocket motor production facility
                            would have delayed production and increased the cost of the advanced
                            motor. It would have also required NASA to use more of the current, less
                            capable motors. According to NASA, continued use of the current motor
                            would increase the overall cost of the shuttle program.


                             Page 17                                       GAO/NSIAD-90-147 Space Projects
Chapter 2
Moat Initiativea to Obtain Private Pinancing
for Space Project8 Were Unsuccees~




The private financing proposal for the facility featured a buy-now, pay-
later plan, under which the contractor would borrow the money needed
to finance the facility’s development and construction. For the first 2.5
years of the project, the government would pay only the contractor’s
interest cost on the borrowed funds. Then, over the following 5 years,
the government would pay back the loan in equal installments, including
related interest. Under this private financing option, NASA estimated that
the government’s cost for the facility would total about $686 million
over 7.5 years. If the government directly financed the facility, NASA
estimated the government’s cost at approximately $527 million over a
 5-year period. Thus, the total project cost to the government under the
private financing option would be about $159 million, or 30 percent,
 higher than under the government financing option. However, because
 the timing of the government’s costs under each option would be dif-
 ferent, NASA continued its evaluation and examined the present value of
 each.

NASA'S  present value analysis contained assumptions about private and
government costs of borrowing funds. An interest rate is used to esti-
mate the cost at which the private sector will loan money, and a dis-
count rate is used to estimate the amount of money that would have to
be currently invested to produce the funding needed to meet future
years’ payments. We believe that the discount rate used to evaluate
NASA'S options for financing its projects should represent the govem-
ment’s cost of borrowing because investment options must be viewed
from a government-wide perspective. Since most government funding
requirements are met through the Treasury, its estimated cost to borrow
(or estimated savings from not having to borrow) is a proper basis for
establishing the discount rate in NASA'S present value analysis.

 NASA'S analysis included sensitivity testing of a wide range of private
 and government interest rates to show the potential impact if the basic
 rate assumptions did not hold. The private interest rates NASAused
 ranged from 6 percent to 16 percent, and the government interest rates
 ranged from 9 percent to 11 percent.

 The analysts concluded that private financing was a viable alternative
 and that the government’s cost advantage under the government
 financing option was insignificant. They also concluded that private
 financing would avoid program delays and permit faster use of the more
 reliable and powerful motors.




 Page 18                                        GAO/NSIAD-9@147 Space Projects
                                                                                                                                                          I




                                                    Chapter 2
                                                    Most Initiatives   to   Obtain private Financing
                                                    for Space Projects Were UnsuccessM




NASA’s Analyses Used an                             NASA’S  economic analyses contained an incorrect relationship between
                                                    the private and government costs of borrowing and did not adequately
Incorrect Relationship                              address the government’s risk of using short-term, variable-rate
Between Private and                                 financing.
Government Interest Rates
and Did Not Adequately                              In the baseline case for its initial present value analysis, MSA used a
Address           Interest       Rate       Risk    private interest rate of 8.6 percent and a government interest rate of 9.1
                                                    percent. Based on these assumptions, the present value of private
                                                    financing was only $1 million more than that of government financing.
                                                    However, an assumption of a lower private interest rate (8.6 percent)
                                                    than government interest rate (9.1 percent) is not realistic. Historically,
                                                    the government’s borrowing rate has been lower because the govern-
                                                    ment is less likely to default on its debts. For example, figure 2.1 shows
                                                    the consistently lower cost of the government’s 3-month borrowing
                                                    during the last 15 years.



Figure 2.1: Comparison of Short-Teim Commercial and Short-Term Treasury Interest Rates, 1974-89

16   lntmnrl ml. (ps-)
15
14
13
12
11




 1374          1975     lB75      1977       1918   ls7s       1350         1081    1352     1089      1354      1355     19m      1357    1355    1353
 CalsnfJarYsar

        -         Three Month Commercial   Paper
        mm--      ThreeMonthTreasuryBiil

                                                     Source: Federal Reserve Bulletin and Annual Statistical Digest




                                                     Page 19                                                            GAO/NSIAD99-147 Space Projects
                                          chapter 2
                                          Most Initiativea to Obtain Private Financing
                                          for Space Pro,jects Were Unsueeeeefi~I




                                          In its final present value analysis, NASA’S baseline case used a private
                                          interest rate of 10 percent and a government interest rate of 9.1 percent
                                          to convert each year’s payment to a present value. (See table 2.2.)’

