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Lockheed Martin leads the Defense News Top 100 for the 18th year
Dramatic declarations about the need to cut defense spending have dominated headlines and driven coverage. U.S. companies have been cutting jobs while preparing to guard market share, and low-ball bidding is threatening to cost hundreds of millions in overruns.
Despite the concerns, defense revenue increased more than 4 percent for this year's Defense News Top 100 companies.
But don't be fooled: Non-U.S. companies grew at twice the rate of U.S. companies from 2009 to 2010, and experts expect the trend to continue as the international market blossoms.
Once again Lockheed Martin heads the list as it has since 1994. While the company's defense revenues grew by 1.8 percent, it experienced all the trials and tribulations of the industry at home, making three layoff announcements in June and July and facing serious questions regarding the cost of the F-35 Joint Strike Fighter program.
The top 10 companies remained the same, with Northrop Grumman (No. 3) and Boeing (No. 4) trading places as the former kept up with inflation and Boeing had a down year. However, the order of the rankings doesn't tell the whole story. Two of the three non-U.S. representatives in the top 10, EADS (No. 7) and Finmeccanica (No. 8), grew by more than 8 percent, while their North American counterparts largely remained below 3 percent with the exception of United Technologies (No. 10).
Companies from emerging markets saw substantial growth, as Indian companies Hindustan Aeronautics (No. 37) and Bharat Electronics (No. 64), both saw defense revenue climb by more than 8 percent. ST Engineering (No. 48) of Singapore saw an increase in revenue of more than 24 percent.
Elsewhere, while experts question the veracity of numbers from Russian defense companies, the survey found extraordinary growth in the country. Almaz-Antei (No. 21), Russian Helicopters (No. 44), Irkut (No. 53) and United Engine (No. 55) all saw defense revenues grow by more than 20 percent, and Tactical Missiles (No. 62) saw growth of more than 12 percent. Only one Russian company saw its defense revenue fall, which was Aviation Holding Co. Sukhoi (No. 52).
Among American movers, Oshkosh reversed its ranking from 31 to 13 buoyed by M-ATV orders, although analysts expect the surge to be a one-time event. KBR (No. 23), having heavily invested in the Iraq market, dropped nine spots as operations were drawn down, foreshadowing expected reductions in revenue for service contractors supporting troops in Afghanistan.
Others jumped on the back of acquisition. Deloitte moved from off the list to No. 90 after acquiring Bearing Point, and FLIR (No. 84), moved up after acquiring ICx.
But it's the growth in international markets that has clearly grabbed the attention of contractors. A study by KPMG of aerospace and defense executives released July 22 found that 49 percent of those polled thought that more than a quarter of their companies' revenues would come from non-U.S. markets, as opposed to just 37 percent who currently derive an equivalent amount of revenue overseas.
"You go where the fish are biting, so if the programs aren't here domestically, we focus internationally," said Kelly Ortberg, chief operating officer of government systems for Rockwell Collins (No. 27).
Non-U.S. Markets and U.S. Competition
While the U.S. remains the world's largest defense customer, defense contractors who can access international markets are expecting growth and opportunity even if American defense spending stagnates.
"The faster growth rate at foreign defense companies reflects the fact that many economies are growing at a more rapid clip than America is, and also that foreign defense companies are better at selling into certain markets," said Loren Thompson, an analyst at the Lexington Institute, Arlington, Va. Of particular note to experts is the growth of the Asian market as countries respond to the military buildup in China.
Chemring (No. 69), whose defense revenues climbed nearly 20 percent, has seen its non-NATO earnings snowball from 16 to 25 percent in the last few years, with expectations that it will soon top 30 percent. U.S. companies can also tap into this growth, but may not always approach the problem with the right perspective, Chemring CEO David Price said.
"There is a tendency to think that a U.S. solution to a requirement is best, whereas international companies are frequently looking for something different," he said.
Even with the right mindset, reaching international markets can still be difficult.
"The U.S. market is so large, they tend to put priority on addressing the home market, and each of the foreign markets individually is so small compared to the home market that it's hard to deploy your resources," Price said.
"They didn't need to hunt overseas," said Ron Epstein, analyst at Bank of America-Merrill Lynch, referring to American companies that are only now waking up to the need to work in international markets because the U.S. defense budget is likely to come under the knife. "Why fish in someone else's backyard when you have big fish in your own yard?" he added.
