Despite its efforts to become a high-technology systems specialist, BAE Systems found in December that its reputation as a former metal-basher is proving hard to shake off. The company has not revealed the extent of the latest delays to two of its most troubled programmes - the Astute-class submarine and Nimrod MRA4 maritime patrol aircraft - and is negotiating compensation with its customer, the UK Ministry of Defence.
The markets are assuming the worst. BAE shares have not yet recovered from the shock of the latest delays, and credit rating agencies are beginning to worry about the company's balance sheet. A $20 million writ from Honeywell over the cancellation of the Avro RJX project is set to deepen these concerns.
BAE acquired Astute when it took over the shipbuilding operations of GEC Marconi. Other ex-Marconi naval projects, notably auxiliary oilers and landing platform docks, have also been delayed. Part of the difficulty may be that Astute is the first UK naval programme to be built in modules - previous classes were built hull-first and fitted out later. While theoretically faster and more efficient, this construction plan has suffered repeated delays - blamed on the modular method and on another project, the Canadian Upholder-class submarine refit, which may have placed too much pressure on BAE's submarine arm.
The MRA4, although termed a refit of the current Nimrod MR2, is closer to a completely new aircraft, with new engines, wings, systems and landing gear (Flight International, 23-29 July). This has brought problems; in 1999 BAE cancelled a contract for airframe work with Cobham subsidiary FRS and brought the work to its own plant at Woodford. This and other problems caused a two-year delay and cost BAE £46 million ($73 million) in compensation to the MoD. Fitting the larger and more powerful engines into the wing root nacelles caused further delays in 2002, and may be responsible for the latest set of problems.
In the wake of the civil aviation crisis, BAE's supporters admitted that its exposure to the civil market through Airbus (its 20% stake provided 23% of sales and 26% of profits in the first half of 2002) could create problems, but argued that the company's other leg - defence contracting - was on firmer ground.
However, analyst Roman Szuper of credit rating agency Standard & Poor's believes there is cause for concern on both sides. He highlights the development expenses of the Airbus A380, increasing exposure to customer financing and a continued weak airliner market in 2003 and 2004 on the civil side.
Szuper and other analysts are also worried about BAE's defence side. Earlier this year Chris Avery of JP Morgan pointed out the company's exposure to unrest in the Middle East through the massive Al Yamamah arms deal with Saudi Arabia, as well as the risk of further delays in UK contracts. The MoD is starting to consider major changes to its Eurofighter Typhoon order and will probably take a dim view of BAE asking for more time and/or money to effect these changes.
The markets will look out for two key events in 2003. First, in January, comes the UKCVF aircraft carrier vendor selection (Flight International, 10-16 December). Recent developments have not improved BAE's chances of landing the deal, which is worth £3 billion in procurement funding, with another £6.5 billion from in-service support. Given its record on Astute, the MoD may be wary of entrusting the company with another large modular naval contract. BAE has made much of its "home advantage" and put public pressure on the MoD not to give CVF to EADS, but this may have antagonised the MoD.
Certainly the government's employment of the bank UBS Warburg to advise on its relationship with BAE gives the impression of a marriage heading for trouble. The final announcement of the size and cost of the Astute and MRA4 delays is due early in 2003, in time for the impact to be included in its 2002 annual results on 20 February. The news is unlikely to be welcomed by MoD or the market.
The second problem could be expansion. The company's planned Eurosystems joint venture with Finmeccanica is starting to look uncertain as the Italian government worries it may lose control of the project (Flight International, 17-30 December). But a greater danger comes from chief executive Mike Turner's often-stated desire to move into the US market - by far the best place for an ambitious defence contractor - through acquisition.
US companies are riding high on generous promises of expanding defence budgets, making them expensive takeover targets. Although BAE landed a share of the Joint Strike Fighter through membership of the Lockheed Martin-led team, two bids this year to reach US prime contractor status have failed. Its attempt to buy TRW in June was unsuccessful and it withdrew an offer of the MRA4 to replace the US Navy's Lockheed Martin P-3C patrol aircraft in October.
BAE will have to be careful lest its desire for a US acquisition leaves it stuck with an overpriced purchase.
Source: Flight International