Table 2.2: NASA’s Present Value Cost
Estimates for the Advanced Solid Rocket   Dollars in millions
Motor Production Facility                                                                                 Financing option
                                          Year                                           Government                                Private
                                          1                                                     $41                                     $1
                                          2                                                      108                                     9
                                          3                                                      122                                    19
                                          4                                                       90                                    99
                                          5                                                       44                                    91
                                          6                                                           0                                 79
                                          7                                                           0                                 67
                                          8                                                           0                                 56
                                          Total                                                $405                                  $421
                                          Source: NASA


                                          The analysts concluded that the present value cost difference of
                                          $16 million in favor of government financing was not material. How-
                                          ever, NASA'S analysis did not adequately address the interest rate risk to
                                          the government from using short-term, variable-rate financing. Also,
                                          NASA'S final analysis presented alternative cases that continued to use
                                          the incorrect relationship between private and government interest
                                          rates.

                                           The private financing alternative NASA considered called for financing
                                           project construction cost with short-term money (30- to 180-day com-
                                           mercial paper), which would be refinanced when due, at prevailing
                                           rates. This proposed approach meant that the private interest rate
                                           would be subject to adjustment at least twice a year, or a minimum of
                                           15 times during the 7.5-year payback period.

                                           Although NASA’S analysis included sensitivity tests that used a variety of
                                           private and government interest rates, it did not directly highlight the
                                           inherent risk to the government of using short-term, variable-rate
                                           financing. The government’s cost for financing additional debt would
                                           depend on the prevailing short-term private interest rate. The govern-
                                           ment would gamble that commercial rates would not increase during the

                                           “Representativesof the SenateCommitteeon Commerce,Science,and Tmnsportation requestedcor-
                                           rection of the interest rate/discount rate relationship.



                                           Page 20                                                        GAO/NSIAIHO-147    Space Projecta
                        Chapter 2
                        Meet Initiatives to Obtain Private Fbancing
                        for SpaceProject.8Were Unsuccea8~




                        period when the project was privately financed because any such
                        increase would increase the government’s overall cost, perhaps by a sig-
                        nificant amount.

                        The gravity of the government’s risk can be seen in the seesawing of
                        commercial interest rates that can occur over much shorter periods of
                        time than the 7.5-year period for the private financing option for the
                        advanced solid rocket motor production facility. For example, from
                        1987 to 1989, the 3-month commercial borrowing rate increased by more
                        than 2 percentage points. NASA’s final analysis showed that every per-
                        centage point increase in the commercial borrowing rate would increase
                        the government’s cost by about $15 million over a 7.5-year period.

                        In addition to the baseline case, NASA presented two alternative cases in
                        its final present value analysis. These alternative cases continued to rely
                        on the incorrect relationship between private and government interest
                        rates. One case was based on equal rates of 10 percent for both private
                        and government borrowing. The other case used a higher government
                        borrowing rate (11 percent) than private borrowing rate (10 percent).
                        These alternative cases reduced, and then eliminated, the baseline case’s
                        cost advantage of government financing.

                        Under the equal lo-percent analysis, the government financing cost
                        advantage in the baseline case was cut in half-from    $16 million to $8
                        million. Under the analysis using a higher government interest rate than
                        private interest rate, the cost advantage of the government financing
                        option disappeared, and there was a slight cost advantage of $2 million
                        for the private financing option. Presenting such alternative cases gives
                        them an aura of legitimacy that they do not deserve. More important,
                        they can inappropriately influence management’s decision. Only feasible
                        alternative cases should be presented.


                        As previously mentioned, NASA has agreed with its current orbiter con-
Private Financing for   tractor to privately finance the extended duration orbiter cryogenic
the Extended Duration   pallet. The contractor offered to develop the pallet and to allow NASA to
Orbiter Cryogenic       defer paying for it. The contractor will recover its cost of financing
                        pallet development by collecting a surcharge from certain users of the
Pallet                  extended duration orbiter.

                        Specifically, the arrangement calls for the contractor to pay $53 million
                        for developing the pallet and to receive credit for about a $15 million
                        investment, representing its cost to finance that development. NASA will


                        Page 21                                        GAO/NSlADfbO-147SpaceProjecta
              chapter 2
              Most Initiatives to Obtain Private Financing
              for Space Projects Were Utunwcewful




              repay the development costs in three equal annual installments, begin-
              ning in fiscal year 1992. The contractor will have the opportunity to
              recoup its investment, and perhaps more, from a surcharge on commer-
              cial customers’ use of the extended duration orbiter over a period of
              about 2 or more years.

              The surcharge will be applied to commercial extended missions up to the
              date that the Space Station Freedom is ready for human occupation
              (currently scheduled for April 1996), or no later than December 1997.
              The contractor could recover its $15 million investment from the one
              dedicated commercial extended duration mission currently scheduled
              for fiscal year 1994, provided that all 8 additional days in orbit are used
              as presently planned. There are also numerous potential shared com-
              mercial payloads, according to NASA. Surcharge revenues from all com-
              mercial extended duration missions during the period would go to the
              contractor. Overall, the contractor is taking the risk that the commercial
              use of the extended duration orbiter will generate sufficient surcharge
              revenues to recover its investment in the cryogenic pallet plus a reason-
              able profit.

