Defense Mergers, Buyouts Loom

Defense Mergers, Buyouts Loom

This week may come to be seen as the beginning of a new wave of consolidation and cost-cutting in the defense industry, one whose effects may be felt for decades.

Lockheed Martin announced the coming departure of some 600 executives, 25 percent of its leadership team. And rumors surfaced that Boeing might buy Northrop Grumman.

The last major wave of mergers was set off by a now legendary event known as the defense “last supper.” This is how Lockheed’s former CEO and chairman of the board Norm Augustine described it in a piece he wrote in 2006 for Defense News:


“The invitation received by about 15 defense industry chief executives in 1993 to drop by the Pentagon for dinner was signed by Defense Secretary Les Aspin. It was, as the saying goes, an invitation one simply couldn’t refuse. The events that took place that evening forever changed the character of the U.S. defense industry.”

Deputy Defense Secretary Bill Perry made a grim presentation to the CEOs. What resulted? As Augustine put it: “General Electric Aerospace merged with Martin Marietta, which combined with Lockheed. McDonnell Douglas joined Boeing. Grumman joined Northrop. When the dust had cleared, there were only a few firms left standing.” Augustine believes that consolidation was the only way to reduce overhead and maintain a healthy industrial base, though he regrets the huge numbers of people who were let go.

The Boeing-Northrop rumor surfaced at a conference on defense companies put on by Reuters. As my colleague Andrea Shalal-Esa reported, the head of Boeing’s defense business, Dennis Muilenburg, said he was “not going to rule out or rule in any options.” He said defense budget pressures do, “at times lead to potential consolidation.”

Northrop Grumman was offered by some at the conference as a likely target for Boeing, especially given its substantial amount of work on the Joint Strike Fighter program, which Boeing lost out on. But Northrop CEO Wes Bush told the Reuters event he “would not forecast on the near-term horizon any large-scale activities.”

Today, enter Loren Thompson, the defense consultant and analyst at the Lexington Institute. Loren speculates about the possible course of a Boeing-Northrop merger, and maybe of a Boeing-BAE merger.

BAE would “saddle the Chicago-based company with numerous activities unrelated to its current product lines. Northrop, on the other hand, would be a much cleaner fit — especially once it dispenses with its under-performing shipbuilding business, as management currently plans.”

Before we go any further, a finance expert who closely follows such issues told me this morning that any Boeing-Northrop blending was unlikely. While the Pentagon might not try to stop it, it would, as Thompson notes, “inevitably would raise antitrust concerns. For instance, federal regulators would be unlikely to approve a combination of the two companies’ space operations without major divestitures that undermine the business logic of the transaction.”

Instead of a merger, Thompson writes that breaking Northrop into salable pieces would probably yield higher prices and “make it easier to minimize antitrust objections.”

Boeing, which has not fared well in its defense businesses recently, could gain substantially by buying Northrop because of the F-35. “Its aerospace unit is the principal teammate to prime contractor Lockheed Martin on the airframe, with lead responsibility for the center fuselage and weapons bay. Its electronics unit builds the plane’s radar and in partnership with Lockheed is building the plane’s electro-optical sensors. Its information unit provides the software and systems engineering for the F-35 mission planning system. And the array of technical services Northrop Grumman provides for the joint fighter is worth many billions of dollars just in the next decade, not to mention when the plane is fully fielded,” Thompson writes.

But Boeing has not shown an ability to manage its defense side with much aplomb, or profits. If it has had so much trouble digesting McDonnell-Douglas why would it do much better at digesting another large defense enterprise? Still, this week’s action by Lockheed and the merger discussions make it clear defense industry change is afoot. A reminder: Ash Carter, current undersecretary of defense for acquisition, technology and logistics, attended the “last supper” so he is keenly aware of the circumstances then and now. And we have not yet heard talk about a Pentagon eager to see consolidation.

Join the Conversation

Good Afternoon Folks,

Where is the news here. Boeing is in trouble and has been for a couple of years now, the Army Future Combat programs were its last hope of making defense work for Boeing.

As for NG. it’s an economic basket case. Its pure fantasy that there is any thing that can be sold off with NG, all that’s left is an asset sale.

L/M most likely even if it gets the F-35 will still have to close out some of it business units. The yearly buys of the F-35 in the early years of the contract are simply to small for L/M to make a profit that will satisfy equity.

The market problem is that all these companies are aging, have to much debt, to much overhead, expanded and merged to much in the 90’s and the early part of the last decade. With the draw down in real dollar defense spent and a single customer that is demanding lower prices, and value for the products it buys the defense business model has simply fallen apart.

Any accountant who didn’t want to keep his/her job ten years ago could have predicted this happening.

The industry has really two options either let the companies break up and let newer small enterprises emerge that are not burdened with the debt and overhead that the industry now has or for the US Government to do a GM on the industry. With the exception of SAIC the top defense companies can not make it in their present form.

