Yes, they use Lightwave to model, texture, and set up their ships. The only game that uses .mod format is the SFC series. Not only do KA ships have a lot of textures (er, as if I have room to talk in that regard...), most models also have the damage built into them (basically the brk model and the regular model are one file). This makes it a bit tricky converting them to .mod format as some parts tend to duplicate/deform/etc.
It isn't the lightwave format that's the problem (I myself use it to make my ships), it's just that things are set up differently for KA.