              According to a NASA manager, the orbiter pallet surcharge would be in
              addition to the costs NASA charges to recoup its shuttle operations costs,
              and the surcharge would not affect NASA’S pricing policy of charging cus-
              tomers for costs of operations.


              OMBand NASA jointly selected the seven projects for commercialization to
Conclusions   reduce NASA'S fiscal year 1990 budget request and to help achieve the
              goal of increasing private sector involvement in space projects. How-
              ever, the efforts to privately finance these seven projects did not
              increase the commercial sector’s involvement in space to the extent
              desired.

              Private financing of space projects may have the potential of increasing
              commercial investment in space at an acceptable cost to the government.
              The projects selected, however, were not a fair test of that potential pri-
              marily because they were not properly screened; that is, neither their
              suitability for commercialization nor the economic consequences of
              seeking private financing for them were adequately evaluated before
              selection. Only after selection were the evaluations and market tests
              done showing that most of them were not viable candidates for private
              financing. Decisions to remove projects from the budgetand to seek



              Page 22                                         GAO/‘NSLUW%147 Space Projecta
                      Chapter 2
                      Most Initiatives to Obtain Private F’inanchg
                      for Space Projecta Were Unsuccessiul




                      their commercial development should be made only after careful
                      screening to determine whether adequate commercial demand exists,
                      development risks are commercially acceptable, and the cost- effective-
                      ness of such a decision is acceptable. Both NASA and OMB decided prema-
                      turely to remove these projects from the budget. Such premature
                      removal can unduly pressure NASA program personnel to justify the pur-
                      suit of private financing. Ultimately, such action can cause project
                      delays and increased costs when unsuccessful commercialization candi-
                      dates must subsequently be returned to the budget.

                      Numerous space projects are continually being planned and developed
                      by the government and, as long as there is a goal of increasing commer-
                      cial space activities, some of them may seem to offer opportunities for
                      private investment. An evaluation of candidates for private investment
                      early in their development, with the primary focus on their suitability
                      and cost-effectiveness as commercial ventures, would help prevent inap-
                      propriate selections and preclude significant development delays.

                      Assessments of the economic impact of changing from government to
                      private financing should use only realistic assumptions and should spe-
                      cifically address those risks that have potentially significant economic
                      consequences. Although very comprehensive in scope, NASA'S present
                      value analyses of a proposal for privately financing the advanced solid
                      rocket motor production facility did not adequately do so. NASA needs to
                      see that economic analyses are correctly done to ensure appropriate
                      comparisons of government and private financing options for future
                      commercialization projects.


                       We recommend that the Administrator,
Recommendations                                                      NASA,

                  . establish and consistently apply appropriate screening criteria to iden-
                    tify projects for commercialization;
                  . in consultation with OMB, keep such projects in the budget until they are
                    adequately evaluated and determined to be private financing candidates
                    and private financing is found or judged to be highly likely; and
                  l ensure that financing options for future commercialization projects are
                    properly analyzed.


                            and OMBgenerally believe that our analysis and report provides a
Agency Comments and    NASA
                       useful review of these space commercialization efforts. This review will
Our Evaluation         be helpful in the future, given the newness of such activities and the


                       Page 23                                               GAO/NSIAWO-147 Space Projecta
Chapter2
Most Mtiativea to Obtain private Fkandng
for Space Projects Were Unsuccessful




broad variety of available financing options. OMB did not directly com-
ment on the recommendations, while NASA objected to being the sole
addressee of the recommendation in our draft report to keep projects in
the budget until they are adequately evaluated as private financing can-
didates, NASA suggested that we either withdraw the recommendation or
address it to OMB.

We recognize that OMB is a key player in approving NASA’S budget. The
recommendation in the draft report was addressed only to NASA because
of its primary responsibility to justify its budget. However, because of
OMB'S position that withholding the seven projects from the budget
request was part of a deliberate strategy to show the Administration’s
commitment to pursue commercial financing, we modified the recom-
mendation to NASA to include its consultation with OMB.

In stating that withholding funding was part of an overall strategy to
attract serious private financing proposals, OMB invited us to comment
on that strategy and to suggest how it might be made more effective.
OMES described this strategy as obtaining expressions of interest and then
soliciting financing proposals, if the private interest was there.

