UPDATE 2-Germany to look into security aspects of proposed defence merger

Wed Jul 2, 2014 12:51pm EDT

Related Topics

* Krauss-Maffei Wegmann and Nexter plan merger

* Deal would create Europe's largest maker of ground arms

* German govt says merged firm would not avoid export rules

* No job cuts planned, as business complementary - source (Adds details on deal structure, advisers)

By Gernot Heller and Victoria Bryan

BERLIN, July 2 (Reuters) - Germany is to look into a proposed merger of German and French tank and armoured vehicle makers Krauss-Maffei Wegmann and Nexter to see if it threatens the country's security interests, the economy ministry said.

The proposed deal between Nexter and KMW, announced on Tuesday, would create Europe's biggest maker of tanks and other ground armaments and offer the companies a chance to cut costs at a time when defence spending is under pressure.

Against this backdrop, governments and industry agree on the rationale for consolidation in the European defence industry, but in practice governments often find deals unpalatable for security or domestic political considerations.

A planned 2012 merger between Britain's BAE Systems and Airbus - then called EADS - collapsed after political disagreement.

A source close to the Nexter/KMW plans said the fate of the BAE/Airbus deal also caused a delay in the Nexter-KMW talks as the companies feared a negative public reception for any new defence merger.

As well as checking to see if the deal would be compatible with security interests, Germany also said a merged company would not be able to evade export restrictions designed to control the sale of arms abroad.

Germany said last month it would adopt a more cautious approach towards arms exports - which could affect KMW, which gets 95 percent of its revenue from arms, but also for more diverse defence companies such as Rheinmetall and Airbus.

The proposed tie-up would create a combined company - for which there is no name yet - with sales of almost 2 billion euros ($2.7 billion) and a workforce of more than 6,000.

"The idea is to create a Franco-German champion for armoured vehicles - something like an Airbus for ground forces," a source familiar with the deal said, adding the merger idea has been contemplated for more than 5 years and actively worked on for 18 months.

Under the proposed deal, the owners of state-controlled Nexter and of family-controlled KMW would each take a 50 percent stake in a combined company. Nexter makes the VBCI armoured fighting vehicle and the Leclerc tank, and KMW makes the Leopard tank.

2 BILLION EUROS

Nexter has earnings before interest and tax of around 107 million euros, while KMW has earnings before interest, tax, depreciation and amortisation of around 100 million. If valued at a similar multiple as peers - which trade at about nine times their expected earnings - any deal may value the combined group at roughly 2 billion euros.

"As the valuation will unlikely be exactly the same for both companies the bigger group will likely receive a cash dividend," the source said.

Another person familiar with the deal said that the main drivers of the deal were to share technology and develop new products to expand the business.

"Of course, it's about synergies, but that does not necessarily mean job cuts," the person said.

Analyst Michael Raab at brokerage Kepler Cheuvreux said in a note to clients that ground forces and therefore companies involved in land systems were among the most affected by downsizing of armies.

"We have highlighted on several occasions that in times of shrinking defence budgets consolidation is imperative," he said.

The proposed tie-up is exclusive, but only for a certain period so that French influence could be diluted if German automotive and defence components maker Rheinmetall, which already works with KMW, wanted to take part in any new defence project with a merged KMW-Nexter.

Rheinmetall, which said its own attempts to merge with KMW had fallen on deaf ears, said its legal department was checking the possible consequences of a KMW-Nexter tie-up to see what effect it would have on joint projects.

A KMW spokesman said on Wednesday that any partnership with Nexter would be exclusive for a limited time only and that they would be open for further partners.

Steen Associates and Oppenhoff & Partners said they are advising KMW on the deal.

Law firm Paul Hastings is advising Nexter and BDGS is working for French state holding company APE, which controls Nexter, two sources familiar with the deal said. Hastings and BDGS declined to comment. ($1 = 0.7331 Euros) (Additional reporting by Arno Schuetze, Jens Hack and Anneli Palmen in Germany and marine Pennetier in France; Writing by Alexandra Hudson; Editing by Stephen Brown and Jane Merriman)

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