Even though Secretary Gates has made it clear that he wants to protect his budgets for defense “investment” (procurement and research and development) the industry is already beginning to shiver at the prospect of defense reductions. Lockheed Martin (LMT) has offered a buy-out to around 600 senior personnel; Northrop Grumman (NOC) wants to put its shipbuilding assets on the market and there are rumors Boeing (BA) wants to make an offer for all of Northrop Grumman, which would create the largest defense company in the world.
The industry has had happy days for the past decade. Procurement funding has gone from $62.6 billion in FY 2001 to $129.7 billion, growth of 107% in current dollars and a whopping 74% in constant dollars, while DOD’s research and development funds have gone from $41.6 billion to 80.3 billion (93% current dollars and nearly 61% in constant dollars). This $210 billion market has been enormous for defense industrial and technology suppliers, as their share prices and revenues have soared.
But the warning signs are there. Secretary Gates has garnered kudos for terminating systems like the C-17 and the F-22, the Army’s Future Combat System vehicle, and the President’s new helicopter, and claims to have reaped more than $330 billion in budget savings by doing so. The claim is a bit bogus. The C-17 and the F-22 were never in the services’ long-range budget plans, so the Secretary gets credit for sticking to the plan, but not for savings from his planned budget. And the vehicle and helicopter were both replaced by new research and development projects to fill the requirement, so those savings should be netted out against the new additional costs.
That said, the industry is planning ahead, realizing that support for high defense budgets is waning and deficit/debt control is rising on the political agenda. Next year will be a crucial test year for that transition, and the industry rightly wants to get ahead of the curve. I commented on this for Marketplace last week.