We believe that all of our recommendations will help improve the future
implementation of this strategy without unnecessarily interrupting
ongoing research and development. Under our suggested approach,
weak or clearly unacceptable candidates would be screened out, and pri-
vate financing would be sought only for projects highly likely to attract
it. Then, a clear statement in the solicitation of private financing on each
candidate project could outline how the government would withdraw its
funding when private financing became available. We believe that this
process would send a strong signal of the government’s intent. Certainly
it is a better approach than abruptly terminating budget funding
requests on projects before their commercial viability is known.

 The full text of the NASA and OMB comments are included in appendixes I
 and II, respectively, together with our responses to the agencies’ com-
 ments other than those summarized above.




 Page24                                         GAO/NSlAD9O-147SpaceProjecta
Page 25   GAO/lWADB&147   Space Projecta
 Ppe

A&~mts                       From NASA


Note: GAO comments
supplementing those in the
report text appear at the
end of this appendix.
                               National Aeronautics and
                               Space Admtnistration
                               Washington. DC.
                               20546
                               Offtce of the Admlnisfrator                                        June 28,         1990

                               Wr. Frank C. Conahan
                               Assistant   Comptroller      General
                                 of the United    States
                               General Accounting      Office
                               Washington,   DC     20548

                                Dear Mr.         Conahan:
                                     Thank you for your                 May 16, 1990, letter          soliciting
                                                                                                          NASA's
                                comments on the draft                   GAO report   entitled           -CE
                                                                                                        PRWCTS :
                                                                                                    For Private
                                Financincr.      NASA has expended significant          efforts       to attract
                                investment     and make privatization         a viable     alternative.          We
                                appreciate     the additional      insights    and guidance       that   GAO has
                                provided    by this   report    in exploring     the process of selecting
                                candidates      for  increasing       private    sector    participation         in
                                civilian    space activities.

                                        The GAO analysis      will     prove useful    in future      situations
                                considering     the   lack     of useful      precedents     and the almost
                                limitless     variety     of    financing    arrangements      that      must be
                                considered     prior    to the receipt         of actual      private        sector
                                proposals.      The candidate       analysis   and selection      process      is a
                                complex one that       NASA must conduct         in parallel      with     ongoing
                                research,    development     and technical     progress.
                                        Finally,      we do not agree with GAO's determination                that all
                                of the recommended corrective              actions    are within    the control        and
                                authority        of the NASA Administrator         to implement.       Specifically,
                                NABA is not entirely            a free      agent in the decision           processes
                                involved       in formulating     the content        of the President's         Budget.
                                Accordingly,         we request    that     GAO reconsider       and withdraw        that
                                recommendation,           or,    alternatively,          consider       making         the
                                recommendation         to the Office      of Management and Budget.
                                         Enclosed            are specific    comments which      we believe        will   add to
                                the     usefulness            of the report.
                                                                                    Sincerely,


                                                                                  YAssistantDeputyAdministrator
                                                                                   John E. O'Brien


                                 Enclosure




                                         Page26                                                       GAO/NSIALMO-147SpaceProjwta
                       Appendix I
                       Commentsl+omNASA




                  NASA Comments On GAO Draft Report Entitled     "SPACE PROJECTS:
                   Improvements Needed in Selecting    Future Projects For Private
                                            Financing"

                 The following  specific         comments are organized          in the same format
                 as the subject     draft         report  in order    to         facilitate  cross-
                 referencing.


                 The report      does not recognize        the significant         efforts    that NASA
                 expended to try to make commercialization                   of these facilities          a
See comment 1,   viable    alternative.         This is particularly          true of the Extended
                 Duration     Orbiter     (EDO), which was successfully               commercialized,
                 and the facility         projects.     The docking        system and Telerobotic
                 Servicer      were not good candidates           as it turned           out: however,
                 neither      of    these    projects    was adversely           affected      by their
                 consideration,         as the privatization         efforts      were conducted        in
                 parallel     to their     ongoing technical      progress.
                 There is an implied            assumption      throughout       the report  that the
See comment 2    projects     which were proposed for private              financing   were adversely
                 affected      by this process.          Specifically,         on page 4, the report
                 notes     that     four of the projects             have been delayed       from our
                 original       proposal.       If they had not been proposed for private
                 financing,       the report      suggests that they would have been funded,
                 and retained         their  original     schedules.        This is not necessarily
                 the case.
                 The report      also does not acknowledge          that major efforts         were
See comment 1,   undertaken     by NASA to attract     private     sector     investment     in the
                 facility    projects    and that the detailed          cost benefit      analyses
                 conducted by NASA prior to requesting          formal proposals       recognized
                 the specific       need for potential       investors      to take an equity
                 interest    in the projects     to make them cost beneficial               to the
                 Government.
                 KQst Proiects       Were     Not Good CancQdatea
                 We do not agree with the conclusion                      that some of the facility
See comment 3    projects     were too far into               development       to be considered        for
                 private     sector      investment.          Deliberate      decisions   were made by
                 NASA to carry             out the final            design    of the Space Station
                 Processing     Facility       and the Neutral         Buoyancy Laboratory     to ensure
                 that    the extremely         stringent        technical     and operational      safety
                 requirements       were fully        met and to permit           earlier  construction
                 start    dates if successful            offers     were received.

