BAe looks to closer ties with Lockheed

THE "agreement in principle" on Friday by Europe's big aerospace companies to form their long-awaited transnational defence giant sounded sadly like countless other failed restructuring efforts of the past.

Issued by four of the continent's largest weapons makers, including British Aerospace, the statement was responding to a December order by their countries' governments to come up with a "clear plan" by 31 March to team up against their larger, more efficient US rivals.

The response paid lip service to a "possible merger" of Europe's national champions, but contained so many caveats that the future seems as fuzzy as ever. The "agreement" - between BAe, Daimler-Benz Aerospace, Aerospatiale and Construcciones Aeronauticas - amounted to a non-agreement.

This time, though, analysts say a British wild card in Europe's defence planning may force a halt to nationalistic footdragging. Emerging from its early 1990s brush with bankruptcy and holding pounds 1.5bn cash, BAe is anxious to forestall potential US dominance in military markets.

"BAe is doing a lot of manoeuvring," said Clive Forestier-Walker, an analyst with Charterhouse Tilney Securities. "If they can't do something in Europe, they might well do something in the United States."

That risk could act as the catalyst to push recalcitrant continental governments - mainly the French - into concrete steps to forge a cross- border European defence company, better-placed to match the huge research budgets and lean cost structure of the US giants.

"In the current phase of consolidation and restructuring in European aerospace, it's very useful to have this liquidity, both for mergers and acquisition purposes," said a BAe spokes- man. Analysts have cited a range of purchases or mergers the arms maker could pursue. Nick Cunningham, analyst at Salomon Smith Barney, said one option would be to buy a 49 per cent stake in Daimler-Benz Aerospace's military aircraft and electronics businesses.

Another would be the purchase of rival GEC's Marconi defence electronics business, or even a merger with GEC itself. Buying Marconi's military arm could add up to 25 per cent to BAe's 1998 earnings through extra revenue and cost savings, according to Mr Cunningham.

In practice, analysts say, a full BAe link with a leading US defence firm would be difficult. Both governments would be reluctant to see overseas companies gain access to sensitive security projects. BAe is not big enough to buy Lockheed Martin or Boeing, and the British government is not likely to let one of them buy BAe.

But BAe could always pursue more US joint projects, such as its partnership with Lockheed Martin to design Washington's planned Joint Strike Fighter.

The UK government's decision this month to raise the limit on foreign ownership of BAe shares to 49.5 per cent from 29.5 per cent also widens its options, making it possible to swap equity with a US firm such as Lockheed. That would annoy Boeing, their rival for the Joint Strike Fighter contract and the main rival to BAe and the other three European aerospace companies and partners in the Airbus civil aircraft group.

Eventually, analysts beleive Lockheed could agree to join Airbus in competition against Boeing, returning to the civil business after halting production of its L-1011 jet several years ago.

The question for Lockheed is which comes first: an agreement with Airbus or closer ties with BAe? If European politicians do not get their act together, it could be the latter.

Copyright: IOS & Bloomberg