Uncertainty clouds outlook for weapon makers: BAE executive

WASHINGTON Tue Sep 4, 2012 12:38pm EDT

WASHINGTON (Reuters) - Uncertainty about $500 billion in additional U.S. defense budget cuts slated to start taking effect in January is "wreaking havoc" on weapons makers, threatening 1 million jobs, jeopardizing the health of suppliers and slowing acquisitions, Linda Hudson, the top U.S. executive at Britain's BAE Systems Plc (BAES.L), told Reuters.

BAE Systems may have to warn all of its 30,000-plus U.S. employees just before the November 6 presidential election that the budget cuts could lead to about 4,000 layoffs, said Hudson, chief executive officer of the U.S. arm of Britain's largest defense contractor.

"The environment is wreaking havoc on all of us and our ability to do rational things," Hudson said in an interview last week, noting that uncertainty about the budget outlook was compounded by the presidential election and U.S. tax rates.

"If everything is cut across the board, we may end up having to send notices to all of our employees that work on government contracts because we can't pinpoint a location that would be affected, or a program that would be affected," she said.

Hudson's comments came about a month after the U.S. Labor Department said the circumstances surrounding the planned cuts were too uncertain to require defense and other federal contractors to comply with a law calling for employees to be notified 60 days before major layoffs or plant closures.

Republican lawmakers have accused the Obama administration of trying to suppress potentially damaging notices of layoffs just before the election.

BAE Systems is one of many big weapon makers that are urging U.S. lawmakers to avert additional defense cuts mandated by the Budget Control Act, warning that more than 1 million jobs are at risk around the country.

The looming $500 billion in cuts stem from an August 2011 congressional deal in which lawmakers pledged to find $1.2 trillion in additional deficit reductions.

Since they failed to do this, the cuts will kick in automatically on January 2. About half the $1.2 trillion will come from defense, on top of $487 billion in Pentagon cuts already planned over the next decade.

The Aerospace Industries Association has been staging rallies at weapon plants around the country, often with union officials, to call attention to the issue. BAE will host a second rally at its Nashua, New Hampshire, facility next month.

INDUSTRY CONSOLIDATION

Hudson, who in more than 30 years in the arms industry has seen her share of ups and downs, expects another round of consolidation among small and medium-sized businesses.

But the scale of change will not reach that of the 1990s, when mergers pared two dozen companies to just a handful after the end of the Cold War, she said.

Hudson said U.S. Department of Defense officials opposed mergers at the top of the food chain, but added that such high-level deals could still be on the horizon, depending on how deep the coming budget cuts turn out to be.

"If budgets are cut enough, there will be consolidation at all levels," Hudson said.

Even decisions about smaller acquisitions are tough to make at the moment, given uncertainty about the budget, taxes and the future of the industry, said Hudson, who headed the armaments division of General Dynamics Corp (GD.N) before joining BAE in 2007.

"Certainty of some sort - whatever it might be - will make people more willing to look at deals in general and bigger deals in particular," she said.

Bracing for a downturn in defense spending, Hudson began a big restructuring when she became CEO of BAE Systems Inc in 2009. She streamlined the management structure, eliminated redundant operations, consolidated facilities and reshaped its portfolio.

The British parent company, which makes about half of its revenue in the United States, said last month that delays on a big Saudi Arabian deal and lower spending by European and U.S. military customers had pushed earnings 3 percent lower in the first half of the year.

COMMERCIAL AVIATION OPPORTUNITY

Like many companies in the sector, BAE is also expanding its work in nondefense areas, including commercial aviation.

It almost sold a $1 billion-plus platform services business several years ago, but backed off at the last minute after realizing that commercial aviation services were poised for growth in coming years.

Now that business area is generating annual double-digit percentage growth in sales and in coming years will contribute billions of dollars of revenue that BAE is counting on to offset weak demand for ground combat vehicles and other products.

"When we look across our portfolio, the area that we get the most excited about right now is ... commercial aviation," Hudson said, citing the company's strong relationship with Boeing Co (BA.N) and expanded ties with General Electric Co (GE.N) and Brazil's Embraer SA (EMBR3.SA).

Once the budget situation becomes clearer, commercial aviation is also a fertile sector for acquisitions, she said.

BAE also sees continued growth in its intelligence and security systems, in managing infrastructure for the governments, and in maintaining and repairing existing weapons, which will have to keep running longer now.

And even though BAE expects sales of ground combat vehicles to be flat in coming years after years of sharp growth fueled by the wars in Iraq and Afghanistan, they still contribute about $4 billion to the company's overall revenue, she said.

Declines in defense spending may be inevitable given huge economic challenges facing the United States, but Hudson says the nation's defense industry is better-prepared than ever.

"Those of us who have spent the last couple of years downsizing our businesses, focusing on efficiencies ... dealing with the highly competitive environment ... are actually now in better shape than we were two to three years ago," she said. "The companies are leaner and more competitive."

(Editing by Lisa Von Ahn)

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