                                                                                          Enclosure




                       Page27                                                     GAO/NSIAB9@147SpaceProjecta
                       Appendix I
                       CemmenteFromNASA




                 Boblems       With   the &ml,Yses         of the Roc&t          Motor    Plant    ProDa

                 The draft       report     states that NASA did not adequately                    address the
                 interest      rate risk associated             with financing           a long-term     project
                 utilizing       short-term        money sources,          and includes       cases where the
                 private-borrowing              rate      was assumed to be lower                     than     the
                 Government's         rate.      The analysis       of the successful          Advanced Solid
                 Rocket Motor          (ASRM) offerors          proposal,       which was a part of the
                 Source      Evaluation          Board       (SEB) evaluation,             considered       risks
                 associated        with interest          rate fluctuations            over the life       of the
See comment 4.   project.          Comparison         charts     were included           which reflected         an
                  interest     cost range comparison               reflecting        financing     coats for a
                 variety      of interest         rate changes.          The assumed lower rates,             when
                 compared to Government                  rates,     were based on the contractor's
                 proposal      and reflected          plans to sell short-term              notes at the most
                  favorable       market rates for varying                maturities       from 30 up to 180
                 days in lieu           of the ISO-day Government maturity                       period.        The
                 discount       rate utilized          represented        the rate determined           based on
                  criteria      established          by OMB Circular          A-104 at the time of the
                  contractor's         proposal        .      Therefore,       the analyses         included       a
                 variety      of interest        and discount        rate assumptions,          and were based
                  on the best data, and methodology                     that was available.
                                                                D#
                 PROJECTS
See comment 5.   The purpose of the Extended Duration               Orbiter     Cryogenic      Pallet   is
                 to provide      additional        consumables   for power generation            and for
                 life   support.        These additional       consumables       consist   of storage
                 tanks containing         liquid     oxygen and liquid      hydrogen.     The pallet,
                 along with the other modifications                to the Orbiter,        will     extend
                 mission   duration,         beginning    on day 9, to 16 days.
                 =T      INITmIVES          TO OBTAIN PR-               FINANCING FOR SPACE DJECTS

                 The third  paragraph    is incomplete.    The NASA analyses identified
See comment 4.   the exposure    to financing     risk in terms of both real year cost
                 and present     value.      GAO was consulted     prior  to receipt     of
                 proposals   for analytical     techniques   that might be used, but no
                 guidance  was offered.       However, certain    GAO data were included
                 in the models.
                                         ON PROJECTS -ED                         BEFORE WG          AD-

                 The report     states that          there only one potential      ED0 flight.       More
See comment 6.   accurately,       there is          currently   only one dedicated         commercial
                 flight      and numerous              potential    shared    payloads      (primarily
                 Spacehab).

                                                                                                       Enclosure




                       Page 28                                                           GAO/NS~l47           Space Projects
                       Appendix1
                       ChnmentsPromNA!3A




                 <                                                                          0             H
                                ID ROCEET MOTOR FACm
                 The second sentence      should   be clarified.    That is,  the net
                 present value difference     was not significant  because it was well
                 below the threshold    of accuracy of the best OMB and GAO data and
                 methodology   that  was available   at that time.
                 Private    Financjna     Recommended for the Advanced             Solid    Rocket Motor

                 It should be noted that the insignificance                 of the present value
See comment 7.   analysis     differential        was due to the accuracy        threshold     of the
                 analytical       model.      Whereas the various       present     value analyses
                 showed differences          on the order of 4 percent,       the methodology     and
                 data are probably          no better   than lo-15 percent.        GAO should also
                 note that continued           use of the current      motors is expected to be
                 more costly         than the ASRM, and that           ASRM stretch-out        would,
                 therefore,       increase     the ASRM cost and the total         Shuttle    cost as
                 well.      The fifth      paragraph   under this section       should be changed
                 to note that NASA's present-value            analysis    contained     a wide range
                 of assumptions         about interest     and discount     rates.
                                                                                    D Between      Private


