PricewaterhouseCoopers, NEW YORK: The value of deals in the aerospace and defense sector is returning to previous highs, according to Flying High- Aerospace and Defense M&A, a new report by PricewaterhouseCoopers. The total value of disclosed transactions reached $33 billion in 2006, comfortably the highest level since 2000.
Looking ahead, the drivers fueling the growth look set to sustain these high levels over the next two years. The growing confidence in the sector is reflected in the larger average deal size, which has almost tripled from a low of $99 million in 2003 to $277 million in 2006.
Geographically, Europe took center stage; the value of deals involving European-based targets totaled $21 billion, double the $10 billion invested in North America and a reversal of the relative proportions seen in 2005. Acquisition money is flowing from Europe into North America, giving European corporations access to the US market. European acquirers spent a total of $5.6 billion on North American targets over the last two years, more than double the amount of money coming the other way.
However, the report anticipates US corporate buyers will be looking at European and particularly UK assets as tier two and three consolidation and asset changes among major players continue. US defense spending growth is slowing, so future growth is likely to be harder to come by for large US contractors. There is also strong evidence that the current rate of US overseas deployments may reduce research, design, technology and evaluation as well as postpone platform spending, the report found.
Another geographical feature is the rise of Middle Eastern investors, who invested $2.5 billion in European targets last year, up from virtually zero in 2005. Dubai, in particular, is seeking to build capabilities and infrastructure in the sector to take advantage of industry growth and its geographical position between Asia and both North America and Europe.
The PricewaterhouseCoopers report notes that the implications of all this activity will shape the structure of the industry for the next decade. According to Gregg Agens, a Global Aerospace and Defense Leader, PricewaterhouseCoopers, “Financial performance in the aerospace and defense sector has been very strong, providing the capacity for spending on mergers and acquisitions, which in 2006 was at the highest level since 2000. We believe that these dynamics combined with the interest in the sector and the wherewithal of private equity will fuel A&DM&A activity to even greater levels in the future.”
Similar to other industries involved in large-scale manufacturing, prime contractors have been considering which of their production activities are core and non-core. This has resulted in a steady flow of transactions involving divestiture of value-added manufacturing facilities that the primes no longer consider core to their focus on design and assembly of major platforms. In the supply chain of the future, outsourcing is likely to increase at many levels, the report found.
Outsourcing and supplier rationalization offer significant opportunities for the best suppliers to gain market share with specific technologies. This is particularly true in the lower tiers of the supply chain, as these segments of the market are still very fragmented in comparison to the primes or their tier one suppliers. Suppliers that can offer a broad range of products, supply chain management capabilities and a willingness to undertake risk sharing contracts, both financial and technical, will make the grade as 'strategic' suppliers. Those that cannot will find organic growth through new contract wins more difficult and will risk being displaced by more forward thinking suppliers.
The report also looks at acquisition of key technologies. The complexity of modern platforms is such that no one organization or nation can develop a new platform without access to best-in-class technologies from the global supply base. Companies that have proprietary technology have consistently represented attractive targets for acquirers seeking to access pockets of growth and cross selling opportunities. Primes and tier one suppliers are seeking out and acquiring targets with specific technologies, even if this goes against the notion of primes as 'system of systems' integrators.
Aerospace and defense is attracting record levels of private equity investment as restructuring and globalization across the industry are creating opportunities of all sizes in both manufacturing and services segments. Four of the top five majority stake transactions in 2006 involved private equity, either as a buyer or seller. As Andrew Cristinzio, US Aerospace and Defense Transaction Services Leader, PricewaterhouseCoopers, notes, “Having raised record amounts of capital in the past two years, private equity is poised to provide much-needed liquidity to the market as larger players divest assets and the supply chain consolidates.”
Cristinzio also observes that corporate acquirers are poised for increased M&A activity since industry operating profits, which began recovering in 2005, improved significantly in 2006, providing fuel for long-term investments and acquisitions. “The aerospace and defense industry has regained the confidence to make the large-scale and long-term investments. Corporate investors are making up for lost time and positioning themselves for the future. When coupled with the ongoing search for strong positions in new technologies, this suggests high levels of M&A activity will continue for some time.”
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