Largest BAE Systems shareholder slams EADS merger

Posted on 8 Oct 2012

The largest shareholder in BAE Systems has spoken out about the proposed merger, saying that it “does not understand the logic for the proposed combined company.”

Invesco Perpetual, which holds 13.3% equity in the UK-based defence firm, has released the latest round of fire on the BAE Systems-EADS merger.

In a statement to the London Stock Exchange, it said it was “very concerned that the level of state shareholding in the combined group will heavily impair its commercial prospects – especially in the United States.”

BAE Systems sold its 20% stake in aircraft manufacturer Airbus to EADS in 2006, which has since gone on to chalk up over 11,000 orders, sending the value of the pan-European aerospace and defence group EADS into the sky.

Critics have said that BAE Systems seems to live in the short term, where Mike Turner, BAE’s chief executive at the time, saying that “Airbus will do very well in the long term” but then selling its stake for below analysts’ expectations.

Mr Turner was encouraged to sell BAE’s stake by snags in the manufacturing process at Airbus that delayed several aircraft deliveries, despite describing them as “quite temporary,” spurning a civil aircraft market that Airbus expects to double over the next 20-years.

The recession a year later signalled a shift in the aerospace/defence seesaw as the heavy orders in the defence sector (supporting military action led by the US in Afghanistan and Iraq) begin to decline, a process sped up by US president Barack Obama’s less interventionalist foreign policy.

However, BAE Systems has built a bright future in the US, which continues to require military aircraft, vehicles and equipment, by setting up its US subsidiary BAE Systems Inc.

Invesco believes the merger would “materially jeopardise BAE’s unique and privileged position in the United States defence market, and has been unable to identify any corresponding benefits to offset this.”

Invesco stated it does not understand the strategic logic for proceeding with the deal, other than the diversification into more commercial aircraft that BAE Systems chose to move away from six years ago, in order to focus on the US market, and its close relationship with EADS.

The Pentagon is wary of the stakes France and Germany will hold in the merged company as BAE Systems is one of the top five defence suppliers in the US.

Germany, which has been contemplating buying the 22.5% stake in EADS owned by German automotive manufacturer Daimler, and France which directly owns 15% of EADS, have been in a tug-of-war over executive control, jobs and where the headquarters would be based.

British Defence Secretary Philip Hammond said that the UK Government, which has a golden share in BAE Systems, giving it veto rights, would contemplate putting the boot into the proposed merger unless France and Germany limited their stakes in the defence business.

However, France’s new tie-up with Germany to negotiate better terms led to newswire Reuters reporting that the two countries could control up to 27% of the new company, a holding that would constitute a blocking minority.

There have been suggestions that US experts say anything over 10 per cent could ruin the chances of winning approval from US regulators.

BAE Systems has become one of the top five defence contractors to the US in recent years, and Hammond viewed anything over 10% as too powerful.

Defence companies are limited in which countries they can sell to and BAE Systems is unable to capitalise on growth in China and elsewhere. It has its own special relationship with the US Pentagon and this has arguably reduced its potential market share.

The US military is refocusing its resources away from the Middle East and towards the Asia-Pacific region as tensions escalate between Japan and China.

BAE Systems, with its leading role in the F-35 fighter jet programme led by Lockheed Martin and the Eurofighter Typhoon programme, as well as strong submarine-building facilities, is in a strong position to capitalise on future US defence procurement.

The US has a yearly military budget of around $740bn, still substantially more than second placed China, which rose to $106bn this year.