                 NASA believes    that  this    statement     is incorrect   and should be
See comment 8.   deleted.   As noted previously,      appropriate    data were utilized and
                 reflected   in NASA's analyses.
                 In the second paragraph,            the conditions          used in the baseline         case
                 were,  in fact,       the conditions          existent      at the time the proposal
                 was received.         A wide variety         of other cases were compared, some
                 at the request         of Congressional           staff     members.     NASA's reports
                 stated emphatically           that (a) the actual             cost of financing       would
                 be greater        for   private      financing,          (b) the net present          value
                 analyses,      for all      cases, resulted             in differentials       that were
                 below     the    threshold        of significance             based upon      analytical
                 accuracy,     and (c) interest           rate variation          risk was accommodated
                 in the budgeting.
                 m           FINANCING PLAN FOR -EXTENDED                   DURATION ORBITER PALLET
See comment 9.   GAO reports     that  all  seven projects       were reinstated                     in the
                 budget.    The ED0 project      was not reinstated,        and a               successful
                 commercial    agreement   was negotiated.          The report                   should    be
                 updated to reflect    that this agreement has since been                         completed
                 (see also pages 15 and 21).           NASA’s     pricing     policy                for the
                 extended duration    of orbiter    was established       in May,               1990.

                                                                                                 Enclosure




                       Page29                                                       GAO/NSL4JMO-147SpaceProjecta
               Appendix I
               Commenta From NASA




               The following are    GAO’S   comments on   NASA'S   letter dated June 28, 1990.


GAO Comments   projects, considering that they were mostly carried out after the projects
               were removed from the budget request. Had the projects been screened
               in advance, most of them would probably not have been selected as pri-
               vate financing candidates.

               2. NASA is correct. To what extent, if any, these projects would have been
               funded in fiscal year 1990 cannot be known. However, in its fiscal year
               1990 budget request, NASA generally presented these projects as being
               worthy of funding and indicated that it would attempt to commercialize
               them as part of its efforts to provide opportunities for private invest-
               ment in space infrastructure. But, by prematurely deleting them from
               the budget request before their viability as commercial projects was ade-
               quately understood and reasonably established, NASA was-in effect-
               gambling that private investors could be found. NASA lost that gamble on
               these four projects. On the other hand, if the projects had been properly
               screened for commercialization potential and, as a result, had remained
               in the budget, the Congress would have been able to consider them along
               with all of NASA’S other funding needs in judging the size, content, and
               pace of NASA’S 1990 activities.

               3. After considering NASA’S comment, we have deleted reference in the
               report to the weightlessness laboratory’s being too far into development.
               In the case of the processing facility, three firms indicated interest in
               shared use if it could be modified to accommodate their needs. One firm
               said that 100,000 to 150,000 additional square feet might be needed to
               enhance joint commercial and government use of the facility. The classi-
               fication of “too far into development” relates to the costs associated
               with redesigning the already partly designed, smaller facility.

                4. Cur report recognizes that NASA'S analysis included sensitivity testing
                on a wide range of private interest and government discount rates.
                NASA's analysis showed that the cost of private financing would be about
                $16 million more than government financing in present value dollars
                and noted that interest costs would increase about $15 million in undis-
                counted dollars for every 1 percent increase in the interest rate. But
                NASA's final analysis did not highlight the present value impact of these
                potential interest rate changes- specifically, that a private interest rate
                increase of 1 percent, applied over the life of the loan, would cost the



                Page 30                                              GAO/NSLcUHO-147SpaceRojecta
Appendix I
Comments From NASA




government $27 million more for private financing, with all other fac-
tors constant. We believe such an analysis would have put the govern-
ment’s interest rate risk in a more appropriate perspective. The
government’s potential exposure to periodically redetermined interest
rates was significant. It should have been more directly and thoroughly
addressed in NASA'S analysis, since it helps illustrate the impact of that
exposure and the effect of potential private investors’ shifting risk nor-
mally assumed by them to the government. Also, it is not an inconsider-
able amount of money.

5. We revised and expanded the description of the extended duration
orbiter pallet.

6. We included   NASA'S   comment in the report.

7. We have revised the report to incorporate NASA’Scomment that the
net present value difference was not significant because it was well
below the threshold of accuracy, given the data and methodology. NASA'S
concern about the estimating error is precisely why sensitivity testing is
so important. It helps to illustrate our point about the importance of
presenting the results of such testing in ways that clearly provide a
measure of the potential effects if basic assumptions about interest rates
fail to hold, as discussed in comment 4.

NASAstated that continued use of the current motors is expected to be
more costly than using the advanced motors and that stretching out the
transition to the advanced motors would increase total shuttle program
costs. We included this statement in the report. NASA suggested that the
fifth paragraph of this section of the report should note that NASA’S pre-
sent value analysis contained a wide range of assumptions about
interest rates. The referenced paragraph was already clear in that
regard.

 8. We continue to believe that the statement in our report is correct. The
 basic issue is how data were presented in NASA'S report. NASA should
 have recognized the inappropriate relationship between the private and
 government interest rates and should have more clearly identified and
 discussed the additional interest rate risk and potential additional cost
 of the private financing option.

