Post-Cold War Defense Contracting Consolidation: Survival Strategies P OST- C O L D W AR D E F E N S E C ONTRACTING C ONSOLIDATION L EADERSHIP AND SURVIV AL STRATEGIES U S E D B Y T O D A Y ’ S LARGEST DEFENSE CONT RACTORS Master of International Business Thesis Submitted by LAURENCE NGUYEN SPRING 2011 © 2011 LAURENCE NGUYEN http://fletcher.tufts.edu Post-Cold War Defense Contracting Consolidation: Survival Strategies The thorny relationship between the military industrial complex and American society has been a topic of contention for the last fifty years. From the Cold War to the fall of the Berlin Wall, the defense contracting industry has had to reinvent itself to adapt to different cycles of war(i). With the homeland attacks of 9/11 and the paradigm shift in the approach to and execution of war, defense contractors have consistently had to meet new procurement demands. Given the current state of the US economy and fiscal pressures faced by the Obama government, defense contractors will also have to address shareholder expectations by being prepared for an era of multilateral budgetary compressions. The US defense budget for 2010 was $693.4 billion, and the 2011 Budget for the Department of Defense only provides a 3.4 percent increase over the 2010 enacted level1. On the global level, the post-1990s industry consolidation has left a highly regulated playing field, vastly dominated by American industrialists. Today, four of the top five largest ranking defense contracting companies in the world are headquartered in the US2 and hold a total of market capitalization exceeding $125 billion3. In fact, the level of concentration in the industry is such that forty five percent of total arms sales is generated by five defense contracting companies4. As the geopolitical space of the battlefield and the nature of war shifts from offensive-defensive to asymmetrical and preemptive, defense contracting companies need to rethink once more the way they operate and strategize their activities to remain competitive and responsive to the new realities and requirements of their major off-taker, the US government. (i) See Summary Chart: Chronology of Wars, Defense Doctrines and Defense Spending in the US post-WWII on page 4 1 FY2010 Enacted: $US660.4 billion, FY2010 Supplemental: $US33.0 billion; Source: White House Office of Management and Budget, Department of Defense, available at http://www.whitehouse.gov/omb/factsheet_department_defense/ 2 SIPRI Fact Sheet, April 2010, The SIPRI Top 100 Arms Producing Companies, 2008, Susan T. Jackson and The SIPRI Arms Industry Network (Appendix 1) 3 The four companies being Boeing (BA), Lockheed Martin (LMT), Raytheon (RTN) and Northrop Grumman (NOC); Source: Symbol lookup from Yahoo! Finance, in date of February 4, 2011 4 Home Search Database Publication SIPRI Yearbook Library Media Blogs About SIPRI, Concentration in the Arms Industry, Changes in concentration ratios, SIPRI Top 100 companies, 1990 – 2005 (Appendix 2) Laurence Nguyen Page 1 Post-Cold War Defense Contracting Consolidation: Survival Strategies Under President Barack Obama, the American military will most likely experience another drawdown cycle of military spending. In 2010, Secretary Gates announced a $100 billion defense budgetary cut over five years5 and in 2011, President Obama pronounced a “fundamental review” of US military missions and capabilities in a bid to cut $400 billion over 10 years6. Current US government policy is to gradually disengage in Iraq and Afghanistan and reform the Department‟s institutions and processes to only buy weapons that are truly needed. Under the latest Quadrennial Defense Review Report of the Department of Defense (QDR) published in February 2010, redirecting resources includes plans to end the production of the F-22 fighter and C-17 airlift aircraft, respectively produced by Lockheed Martin and Boeing, restructuring General Dynamics‟ procurement of the Zumwalt-class destroyer (DDG-1000), and the Air Force substantially reducing its fleet of older fourth-generation fighter aircraft.7 Therefore, US-based defense contractors will need to be prepared with solid plans to ensure a sustainable stream of revenue. By way of background, a Summary Chart detailing significant US related defense policy development since the end of World War Two is provided on page 4. The chart illustrates US defense related budgetary spending in dollars of 2009 relative to different administrations from Truman to Obama, and juxtaposes national and international security related commitments undertaken by the US during that same timeframe. An interesting observation is the sinusoidal motion of the American defense budget, illustrating the cyclical nature of the industry. This of course has consequential commercial impact on top and bottom lines of defense suppliers and other stakeholders, especially when taking into account the monopsony nature of the market. 