ALLONS,

Byron Skinner

I think Dr. Thompson has it right: Northrop would be a better fit for Boeing if it divests its shipbuilding. However, that’s easier said than done, particularly with Navy shipbuilding being held hostage to the annual budget process and major (i.e., ginormous) cuts looming. What (qualified) bidder would pay a premium for it?

That was an interesting time, I started out working for General Electric, worked briefly for Martin Marietta, and then found myself working for Lockheed. All without moving my desk, phone number, boss, duties, etc. My badge had two layers of stickers on it — that told me who I worked for at the time.
While I did appreciate the GE management and “delayering” — when the defense budget goes up a lot of managers get deputies, etc. Most of those people are good guys but someone else got the manager slot and the company wants to keep them both.
If extra managers, people who do administrivia, TQM/ISO 9000/slogan of the month people go — the company will be healthier. If technical experts go — we are in trouble! Most companies have a small number of experienced hardware designers, software testers, quality control experts, etc that they should pay well and retain.
That said — my opinion is that we do NOT have too many companies. Further mergers in defense, space, etc are not needed. Sec Gates is right in saying that both contractors and government have gotten top heavy, but the people that need to go are the PowerPoint Rangers not the people that can build quality hardware.

Don’t think they’ll be a huge wave of mergers this time. Even without budget cuts/contractions most of the large contractors have already consolidated to the point that they require 10’s of billions in sales growth just to keep the doors open let alone make a profit. Acquiring a peer competitor in an era of steady/declining defense spending would only exacerbate that problem.

Our eggs-to-baskets ratio is already very high, what good would come from having fewer prime contractors?

If these prime contractors can’t make it on their own without dependency on the US taxpayer, why should we want them as prime contractors?

Right on Charles. I’m afraid these so called mergers and cutbacks could have a profound impact on the industry and the USG would have trouble bringing back what was lost. I agree we do not have too many companies and what we have is still less than what we should have in order to create innovation and competition. You always should be carefull what you ask for.

It sounds like we’re on the path to a North American version of EADS?

I don’t know how anybody could think we have too many companies? Lets look at aviation for example? We are pretty much down to Lockheed, Northrop, and Boeing. Besides for these three McDonnell Douglas, North American/Rockwell, Grumman, Vought, Convair, Hughes, General Dynamics aerospace division, and Fairchild-Republic used to be in the military aviation business.

Imam Obama cotinues his jihad to crush america’s defenses through elimination of our cutting edge aerospace concerns.

Bills is not too sure how a market economy works, but rather then allow further mergers the government should be breaking up the companies.

That would also aid in the downsizing. The industry is approximately 5 times too big. And there is an urgent need to reduce the huge drag it creates on US competitiveness. The defense industry always matches the economy in the end the day, the only question is how small we will allow it to help shrink the economy.

Since there isn’t the political will to fix things, breaking up the big contractors and allowing the smaller pieces to go bust is a better solution and infinitely preferable to the past practice where larger and larger firms concentrate political power and hang on against the best interests of Americans.

The industry is 5 times too big? Do you just invent this BS figures Oblat? The industry is clearly not too big. And your “solution” is idiotic as all it would accomplish is destroying our military technological and industrial base.

Of course that is what somebody who clearly doesn’t represent the best interest of Americans would want.

Oblat — read the crap you are typing, it makes no sense at all.

Its almost comical — 25% of Lockheed executives are bailing, but down in PR Bill is still pushing the old we need to expand line.

Would this be another reason Northrup is looking for a buyer or just dumping the shipyard business? As if they need another reason to get rid of that mon ey pit.

Talk about rumors taking off…Muilenburg’s answer was the only he could give and this leads to rampant speculation unsupported by ANY demonstrable facts. Suggest looking at cash on hand…

Good Morning Folks,

Other then personal attacks on commentators the right really hasn’t anything to say here. In todays WSJ there was an article on Boeing and how they are attempting to “cherry pick” business units of Northrop Grumman. It is rather doubtful that the US government or the courts will let this happen.

As usual with corporate logic if you merge two losing units together, the economy of scale will make them work, as we have seen with GM and Chrysler this is economic nonsense.

Oddly there has been no mention of Lockheed Martin and the lay offs in the financial press. There was a story on Thursday about BAE laying off 740 in the UK in anticipation of the October defense cuts by the Ministry of Defense but nothing about Lockheed martin.

As I said months ago it doesn’t take an financial expert to look at the balance sheets of the top ten defense contractors to see that there is going to be a severe reduction with in the ranks. Oblat’s prediction, although unsupported, may not be to far off the mark.

One only has to consider “Blackwater” just a couple of years ago the were king of the hill, now they are trying to do business in Saudi Arabia or some other country in the region with put up with there business model.

Who will win and who will lose will most likely be determined by what the DoD considers critical defense technologies and which are either not yet ready for an operational system or platform and let private companies take the risk in development if the like and those that have matured and can be procured overseas by lower price providers.

ALLONS,

Byron Skinner

PReece should learn how to spell NorthrOp

Any rumors about BAE?