 9. We have included the more current information in the report.




 Page 31
Appendix II

CommentsFrom OMB


Note: GAO comments
supplementing those in the
report text appear at the
end of this appendix.                                    EXECUTIVE     OFFICE OF THE PRESIDENT
                                                            OFFICE   OF MANAGEMENT       AND BUOGET
                                                                      WASHUGTON.   O.C. 20503




                             Mr. Frank Conahan
                             Director
                             Federal Management Issues
                             U.S. General Accounting   Office
                             Washington,  D.C.  20548
                             Dear Mr.        Conahan:
                                      Thank you for the         opportunity            to comment on the draft            GAO
                             Report     entitled,  me           Proi.gpts. .       -
                                                                                          . The
                             Administration      is strongly      committed to encouraging     the
                             commercial      use of space through a wide range of activities.         The
                             GAO has chosen to review          one commercial    space issue that we deem
                             very important,       i.e.,  private    sector participation    in space
                             infrastructure.
                                    I would like to make three general  observations                            on the
                             Report,   as well as several  specific comments.
                                      1.     ~~oftheng                                                     Prooosals      for

                             Policies     and programs to encourage the commercial           use of space is
                             relatively      new.   Consequently,      some failures   can and should be
                             expected.       Even though six of the seven projects          proposed for
                             private    financing    were not successful,        it is important   to note
                             that a number of important           successes have been achieved       in other
                             areas of commercial       space policy.
                                      0       Federal    agencies are now procuring                   launch   services
                                              provided    by the private sector.
                                      0       NASA is    in the process of procuring commercial                        services
                                              for   a payload module for the Space Shuttle.
                                      0       NASA has signed         agreements         to make the       Shuttle     External
                                              Tanks available         to private         interests.
                                      0       The Centers for the Commercial Development of Space
                                              have made great progress        in attracting    private  sector
                                              participation     in developing    projects   with potential
                                              commercial    applications.
                                      The Administration      believes    very strongly      in the importance
                             of developing      a commercial       space industry     through these and other
                             initiatives.       The National       Space Council    is planning    a review of
                             Federal commercial          space policy   with the aim of building        upon the
                             Nation's     successes and learning        the lessons      from unsuccessful
                             ventures.




                                          Page32
                        AppendixLI
                        commente From OMB




                        2.       me   Kev to Private         Particiggtion          in SDace
                                                                          &l for Alternative                use, and
                       Gove-St                 Develop EffGtive            Strateaies         to Evaluate         and
                                                                          . The actions             taken by NASA
                 and OMB were part of an overall                  strategy     to assess the potential
                 for alternative         use of the projects            and the feasibility               of
                 private    financing.        This strategy          consisted        of:     first,      obtaining
                 expressions       of interest:        and second, if such expressions                      were
                 received,     to proceed with a solicitation                   for financing            proposals.
                 Federal funding         for the seven projects              was withheld            from the
                 budget in order to demonstrate                 the Administration's                commitment to
                 pursue private        financing,        and to encourage private                 firms to
                 commit the time and effort                necessary      to develop serious
                 proposals.        The draft       report    raises criticisms             of, and makes
                 specific     recommendation          on, certain       w              of this strategy.
                 However, the report           fails     to address the efficacy                of the overall
                 strategy.       For example, the draft              report     recommends that funding
                 for future      candidate       projects      be retained        in the budget, without
                 addressing      the possible         negative      implications          for private         firms
                 that might otherwise            have an interest           in participation.               We
                 believe    that the final           report    should address the overall
                 strategy,      and, we would welcome any suggestions                        for making it
                 more effective.
                         3.     -al            %Lpose . of the.     Seven
                                                                     *        ProDosals was tg
                                  ate Sector Particwon              in the SDace Prosram. Not
                                    Federal Bud& . The draft              report    may leave the
                 impression    that these projects       may have been proposed            for private
                 financing    only as a way of reducing         the budget.          These proposals
                 were not proposed as budget savers.              In fact,       the FY 1990 budget
                 proposals    contained     in the February 8th "Building             a Better
                 American   included     a 22 percent    increase        for NASA. Had the seven
                 proposals    been included       in the budget,       the increase     would have
                 been only slightly       higher.
                         The primary     objective    of the proposals    was to achieve
                 increased       private  sector participation     in the planning,
                 management, financing           and operation  of national   space
                 infrastructure.