The U.S. market may be facing troubled times ahead, but that doesn't mean international companies are not expanding their DoD presence as well.
Fincantieri (No. 67), jumped 13 spots thanks to the U.S. Navy's Littoral Combat Ship (LCS) program, and expects continued growth.
"Our decision to enter the U.S. market has turned out to be a winning card," said Giuseppe Bono, CEO of Fincantieri. "The U.S. is the world's most important market, and by setting up Fincantieri Marine Group and purchasing Marinette there, in partnership with Lockheed Martin, we are now building on the LCS program for the U.S. Navy, participating in other important initiatives, and we are in a position to construct any other vessel for institutional and commercial customers."
The push into the U.S. market is also occurring near the top of the list. Finmeccanica's efforts with electro-optical devices and computing systems for the DoD have paid off.
"We foresee stable growth, leveraging on our wider international presence and our product and technical excellencies," a senior Finmeccanica official said.
Many of the American companies that have done well in this new environment have learned to leverage their experience with the Pentagon. DynCorp International (No. 31), which saw its revenues climb more than 10 percent, has generated a large part of its recent revenue from the Pentagon's Logistics Civil Augmentation Programs (LogCAP) in Afghanistan. It has used the opportunity to push into the international market.
"We have found that the capability derived from DoD programs can be directly applied to the foreign market," said Steven Schorer, DynCorp president. "Foreign militaries are getting far more sophisticated when it comes to services, and are looking for greater value."
Moving Away From Defense
Some U.S. companies are focused on militaries, but others see growth in both U.S. and overseas commercial markets even though Wall Street has historically been skeptical of defense companies that try to go commercial.
Navistar (No. 40) fell 15 spots on the list as its defense revenue plummeted by more than 25 percent. However, the company grew its revenue by 5 percent overall, as it turned its focus to other markets.
"We are pursuing the commercial aspect as we pursue opportunities in Afghanistan and Iraq," said Archie Massicotte, president of Navistar Defense. He pointed to the company's contracts to build infrastructure for the Afghan government as fruits of the strategy.
"Going forward, we believe that 40 percent of our business will come out of the Middle East. We're in 26 countries as we speak now," he added.
And the emphasis is likely to increase dramatically. Consulting firm Booz Allen Hamilton (No. 16), which has derived more than 80 percent of its revenue from defense in recent years, has now embarked on an aggressive commercial campaign, including television and radio ads, as its non-compete agreement with its spinoff, Booz & Co., expires.
"We expect to move quickly into industries such as financial services, health care and energy, where we see strong intersections between commercial and government sectors, and into geographies where we already have strong demand, such as the Middle East," CEO Ralph Shrader said during a recent earnings call.
The Middle East continues to be a focus for many contractors as oil revenue has given countries in the region cash to spend, and even companies that have seen their percentage of revenue from defense increase, such as Rockwell Collins, are shaping their strategies to take advantage of expected commercial opportunities.
"The Middle East is a ripe region for us to see product," Ortberg said. He projects that the Middle East, as well as other commercial markets, will prove far more capable of providing growth than defense.
"You're going to see double-digit growth in the commercial market, and low-single digit growth in the defense market, depending on how this [U.S.] deficit business shakes out," Ortberg added.
That doesn't mean that the Middle East will be a nonexistent market for defense. Russian Helicopters (No. 44), has had success selling its aircraft in the region, having delivered units to Iraq. The company saw a 134 percent revenue jump on the list.
"Middle Eastern governments have more money to spend on defense than they may realize they do," Price said.
"What we see as the future of democracy in the Middle East is that there is an absolute need for the rule of law, for training, mentoring and support services moving forward," Schorer said.
But with U.S. spending likely to remain flat or diminish, experts are expecting this year's list to mark the last of the peak years for U.S. companies, as the combination of increased competition at home and growing markets overseas in harder-to-access areas is not encouraging. "The domestic contractors are facing double jeopardy," Thompson said.
However, there is still opportunity, with commercial and international markets expected to bloom. Chemring CEO Price suggested that companies will need to pick their battles more carefully in the U.S. and abroad as strategic deployment of resources will be critical.
"Fight the 50-pound weakling, don't kick sand in the face of the 250-pound gorilla," he said.
International Strength - Defense News
