Defence firms look to joint ventures to boost exports and profits
Apr 9th 2016 | BARROW-IN-FURNESS AND STEVENAGE | From the print editionAstutes prepare to go out and down
INSIDE the Devonshire Dock Hall in Barrow-in-Furness, the mottled black fin of Britain’s latest nuclear-powered submarine is just discernible above a mass of scaffolding. Seven storeys high and about 100 metres long, HMS Audacious, the fourth in the Astute class of attack submarines, is expected to emerge from the shed for sea trials early next year.
At around £1 billion ($1.4 billion) apiece, these are among the most advanced weapons systems in the world, capable of firing cruise missiles and torpedoes out of their four silos. The subs are so stealthy, their makers claim, that one could pass five metres behind a diver underwater unnoticed. The secret is in the propulsion system, the only part of the boat entirely sheathed in tarpaulin to keep it from prying eyes.
The seventh, and last, such boat should be finished in around 2020. Then BAE Systems, the biggest defence contractor in Britain and the world’s third-largest, expects to move straight into producing the four new submarines that will carry Britain’s Trident missile nuclear deterrent. The government has set aside £41 billion to develop them: it will be, by some way, the country’s most expensive defence procurement ever, and one of its biggest construction programmes of any kind. Already BAE Systems has engineers looking at the successor to the Astute class.
Unsurprisingly, BAE is enjoying the continuity at Barrow, boosted by the government’s renewed pledge to keep defence spending at 2% of GDP. Not every British defence contractor is doing so well.
Rolls-Royce, which makes the reactors for the nuclear submarines, among many other things, has issued five profit warnings in 20 months. Defence still makes up a sixth of its business, down from one-half during the cold war, and Rolls blames its woes partly on falling demand for military-jet engines and other equipment. QinetiQ, a defence-aviation testing agency, is another firm that has suffered. It almost ran out of cash in 2010 when military spending began to drop. Defence budgets are beginning to recover now, but as its companies search for models to sustain them in the future, Britain’s aerospace and defence industry—with a turnover of £56 billion that makes it the world’s second-largest—is being reshaped.
At one end of the spectrum BAE Systems relies almost entirely on big orders from a few sources: America’s Department of Defence (DoD), by far the world’s largest defence spender with some $585 billion requested by the president for this year; Britain’s Ministry of Defence (MoD), the fifth-biggest spender; and several others, principally Saudi Arabia, with the third-largest budget. Over one-third of BAE’s buoyant group sales in 2015 came from its American subsidiary, which operates under a Special Security Agreement there and has privileged access to the market. The contract to supply Typhoon and Hawk aircraft to Saudi Arabia generated almost as much in sales for BAE as Britain’s MoD.
At the other end are companies such as MBDA, a quintessentially pan-European firm that makes missiles. MBDA was born of the merger in 1996 between a division of BAE and a French company, to which German and Italian outfits were later added. Headquartered in Stevenage, it builds missiles in the four countries of its constituent parts. MBDA argues that it achieves economies by concentrating different functions—research or testing, for example—at one or other of its sites. Because it lacks BAE’s special status in America it has failed to make headway in that notoriously closed market. This has forced it to be more nimble in others. With a product range that includes the Brimstone missile used by British forces against Islamic State, MBDA sells strongly in Europe. In 2015, for the first time, it won more orders elsewhere.
In between BAE Systems and MBDA lies unhappier territory. Rolls is neither a niche manufacturer like the missile-maker nor, as its managers admit, big enough to compete in military engines against larger rivals such as America’s GE and Pratt & Whitney. Rolls plans to increase all engine production by 50% over the next five years, but efforts to expand are burdening its balance-sheet and using up its cashflow. As the British government has retained a controlling “golden share” in BAE, Rolls and QinetiQ, it is hard for these firms to grow through outright mergers or to raise capital from investors. BAE’s state shareholder did approve its attempted merger in 2012 with EADS (a European conglomerate known today as Airbus) but the deal was scuppered by the German government.Holding hands
As the cost of weapons escalates—each new military-jet engine costs over $1 billion to develop—even the biggest defence firms are looking at forming alliances. Many will be determined case-by-case depending on the systems involved. Such deals would allow companies to gain scale by pooling resources with other firms, without straining financially or becoming dependent on one product.
The civil business of Rolls has said that it is looking for partners to develop an engine for narrow-bodied aircraft in the 2020s, and such a partnership could be a model for future military projects. BAE points out that its Typhoon fighter jet is a pan-European aircraft produced with Airbus and Finmeccanica of Italy. At an Anglo-French summit in March the governments pledged to spend a further £750m each on a drone project principally between BAE Systems and Dassault Aviation of France. MBDA’s success owes quite a lot to the Anglo-French defence treaty signed in 2010.
Such alliances might also help exports, increasingly Britain’s weakness. Francis Tusa, a defence expert, says that although British defence firms are now “very competitive on cost” compared with their American rivals, this does not help them much elsewhere. The exacting requirements of America’s DoD and Britain’s MoD force suppliers dependent on them to build only top-of-the range equipment that other countries cannot afford to buy.
BAE’s Type 26 frigate, for example, has so far failed to elicit firm global interest and could end up as a very expensive bespoke Royal Navy vessel. “Developing countries are being offered ships at half the price and they are much better than half as good,” says Mr Tusa. Defence firms in Germany and France now export more than British ones and to a wider spread of customers. But if British companies come to see their European counterparts more as partners than as rivals, that could change.
From the print edition: Britain