                        The GAO review is most thorough.                     However,      we wish     to point
                 out   several problems with the report.
                         0        The fundamental      conclusion      of the report      is that none
See comment 1,                    of these projects       were successfully         commercialized.
                                  This is not true.        Private     financing     of the Extended
                                  Duration    Orbiter   Cryogenic      Pallet     was successfully
                                  concluded,    and a viable       proposal     for the Observational
                                  Instruments     Laboratory     (at the Jet Propulsion
                                  Laboratory)     was received.        However, Congress would not
                                  grant permission      for this project          to proceed.




                             Page33                                                       GAO/NSIAD90-147SpaceProjects
                           Appendix II
                           CommentaFromOMR




                       0      The report    notes that *'over half of the projects             were
                              believed   to be too far along in development             to modify
See comment 2.                them for commercial        use without     added expense and
                              delay".    Yet, all of these projects          were proposed in
                              the FY 1990 budget which, by definition,             means that
                              they were in the preliminary           stages of definition
                              and/or development.         The Report does not resolve          these
                              seemingly    contradictory     statements.      In fact,    NASA made
                              every effort     to insure that commercial         considerations
                              could be taken into account in a timely             way.
                       0      There is also an implied             conclusion      that these projects
See comment 3.                were somehow adversely            affected     by proposals       to seek
                              private     financing,       and if private       financing     had not
                              been sought,        the projects      would have been funded and
                              would have proceeded "on schedule".                    We point out that
                              the projects       were selected        with full      consideration     of
                              the schedule        implications.         Moreover,     Congress had not
                              funded two of the projects              in previous       budgets,   and
                              even when provided           with an opportunity          to do so in FY
                              1990, Congress did not fund the two Space Station
                              facilities.
                       0      The report      concludes   that private        investment    was not
                              forthcoming      because the private         sector perceived      few or
See comment 4.                no commercial       markets for them.         This conclusion      is
                              overstated.       NASA received     many expressions         of interest
                              in the two Space Station         facilities,        and received
                              specific     proposals    on five of the seven projects.
                              Unfortunately,        in most cases, the proposals           were not
                              economically      viable   because of the unwillingness            of the
                              private     sector to accept an appropriate             level of risk.
                        We believe     that the GAO report          represents     a useful    review of
                 the proposals      to seek private        financing      for space infrastructure,
                 especially     considering     how few the precedents            and how many the
                 permutations      of financing       arrangements.        We expect that there
                 will   be continued      Administration       and Congressional        interest     in
                 space commercialization          where it is feasible,           and we look forward
                 to receiving      GAO's final      recommendations         in that regard.




                                                                        iate Dire&or        for
                                                                          Resolhrces,       Energy
                                                                    and Science       )




                           Page 34
               Appendix II
               Commenta From OMB




               The following are GAO'S comments on the OMB letter dated June 29, 1990.


               1. There is no such “fundamental conclusion” in the report. The report
GAO Comments   clearly recognizes that NASA has successfully commercialized the
               extended duration orbiter cryogenic pallet. Private financing for the
               observational instruments processing laboratory was rejected because
               NASA officials decided that the facility would not be amenable to shared
               use. Also, bringing a private investor aboard after preliminary engi-
               neering had been completed could have delayed construction and
               increased costs in order to adapt the design to accommodate commercial
               uses. Furthermore, private financing would have been about 10 percent
               more costly than government financing.

               2. OMB is correct in pointing out that all the projects were in some stage
               of development; however, that fact does not contradict the classification
               of some of them as being “too far along in development.” That classifi-
               cation refers to those projects where significant design costs had
               already been incurred, and modifications to adapt them to commercial
               uses would have meant possibly incurring redesign costs and, perhaps,
               schedule delays also. For example, a potential private developer of the
               space station payload processing facility suggested possibly increasing
               the total square footage of the facility by more than 20 percent in order
               to accommodate potential commercial users.

               3. To what extent, if any, these projects would have been funded in
               fiscal year 1990 cannot be known. However, had they remained in the
               budget request, the Congress would have been able to consider them
               along with all of NASA'S other funding needs in judging the size, content,
               and pace of NASA'S I990 activities.

               4. Our report clearly recognizes the extent to which private investors
               expressed interest in the projects. However, the financing proposals
               were almost exclusively limited to lending the government money. The
               potential private investors were generally not interested in an owner-
               ship interest because, in part, they perceived insufficient or no commer-
               cial markets for the projects. If they had, they would have been more
               likely to have developed proposals indicating a willingness to accept an
               “appropriate level of risk.”




               Page 36                                         GAO/NSIADg@147   Space Projects
Appendix III

Major Contributors to This Report


                         Frank Degnan, Assistant Director
National Security and    Charles W. Perdue, Economist
International Affairs
Division,
Washington, D.C.

                         James D. Berry, Evaluator-in-Charge
Dallas Regional Office   VijayJ Bmabas
                                     SiteSenior
                                          7
                         Susan J. Yancey, Evaluator




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