CLEVELAND — Acting on a request from members of the House Oversight Committee, The Department of Defense’s Office of Inspector General announced plans this month to audit Cleveland-based spare parts provider TransDigm Group— looking at its business model impact on pricing.
Earlier this year, the Inspector General reviewed 113 contracts with TransDigm totaling $29.1 million. They involved 47 parts sold to the Defense Department between January 2015 and January 2017.
Of the 47 parts, only one of them produced a profit of less than 15 percent compared to cost to make. The remaining spare parts had profit margins ranging from 17 percent to over 4,000 percent, earning TransDigm $16.1 million in what they called "excess profits."
An issue for Congress and the DoD is how to handle the purchase of "sole source parts,” which are parts that basically only come from one manufacturer. Sole source parts are much harder to price because the normal market structure doesn’t exist. Absent competition, the price often rises to what the customer is willing to pay for the parts, many of which have been out of circulation or produced in limited quantities when needed.
The Inspector General said more than 75 percent of TransDigm’s net sales come from products of which they are the sole provider. Though they’re based in Cleveland, the company is made up of 54 independently run operating units with 134 manufacturing locations.
TransDigm’s President & CEO Kevin Stein took issue with the earlier findings, saying the cost to produce numbers were deflated and therefore the profits inflated because they didn’t take into account general and administrative costs such as taxes, interest, litigation, acquisitions and patent costs.
The company says they have around 3,000 engineers and spent $300 million in research and development over the last five years, which is not factored in the “should cost” price.
The traditional model they told Congress has products developed for the military and sold to the military at a low cost because the manufacturer will profit from the commercial sale of the product down the road. The replacement part model is different with very small production runs sometimes separated by months.
Rep. Alexandria Ocasio-Cortez (D-NY) questioned company leaders this spring about one of the highly inflated products in the report, an order for 149 non-vehicular clutch discs.
"It cost about $32 to make the part and TransDigm charged us $1,443 for each of these three-inch discs," she said.
TransDigm told members that they are primarily a commercial provider and that only about seven percent of their business is with the DoD. Stein said their profits for what they sell commercially are actually higher than what they get from the government including, he pointed out, that $1,443 non-vehicular clutch disc that was singled out.
"It was sold to British Air for $2,400 and it currently sits on a SatAir price list, they're a commercial aftermarket distributor, for somewhere around $1000," Stein said.
In a statement to News 5 Cleveland, TransDigm said:
As detailed in the DoD IG’s audit, TransDigm did nothing in contravention of the federal acquisition laws and regulations with respect to its pricing. We value our business with the U.S. government and are committed to continuing to meet its needs for a consistently reliable supplier of highly specialized aviation parts and technical solutions.
TransDigm also has agreed to repay the government the $16 million in profits called into question in the earlier report.