5 Office of the Under Secretary of Defense, Memorandum for Acquisition Professionals, September 14, 2010 6 Brannen Kate, Obama's Plan: Cut Defense Spending by $400B by 2023, Defense News, available at: http://www.defensenews.com/story.php?i=6229773 7 Robert M. Gates, Quadrennial Defense Review Report, Department of Defense, February 2010. Pages: Preface (pp. i - xvii); available at http://www.defense.gov/qdr/images/QDR_as_of_12Feb10_1000.pdf Laurence Nguyen Page 2 Post-Cold War Defense Contracting Consolidation: Survival Strategies The elongated slope ranging from the second term of the Reagan administration to the Homeland Security Attacks of 9/11 shows the military budget cutback efforts of governments after the substantial build-up of the early 1980s. It is during that time period that the face of the American defense industry underwent a severe makeover, marked by high level of consolidation between industry players, letting place to what is now known as the Prime Contractors. The group is America‟s leading and largest five defense contractors (by military sales). It includes The Boeing Company, General Dynamics, Lockheed Martin Corporation, Northrop Grumman Corporation, and Raytheon Corporation (see company operations and details in Table 1, page 5). This paper explores the strategies and maneuvers used by today‟s largest US-based defense contracting companies, which have kept them alive, when their industry was crumbling. How did the consolidation escapees of the Post-Cold War period (1990-2000) become today‟s industry leaders? A particular interest is paid to the figurehead of these companies to provide further colors to the understanding of the composition of today‟s military industrial complex. Laurence Nguyen Page 3 Post-Cold War Defense Contracting Consolidation: Survival Strategies Summary Chart: Chronology of Wars, Defense Doctrines and Defense Spending in the US post-World War Two 1945 1953 ‘61 ‘64 1969 ‘74 ‘77 ‘81 1989 ‘93 2001 2009 Coming of Flexible NSA ‟47 Military Industrial SecDef Aspin‟s $800 Resp. Last Supper 07/47 Complex: Policy 12/93 Surge in $700 NSC-68 Warning Goldwater-Nichols Act: „61 Afghanistan 04/50 01/61 US Military “jointness” Patriot Act bringing US troop $600 New Look 10/86 „01 to ≥100k men Defense Policy 12/09 $500 Berlin First Blockage 01/54 Partial „48-„49 Test $400 Strategic Defense Dept. of Homeland Defense Banning Helsinki Security Massive Retaliation Initiative on Anti- Budget $300 Treaty Accords Ballistic Defense 03/02 Cut Doctrine (Air Force 07/63 NATO 07/75 System US$100bn $200 Funding ↑) SALT I SALT II 04/49 01/54 03/83 over 5 yrs „69-„72 „77-„79 $100 Truman Eisenhower JFK Johnson Nixon Ford Carter Reagan Bush Clinton Bush Obama Vietnam War Soviet War in Greek Civil Korean War ‟64-„75 Afghanistan War „50-„53 ‟79-„88 „50-„53 Israeli War on Suez Canal Operation Cuba Arab Israeli Ramadan / Operation Operation Operation Operation Operation Homeland Independence Crisis Blue Bat Missile Six Day Yom Kippur Urgent El Dorado Just Deliberate Allied Security Attack 05/48 10/56 (Lebanon) Crisis War War Fury Canyon Cause Force Force 9/11/01 07/58 10/62 06/67 10/73 (Grenada) (Libya) (Panama) (Bosnia) (Kosovo) 10/83 04/86 12/89 08/95 03/99 Gulf War I Operation Gulf War II Budget for National Defense, FY 1948-2009 „90-„91 Enduring 03/05 (in billions of constant FY09 dollars; includes war & nuclear funding) Freedom (Afghanistan) 11/01 US related national security commitment s Operation Restore Hope International conflicts affecting the US (Somalia) 12/92-05/93 “Game changers” in global security affairs Cold War Global War on Terrorism 1947-1991 ‟00-present Laurence Nguyen Page 4 Note: Budget line adapted from information provided by The Centre for Arms Control and Non-Proliferation, Current U.S. Defense Spending vs. Spending Since 1948, available at http://armscontrolcenter.org/policy/securityspending/articles/022609_fy10_topline_growth_since48/ Post-Cold War Defense Contracting Consolidation: Survival Strategies Table 1: Snapshot of US Top Five Defense Contractors Boeing Co. (The) General Dynamics Corp. Lockheed Martin Corp. Northrop Grumman Corp. Raytheon Co. NYS: BA NYS: GD NYS: LMT NYS: NOC NYS: RTN w w w .boeing.com w w w .generaldynamics.com w w w .lockheedmartin.com w w w .northropgrumman.com w w w .raytheon.com Lockheed Martin Corporation is a global The Boeing Company, together w ith its Raytheon Company operates in defense, security company that primarily researches, subsidiaries, develops, produces, and markets General Dynamics Corporation is a diversified Northrop Grumman Corporation is a global homeland security and other