Jack Northrop is turning in his grave, again.

This all harkens back to the day when Stuart Symington forced consolidation on the defense industrial base and Northrop refused to play ball. As a result, the YB-49 was scrapped, cutting-edge technology was lost, and the military industrial base became no more economical than before with the newly merged companies such as Convair, etc.

The issue at hand is and has always been the DoD acquisitions process redundancies and bureacracy.

Your pretty much dead on — If everyone one keeps merging then pretty soon prices will go up on everything because it will all be single source and propriatary on just about everything due to a lack of competition. I’ve already seen this as smaller companies with govt contracts got bought up by larger companies they original lost the contract to. As far as ISO you can forget it, no one will get a govt contract without being at least ISO compliant. But in truth if they run the program right it only takes two personnel to manage it in house, QA is supposed to enforce all specifications and statutory and regulatory compliance as an arm of management and audit processes and ISO is the QA’s QA auditing them and management, most companies just havent gotten that far yet. But six sigma is definately a major waste of manhours and money, if ISo is properly ran then six sig is not needed. Most companies I have audited are weak on ISO, QA & QC operations because they are too into the word of the day and it hurts them in production and costs.

First wave of consolidation in the 90s produced was a rush to bigness and ended when regulators brought the party to a crashing halt (Lockheed Martin blocked from buying Northrop Grumman). The industry might tolerate one more mega-deal (Boeing/NG makes sense—WITH divestitures) but the new push will be maximizing profits by selling underperforming businesses (like NG Shipbuilding). This era of “too big to fail” and OCI squeamishness will bring the “safe” deal to the fore. More Michael Strianese than Bernie Schwartz. But deals will be done. The price is right, if you’re a buyer. The time to get out is right, if you’re a seller. It adds up to a good year—and great sailing weather for PE houses.

I believe that the odds are higher for second tier contractor buyouts and consolidation.

Time to reconsider Military spending. the economy is in shambles. putting money in military contractors pockets dont solve americas problems. especially defense military contractors that steal and rip off the government and americas tax payers. military spending is way to much. america all ready has enough equipment and nuclear weapons to kill the world (3) times over.

I say fire them all. indict military contractors found guilty of fraud. remember what former PESIDENT DWIGHT ELSENHOWER SAID bewere of the Military Industrial complex. they have screw the Federal Government and the tax payers way to long. their time has come.

Gates neeeds to fire about 250 of his 950 generals and admirals, today. All of them are nothing but puppets and poodles for the contractors.

Opine

Lived thru most of the above. Norm A. was a LM Icon in those days.

Mergers, Flat Budgets, CEO and below layoffs, all signs of the OBNA times. Code Pink folks appaluad all this activity.

CAUTION. Iran continues to build, China continues to develop, Russia quietly expands. While the Real World of change is expanding thier real forces, we play ostrich, deliberate or not, the blinders of reality are on.

end

Semper Fi

“…but the people that need to go are the PowerPoint Rangers not the people that can build quality hardware.”

LOL, one of the best I’ve read in a long time. Very well put!

Business should merge when they think it is time. Not because some politician has a “business view” of some sort.

Gimme a sec, I am making a slide show with transitions to refute your dismissal of Power Point Rangers!

Program Manager, DoD!

Uh…Cliff…Don’t know where you’ve been the past few weeks, but SecDef Gates announced he is doing exactly that, along with killing, or recommending killing, programs that are so cherished, evidently by people like you. I don’t have a dog in this fight. I’m former military, and my son is a computer engineer who turned down (a) perks and bennies of working for the Feds, and (b) works for an aerospace engineering firm as a project manager on civilian aircraft.

Amen!!!

Concur on that

Bottom Line is: the gravy train is over. DoD contracts have provided a lush living for companies claiming to make the nation stronger, but, in fact, have lined their pockets at the soldiers’ expense. The list of DoD financed R7D projects is endless, including that Osprey thing. Whatever this junk has, isn’t worth it, and here we are in a war of attrition aginst Islam, which can beat us with a few light infantry weapons, pick up trucks and motor bikes, whil e we spend $3 million for every helicopter we send out to chase them around, and, LOSE. The military needs to get back to basics, not “force multipliers” we can’t aford and, basically, don’t work as advertised.

There seem to be some cool, logical heads here, but the “get rid of all the contractors” idea has to go. Where is the technological knowledge and manufacturing base? Fighting the war has diverted dollars from key research havens (e.g., NRL, AFRL), and some organizations that were bastions of knowledge in the past have turned into program manager shops (at best). If we want to ensure that our armed forces are the strongest/fastest/most effective and we want to get as many of our servicemen safely home as possible, then we need to turn our focus back to R&D. Make government responsible and accountable for executing the mission effectively and efficiently — no more, no less — and let a strong industrial base provide the appropriate support.

Funny at first glance, but second thoughts has me regretting upvoting.

I heard a rumor today that Boeing and BAE were closer to a merger. Has anyone else heard the same?

Thanks

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