Loral agrees to buy Federal Systems Co.

December 14, 1993|By Ted Shelsby | Ted Shelsby,Staff Writer

Loral Corp. announced yesterday that it has signed a definitive agreement to acquire the Bethesda-based Federal Systems Co. division of International Business Machines Corp. for $1.575 billion.

The announcement ends nearly nine months of speculation over the future of the computer company's Bethesda-based defense arm, but leaves 11,000 workers, including about 3,500 in Montgomery County, wondering about their future.

The proposed acquisition also set off warning lights at Wall Street credit rating groups and had the head of the Federal Aviation Administration (FAA) questioning how it might affect IBM's already troubled program to upgrade the nation's air traffic control system.

Loral said it expects to close on the acquisition in the first quarter of the new year, subject to government regulatory approval. The company said it would finance the cash purchase with loans arranged by a syndicate of banks headed by New York-based Chemical Bank.

Loral, headquartered in New York, designs and manufactures defense electronic systems, including radar, detection and warning systems for use on aircraft and ships, training simulators and computer software.

Loral posted operating income of $178 million from sales of $3.3 billion during the fiscal year ended March 31. When the purchase is completed, Loral expects revenue to jump to nearly $6 billion, with nondefense work representing 25 percent of the total.

Federal Systems provides computer systems and software for a variety of federal programs including the F-15 fighter plane, space shuttles, satellites and anti-submarine warfare systems.

Bernard L. Schwartz, chairman and chief executive of Loral, said Federal Systems' operations and technologies fit well with Loral's, with little overlap.

"It's a very good business fit," Mr. Schwartz said. "We think there are some areas where the technology that we developed for the Defense Department can migrate into particular areas that have growth opportunities," he said.

The transaction is the largest asset sale by IBM since it sold its typewriter business in 1991.

The future of Federal Systems has been in question since early April, when Louis V. Gerstner Jr. took over the helm at the battered computer company. IBM posted a $5 billion loss in 1992, slashed its dividend and embarked on a drive to eliminate more than 50,000 jobs.

During the first nine months of this year it posted a deficit of $8.4 billion, after taking into account restructuring charges.

With earnings of $71 million from sales of $2.2 billion last year, Federal Systems was one of IBM's few bright spots, and there was speculation that Mr. Gerstner would sell the defense business and use the proceeds to help finance the extensive restructuring of the corporation.

Loral's $1.58 billion bid, termed "a pretty sizable price" by one analyst who follows the company, apparently was the result of a keen interest in the profitable Federal Systems from a number of other companies.

According to Bloomberg News Service, American Telephone & Telegraph Co. offered about $1.2 billion for the Bethesda company and there were other bids from Hughes Aircraft division of General Motors Corp. and Martin Marietta Corp.

Within hours of the announcement, both Standard & Poor's Corp. and Moody's Investors Service said they were placing the debt rating of Loral under review for possible downgrade.

Alfred J. Pastore, an analyst with Moody's, said the purchase would increase Loral's debt from about $500 million to about $2 billion.

"They would be highly leveraged," he said. "We would like to meet with them to determine how they plan to pay down the debt and how long it might take.

"They're paying quite a bit for the company," Mr. Pastore said, noting that the price would be about 10 times [Federal Systems] operating income this year" minus general administrative expenses and restructuring charges.

In a statement released yesterday, Loral offered no hint of how the acquisition might impact employees at Federal Systems, and company officials could not be reached for comment.

Mr. Pastore said the work force likely would be reduced and some components of the company may be sold off to help pay for the rest.

Looking back on a number of other Loral acquisitions, including that of Ford Aerospace and last year's $475 million purchase of LTV Corp.'s missile and aerospace divisions, Mr. Pastore said, "Loral is pretty good at taking over a company and weeding out what they don't want."

In a statement, Mr. Schwartz said: "We have no plans for major changes in its [Federal Systems] operations or management."

James N. Fingeroth, a Loral spokesman, said, the company "has no plans for a major work force reduction or consolidation. There are no plans to close any operations."

FAA Administrator David R. Hinson, citing his "great concern about new cost overruns," on an IBM Federal Systems program to upgrade the nation's air traffic control system, said he was ordering a "top-to-bottom review" of the contract.

The action would include meeting with officials of IBM to determine what impact its plan to sell Federal Systems might have on the air traffic control contract. Federal Systems was awarded the contract in 1988 for $3.6 billion. It is already about $1.2 billion over budget, according to Patrick Cariseo, an FAA spokesman.

A Loral spokesman said the review would not affect the deal.

Mr. Cariseo said it "was a coincidence" that the administrator's action came at the same time as the proposed sale.

Wall Street seemed to approve the Loral purchase. Its stock closed at $35, up $2.75.

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