INTERNATIONAL: EU defence firms vie for US contracts

Analysis

Thus far, the transatlantic defence market has been a one-way street, with major US penetration of the EU market unmatched in the opposite direction. There are several reasons for this:

• US market access for foreign companies is beset with hurdles connected with export licences and technology transfer regulations.
• US defence industrial assets, financial resources and military capabilities are so far ahead of all others that Washington does not need cooperation or arms imports. The main reason for even entertaining the idea is an ideological belief in the virtues of competition.
• The United States has developed a highly focused strategy for its defence industrial base, which Europe cannot match because of its fragmented political decision-making machinery.

Penetration strategies. Nevertheless, in recent years, there have been signs not only that the United States is prepared to consider market penetration by foreign companies, but also that those companies have begun to implement their strategies to increase their US market share:

1. BAE Systems. In March, BAE Systems (BAES) announced its acquisition, for 4.1 billion dollars, of the US armaments manufacturer United Defense Industries (UDI). This was a major step in BAES's aggressive bid to penetrate the US market, making BAES the fifth-largest defence company in the United States. Since 1998, BAES, in part through its 1999 merger with Marconi, has acquired a range of US companies (including Tracor, Lockheed Martin Control Systems, Mevatec, Boeing Commercial Electronics, Digital Net Holdings Inc and Alphatech). US sales now account for 30% of its business whereas the UK share has dropped to 25%. The UDI purchase puts it in prime position to benefit from the US government's decision to invest 100 million dollars over the next five years in land based 'future combat systems', primarily the Bradley fighting vehicle which has played a major role in Afghanistan and Iraq and is set to become the centrepiece of the US army's plans to radically improve its battlefield technology.
2. Finmeccanica. Since its privatisation in 2000, Italy's Finmeccanica has progressed rapidly to the top European table and has been successful in penetrating the US market:
   • Its 2004 acquisition of Augusta Westland helicopters shortly preceded the award of the contract for the US Marine Corps' presidential helicopter to Lockheed Martin, using an Augusta/Finmeccanica design.
   • Its partnership with Lockheed has also won it a major role in the US Joint Strike Fighter project, the C-27 tactical transport aircraft, and the medium extended air defence system (MEADS).
   • The company is actively involved with BAES in a merged defence electronics company, Eurosystems, which is well placed to make further inroads into the US market via the acquisition of an appropriate avionics company, which could provide a bridgehead into the US Defense Department.
   • It is set to conclude a major partnership deal with Thales (taking 30% of Thales and 25% of Alacatel), which will bring it, via Thales's multiple joint ventures with Raytheon, even further into the US sector.
3. EADS. After breaking into the US market in October with the purchase of Racal Instruments, EADS has continued to put down roots in the United States (see WESTERN EUROPE/US: EADS seeks inroads in US - March 8, 2005). It has engaged in several partnership arrangements with Northrop Grumman as well as with Lockheed. However, its main strategy has been to secure the approximately 25 billion dollar contract for replacement of the US Air Force's ageing fleet of in-flight refuelling tankers which opened up when Boeing was dropped after an ethics scandal. However, in late April, the House of Representatives moved to bar any foreign company from Pentagon contracts if there was a WTO dispute involving that company. EADS is the parent company of Airbus (see INTERNATIONAL: Airbus-Boeing dispute puts WTO to test - November 2, 2004). In an effort to side-step that obstacle (which may be removed by a forthcoming Senate vote), EADS had hoped to team up with Northrop Grumman in promoting its A330 aircraft. However, Ronald Sugar, chief executive of Northrop Grumman, has delayed his decision on the partnership while the congressional ban on EADS is clarified.

4. Other. Foreign breakthroughs into the US defence market from other defence companies suggest that the Pentagon is serious about reducing costs:

   • The legendary Colt-45 has been replaced as the standard side-arm for US soldiers by the Italian Beretta 9mm pistol.
   • The Belfast-based Short Brothers has supplied small cargo jets (Sherpas) to the US army for years and the new contract is likely to go to a consortium involving Finmeccanica or to EADS.
   • A Connecticut firm, Arch Chemicals, which has had a monopoly on supplying rocket fuel to the Pentagon is now facing stiff competition for the contract.
   • The Brazilian-made Embraer jet beat off the Georgia-based Gulfstream to supply the new generation of US spy-planes.

Benefits of competition. The explanation for US acceptance of greater foreign participation is relatively clear: increasing competition. The costs of high-technology defence systems tend to rise exponentially. For example, the total programme cost for the F-35 Joint Strike Fighter has escalated from 63.8 billions dollars to 99.6 billion and the cost per plane from 64 million dollars to 356 million. The plane is, in effect, too expensive to buy -- orders for 2011 have been reduced from 160 to 90 -- and it could become the main victim of Donald Rumsfeld's need to cut costs. If competition is the only way of bringing costs down, then legislators will back greater EU involvement. In fact, armed service committee heavyweights such as Senators John McCain and John Warner support the need for serious competition in the bidding process. However, most of the lucrative contracts have gone to close US allies such as the United Kingdom and Italy, while French and German companies have had to overcome additional obstacles to break into the market.