The uncertainty surrounding looming Pentagon budget cuts could trigger another round of defense-industry consolidation, said Christopher Kubasik, who will become the next chief executive of Lockheed Martin Corp., the world’s largest defense company by revenue.
The big U.S. and European contractors that dominate the defense sector are already wrestling with shrinking domestic business and targeting more sales to governments in Asia and the Middle East.
Now, large-scale mergers and acquisitions are also being considered to navigate what many executives are calling the “fog” surrounding the industry.
Consolidation “would absolutely be a scenario. It would not surprise me,” said Mr. Kubasik, Lockheed’s president, in an interview after last week’s announcement that he would step up to succeed Robert Stevens as CEO in January.
Lockheed, itself the product of several large deals in the 1990s, is also increasing its nonmilitary business, expanding in such areas as renewable energy and health-care management, which already generate more than $1 billion a year apiece in annual sales.
Lockheed’s profit fell 7% last year and has fallen in each of the last four years even as revenue reached $46.5 billion in 2011. The company’s stock, which has outperformed its peers and gained 12% this year, closed Tuesday at $90.55.
U.S. contractors have struggled to define the future size and shape of their businesses due to uncertainty over whether failure to reach a broader agreement on the federal budget will automatically trigger an additional $500 billion reduction in Pentagon spending under the so-called sequestration process.
“Sequestration will absolutely devastate the industry,” said Mr Kubasik, echoing comments by other contractors. While the impact so far has been limited, companies are starting contingency planning.
Lockheed is viewed as one of the most vulnerable to cuts because of its role in large projects such as the Joint Strike Fighter, or JSF. Last year the company said it would shed thousands of jobs amid the expected belt-tightening cuts.
“We think we have a couple of different scenarios on the shelf,” Mr. Kubasik said of Lockheed’s planning.
The company is already looking to boost the level of international sales from 17% last year to 20%, partly by retaining and expanding the existing roster of countries buying the JSF at a time when the U.S. is cutting its orders.
Mr Kubasik said Lockheed is well positioned to battle for more international business because of its broad product portfolio in high-tech weapons such as advanced fighter jets and electronic surveillance.
He cited Lockheed’s existing business relationships and links with overseas companies that typically partner in so-called offset deals. After winning a big JSF order from Japan earlier this year, the company’s focus has turned to a coming contest to supply fighter jets to South Korea.
The strike fighter was beset by cost overruns and design problems that the company believes it now has under control, helping to lift a cloud over its stock, which has outperformed U.S. peers with an increase of more than 12% since the end of 2011.
Lockheed is also looking to manage large-scale projects, and Mr Kubasik pointed to a role in emerging technologies, including ocean thermal energy in which electricity is generated from temperature differences in seawater.
“The key with these adjacent markets is to make sure they align with [our] core competency,” said Mr Kubasik, noting that a role developing large-scale solar plants reflected Lockheed’s expertise building solar-power systems for its satellite business.
“The key with these adjacent markets is to make sure they align with [your] core competency,” said Mr Kubasik, noting that a role developing large-scale solar plants reflected expertise building solar-power systems for its satellite business.
By Doug Cameron
May 1, 2012