Defense industry faces consolidation, transition Mergers also likely to continue

January 18, 1998|By Greg Schneider | Greg Schneider,SUN STAFF

"Settling out" is never a process that holds much excitement. It's something that happens in geology over millions of years, in middle age seemingly overnight, and in the defense industry it's on the plate for 1998.

The Big Three companies will twitch here and shave there and settle into shape. The lower tier of suppliers will go through a bit of consolidation. The odd unit or bloc of jobs will get "rationalized."

Nothing resembling the high drama of the last two or three years, when enormous companies shifted and merged like plates of the Earth's crust and whole segments of the industry were remade.

"I think it is time to digest," said Paul Nisbet, a defense industry analyst with JSA Research Inc.

Or as Byron Callan of Merrill Lynch summarized: "Consolidation, rationalization, transition."

That doesn't mean there won't be trends. Analysts and executives alike say to look for these:

A merger wavelet will sweep through mid-sized companies, the ones whose sales creep into the single-digit billions.

The international arena will become more important, as foreign government sales increase and overseas companies either team up with domestics or compete more fiercely.

Electronics, electronics, electronics. They're taking over the minds of the young and the revenue charts of the defense industry.

U.S. defense spending will hold steady. The $247.7 billion defense budget approved for fiscal 1998 included $2.6 billion added by Congress for purchasing weapons. Overall, analysts expect defense to grow by a modest 2 to 5 percent over the next five years or so.

At least the biggest companies -- Lockheed Martin Corp., Boeing Co. and Raytheon Corp. -- will work to beef up their business outside the realm of defense.

Based in Bethesda, Lockheed Martin is Maryland's pet behemoth. Its stake here only gets bigger during the first quarter of 1998 when -- according to plans, anyway -- it completes its acquisition of Northrop Grumman Corp.

The Northrop Grumman Electronic Sensors & Systems Division, in Linthicum, is widely touted as one of the primary reasons Lockheed Martin snapped up its former rival.

The new, combined company will have revenue of about $36 billion a year. Experts expect few layoffs from the deal and virtually none in Maryland -- where Lockheed Martin already employs about 5,600 and ESSD about 7,000.

"We're basically where we're going to be for a while," Lockheed Martin Chairman Norman R. Augustine said in a recent interview. "For us, the next step is nondefense."

Telecommunications, information technology and government services -- such as welfare and toll collection -- are areas Augustine and Chief Executive Officer Vance Coffman expect to grow in 1998.

"It would have not been high on my radar screen to have thought of Bill Gates as a competitor in the business world we dealt with a few years ago. And it is today," Coffman said.

The coming year will also complete a major management change for Lockheed Martin. Coffman replaced Augustine as chief executive in August, and Augustine will retire as chairman this year. Coffman will pick up that position, as well.

Of the two other defense giants, Boeing will continue to digest its acquisition of McDonnell Douglas and Raytheon will have to reconcile its swallowing of General Motors Corp.'s Hughes defense business and part of Texas Instruments Inc.

"There will be more layoffs in the case of Raytheon because of the overlap of activities between the firms that they've acquired. I think they could lay off maybe 10,000 people, over a period of two or three years," said analyst Nisbet.

Boeing has said that up to 12,000 jobs could vanish on its booming commercial aircraft side, but those losses are likely to take place through attrition and come as the company makes its assembly lines more efficient. Boeing expects to produce 550 aircraft next year, compared to about 335 this year.

Asia's economic troubles will not go unfelt by defense companies, but experts do not expect profound impact. Boeing still plans major commercial aircraft deliveries to China. Lockheed Martin is still working with Japan on a new fighter plane, though Raytheon may have to wait a year or more to see if it wins a billion-dollar air defense system contract in South Korea.

Lockheed Martin's Coffman said the crisis should leave defense companies relatively unharmed for two reasons. First, he said, U.S. defense companies -- and particularly Lockheed Martin -- don't do much production work in Asia and so won't see profits affected by currency problems. Second, Coffman believes the crisis will be short-lived.

"In terms of future orders I think it may have a delaying action," he said. But he added that corporate economists tell him "this is going to be a speed bump on the way to the next three to five years."

Asian sales make up only a fraction of Lockheed Martin's international sales, though global business now accounts for 20 percent of the company's revenue and should reach 30 percent in five years, Coffman said.

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