By Doug Cameron
Northrop Grumman Corp.'s move to acquire rocket-maker Orbital
ATK Inc. reflects the rising competition among defense giants for
supremacy in space, a rapidly evolving military battleground.
Space has been shifting from a largely passive platform for
surveillance to a more strategic military arena, with countries
such as China developing the capability to disable satellites and
disrupt communications.
Northrop's proposed $7.8 billion acquisition of Orbital,
announced Monday, would help Northrop to produce and launch large
and small spy and communications satellites and develop new
high-speed weapons and missile-defense systems to deter potential
adversaries such as Russia, China and North Korea.
The proposed deal is the largest with a big military space
element since Harris Corp. agreed to buy Exelis Inc. for $4.6
billion in 2015.
Northrop is the fourth-largest U.S. defense company by sales
after Lockheed Martin Corp., Boeing Co. and Raytheon Co., all of
which have been investing in new space-related capabilities.
Northrop, based in Falls Church, Va., makes fuselages and radars
for the F-35 combat jet, large military drones, and satellites
along with surveillance and communications systems, many of them
classified. Dulles, Va.-based Orbital ATK produces space rockets,
engines for missiles, and smaller satellites.
Aerospace and defense companies are combining to respond to
pressure from commercial and government customers to cut costs, and
to vertically integrate their operations and gain more control of
their supply chains.
China and Russia have been investing heavily in space
capabilities, and Pentagon leaders have expressed concern about the
U.S. losing its technological advantage.
The Pentagon is also looking to make U.S. space assets less
vulnerable by launching larger numbers of smaller satellites, and
pursuing research into new weapons such as hypersonic missiles able
to travel at more than 5,000 miles an hour. That would enable them
to hit any target on the globe in minutes.
Pentagon officials have been pushing for more, warning of
falling behind in space. "The No. 1 problem we face is being
outpaced by our adversaries," Air Force Gen. John Hyten, head of
the U.S. Strategic Command, said in an August speech in Huntsville,
Ala. "The actions we take today will assure continued American
dominance, especially in the critical domain of space."
Military budgets in Russia and China have been climbing faster
than Pentagon spending, allowing them to close the technology gap
with the U.S. However, there is a concerted effort among lawmakers
and military leaders to reduce the Pentagon's costs and secure
weapons faster and cheaper.
The heightened attention to space-based weaponry mirrors a push
in Washington, where both the Trump administration and Congress
have signaled the likelihood of spending increases.
Spending on classified military projects, many of them
space-focused, has outpaced broader military spending and accounts
for more than 10% of the Pentagon weapons and research budget,
according to consultant Avascent.
"For fiscal year 2018, the U.S. Air Force has requested
approximately $7.75 billion, an approximately 20% increase from
fiscal year 2017, for space-related procurement and research,
development, test, and evaluation," said Army Lt. Col. Jamie Davis,
a Pentagon spokesman, declining to break down the request.
Northrop's proposed acquisition also represents the first test
of the Trump's administration's views on industry consolidation as
it would increase the company's role in key programs such as a new,
long-range bomber.
"Orbital ATK is the fit," Northrop Chief Executive Wes Bush said
on an investor call Monday. He noted the company hadn't previously
spotted attractive acquisition targets before opening talks with
the company earlier this year. Orbital wasn't put up for sale, said
CEO David Thompson.
Northrop aims to close the deal in the first half of next year,
subject to shareholder and regulatory approvals.
U.S. defense companies are returning to growth after five years
of federal-government budget pressures. But big opportunities are
scarce and focused on a handful of large programs such as the
Lockheed Martin F-35, replacing U.S. nuclear weapons and
strengthening its space-based capabilities. Pentagon leaders have
discouraged any further consolidation among the largest defense
companies since a series of huge deals in the 1990s. However,
analysts said Northrop's move could trigger interest in other
smaller, space-focused companies such as Harris.
Analyst Cai von Rumohr at Cowen & Co. said he expected the
proposed deal to be cleared as there was little overlap between
Northrop and Orbital ATK. "The acquisition gives Northrop more
options in [Department of Defense] growth segments, such as missile
defense," he said in a client note.
The proposed deal puts pressure on other defense contractors to
boost their space capabilities, said Philip Finnegan, director of
corporate analysis at the Teal Group, a Fairfax, Va.-based
consultant.
Mr. Finnegan said it would allow Northrop to offer a broader
range of products in areas where the Pentagon is focused, including
missile defense and developing smaller satellites.
Deal activity in the defense sector has been focused on the
fragmented services business, providing consulting and IT products.
Companies with combined aerospace and defense operations have also
become more attractive.
United Technologies Corp. plans to buy Rockwell Collins Inc. for
$23 billion, a move aimed mainly at tackling competitive pressures
in the commercial jetliner market. However, the combination would
also create a top 10 global defense company, producing engines for
military jets with radios and other communication equipment.
One of the largest defense-sector opportunities is the
Pentagon's plan to develop a new, land-based nuclear missile, with
Northrop competing against Boeing for a program estimated to cost
around $80 billion.
Northrop is already working with Orbital ATK and fellow
rocket-engine maker Aerojet Rocketdyne Holdings Inc. on the
project. Boeing has also signed up Aerojet and Orbital ATK as
partners, and Mr. Bush said on the call that his planned deal
wouldn't affect existing programs. "Our industry is characterized
by the ability of companies to work together," he said.
Mr. Bush declined to comment on whether the proposed deal had
been discussed with the Pentagon, though he pledged to continue
working with other large defense companies on large military
programs.
The Pentagon had no immediate comment Monday.
Established companies in the space business are also under
pressure from new entrants such as Elon Musk's Space Exploration
Technologies Corp., better known as SpaceX, which has started
launching satellites for the U.S. military more cheaply than
rivals.
Such emerging competition led one analyst to question some of
the claimed benefits from combining Northrop and Orbital.
"Building boosters and satellites are very different businesses.
No one seems to think that Elon Musk is in a world of hurt because
he doesn't have his own satellites, but he's got contracts to lift
a lot of them," said James Hasik at the Atlantic Council, a think
tank.
Northrop agreed to pay $134.50 a share for Orbital, a roughly
22% premium to Friday's closing price of $110.04. Including $1.4
billion in assumed debt, the deal carries a total price tag of
about $9.2 billion. Orbital shares closed up 20% at $132.25.
Northrop shares gained 3.4% as the company committed Monday to
reducing debt and maintaining a share buyback program. Repurchases
have powered the company's stock in recent years.
Buying Orbital ATK would add a company with 13,000 employees and
an estimated $4.6 billion in sales this year to Northrop's expected
2017 revenues of around $25 billion. Northrop has about 67,000
employees.
Northrop said it expects the deal to boost earnings per share in
its first full year and yield annual cost savings of $150 million
by 2020.
--Nancy A. Youssef contributed to this article.
Write to Doug Cameron at doug.cameron@wsj.com
(END) Dow Jones Newswires
September 18, 2017 21:54 ET (01:54 GMT)
Copyright (c) 2017 Dow Jones & Company, Inc.
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