AM General’s Winning Bid For The Joint Light Tactical Vehicle Makes No Sense. What’s Going On?

On February 9, the U.S. Army awarded AM General a ten-year contract to manufacture 20,000 Joint Light Tactical Vehicles and nearly 10,000 trailers. If all options are exercised, the contract could be worth over $8 billion—nearly 20 times AM General’s current annual revenues.

However, there is reason to suspect that all options will not be exercised, because AM General’s winning bid was so aggressive that it could be impossible to deliver the contracted vehicles without losing hundreds of millions of dollars.

AM General is not in a position to incur such losses. As Moody’s Investor Service observed in a January 19 credit opinion, “the company has limited capacity to absorb unanticipated operating or financial setbacks.” Moody’s assessed the company’s outlook to be negative, stating that its credit profile “reflects the company’s very high financial leverage and weak liquidity.”

S&P—formerly Standard & Poor’s—rendered a similar verdict on December 21, citing the company’s “highly leveraged financial risk profile.” Despite its weak condition, AM General bid so boldly for the vehicle contract that incumbent Oshkosh Defense (a contributor to my think tank) said it would have lost money bidding at that level—even though it has already produced 20,000 of the vehicles at well below the cost the Army anticipated.

Oshkosh is in much better financial shape than AM General. So what’s going on here?

I have my suspicions, which I will lay out later, but first let’s establish how improbable AM General’s bid was.

The February 9 award was a recompete of a contract first awarded to Oshkosh in 2015. The significance of that resides in the fact that AM General would be producing substantially the same vehicle that Oshkosh has been building for the last eight years. AM General did not have the latitude to offer a different design because the award is for a “build-to-print” product.

Oshkosh, a highly accomplished builder of diverse vehicles, had gradually refined its manufacturing processes in anticipation of the recompete, removing cost wherever that was feasible. So, when AM General, with no experience building the vehicle, bid a much lower price, it should have raised concerns in the Army’s source selection authority.

After all, Oshkosh has a warm production line, an experienced workforce, and an established supply chain. AM General has none of these things, and will need to build a new factory in which to assemble the vehicle. Moody’s reported in its January 19 note that AM General is already facing chronic supply-chain problems on the sole vehicle it builds.

Oshkosh Defense’s 7% operating margin is well below the defense-industry average, so that was not the reason its bid failed.

Nor was the way it does business. Most of the costs associated with building the Joint Light Tactical Vehicle lie in materials purchased from subcontractors. AM General would have to deal with many of the same suppliers, since it would be building substantially the same vehicle.

Labor costs are a negligible factor in costing the vehicle, representing roughly 5% of the total. Even if they were a factor, Oshkosh has a trained workforce that has been building the vehicle for the better part of a decade, whereas AM General has no workers who have built the vehicle and under the contract would have to hire and train hundreds of them to work in a new facility within 18 months.

Finding workers and negotiating with suppliers can certainly be accomplished over time, but the notion this can be done within the schedule and cost constraints to which AM General has committed sounds fanciful.

So again, what is going on here?

A possible explanation may reside in the fact that AM General is controlled by a private-equity owner, KPS Capital Partners LP. Private equity typically buys weak companies and restructures then to boost returns, often with an eye to selling them or taking them public at a valuation much higher than the original purchase price.

KPS is not a fly-by-night operation. It has been in the business for decades, concentrating on the acquisition of distressed industrial operations. At the end of 2022, it had about $15 billion in capital under management.

But private equity doesn’t generally view properties the way a long-term stakeholder would. As S&P commented about AM General on December 21, “the company’s highly leveraged financial risk profile points to corporate decision-making that prioritizes the interests of the controlling owners.”

Moody’s expressed concern about corporate governance: “Given AM General’s private equity ownership, the company is expected to exhibit higher tolerance toward financial risk and capital allocation that will favor shareholders over creditors over time. In addition, the board structure lacks independence with representation largely from its private equity owner.”

None of that necessarily explains why AM General submitted a very low bid to build combat vehicles. The board undoubtedly has ideas for executing the contract of which I am not aware.

So here is the acid test of whether AM General’s bid on the Joint Light Tactical Vehicle is for real, or something else is going on. If KPS sticks with its property, then it presumably expects the contract to be executed as planned.

If, on the other hand, KPS attempts to “flip” AM General to a new owner during the 18 months before production commences, then we will have reason to suspect something is up. With an $8 billion production contract in hand, the property will appear to be much more valuable than it previously was.

Major problems with the contract will only become apparent once it has to be executed. So if the award is not overturned—Oshkosh has a protest pending—we will have a window of time in which to assess whether management is sincere, or the Army has made a big mistake.

As noted above, Oshkosh contributes to my think tank. AM General’s previous private-equity owner was once a contributor.