As civil aerospace rebounds, defence cuts loom

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Defence contractors are bracing for flat-to-lower growth in stark contrast to an upswing in civil demand seen at the Paris Air Show this week.

Global budgets are shrinking under fiscal pressures and the world’s largest weapons buyer, the US Pentagon, has promised that defence won’t be immune from budget cuts.
“Declining budgets are looming so I think a lot of investors shy away from these defence names,” Alex Hamilton, managing director of EarlyBirdCapital, a boutique firm, told Reuters at the air show.
“The winners in that space are really going to be the ones that can re-invest that capital now to get accretive returns,” he added.

While arms suppliers will still compete heavily for the few big-ticket weapons programs that will come, executives said their companies are now pushing into related markets and scoping out international opportunities for their products.
“We’re not just going to be able to sit, protect and compete in the markets we traditionally competed in,” said Jim Pitts, president of the electronics systems division at Northrop Grumman Corp, which spun off its shipmaking operations earlier this year.
“We’re going to have to move into market adjacencies and start to put some pressure on our competitors and create new market share for us that otherwise wasn’t there,” he added.

Austerity is not a condition most defence contractors have recently been accustomed to.

US arms suppliers built up their bottom lines and balance sheets on the heels of steady budget increases in the years after the September 11, 2001, attacks as government defence spending ramped up.
“We’ve enjoyed 8 years of for us a market that’s grown an average of 8 percent,” said Clay Jones, chief executive of Rockwell Collins, which supplies avionics for commercial and military planes. “Going from that to no growth is not going to be without some concern.”

In preparation for tougher budgets, defence contractors have shed non-core units, reduced staff and cut out discretionary travel. Many US defence CEOs, for example, sat out this year’s Paris Air Show.

And defence executives who did attend could not rule out more cuts.
“We will continue to look at costs in terms of staffing, do we have the right level of staffing consistent with our business projections,” Ralph Heath, president of Lockheed’s aeronautics unit, said in an interview. Lockheed’s space systems division announced plans to trim 1 200 jobs, or about 7.5 percent of its workforce, last week.

Contractors are hoping that international sales might help cushion the blow from any cuts.
“There is a recapitalising going on worldwide,” said Chris Chadwick, president of Boeing’s military aircraft business. He cited rising international demand for Boeing’s Chinook helicopters and F/A-18 Super Hornet fighter jet and P-8 maritime aircraft.



Still, Jones said defence companies would likely be better able to weather a spending slump than commercial firms. He said during the commercial aerospace downturn in 2008/2009, his company cut jobs, froze salaries and eliminated bonuses. He called expectations of flat to no-growth defence budgets a “piece of cake” by comparison.
“I can manage flat,” Jones said. “It’s down 20 percent that’s more difficult to manage.”