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For EADS, a Bitter Turn of Fortune

Airbus' European parent thought a tanker contract for the U.S. Air Force was a chance to take on Boeing on home turf. Now it's back to Square One

For some time, it was relatively easy for executives at European Aeronautic Defence & Space (EAD.PA) to envision how their win in the U.S. Air Force's tanker contract would spin forward. After securing a piece of that lucrative $35 billion deal in partnership with Northrop Grumman (NOC), EADS North America would truly start taking on North America—Boeing's (BA) home turf.

After building a factory in Mobile, Ala., to assemble the airborne tankers, the two companies could shift production out of Europe, taking advantage of favorable exchange rates and lower labor costs. They could combine workforces and suppliers, and reduce overhead. They could bid for more military projects and sell commercial planes—for less. EADS' economies of scale—it is the parent of commercial jet builder Airbus—would make the team a formidable competitor to Boeing on many fronts. Today the tanker, tomorrow, perhaps, Air Force radar aircraft and more commercial airliners for U.S. carriers.

Now, suddenly, nothing seems assured—not that it ever really did seem so during a seven-year saga of tanker twists and turns. The giddy mood of empire-building at EADS is being overtaken by a certain bitterness, even apparent resistance to the U.S. military's decision. To be sure, the Northrop Grumman/EADS consortium can still win the contract, which is among the most lucrative and most contentious ever. But Boeing battled back from what seemed a sure thing for Northrop/EADS, first with an administrative challenge of the award to Northrop, then a threat to walk away from the contest, and now a decision to scrap the whole process and start again with a new President and Congress in power.

A Challenge to the Pentagon

In Paris, EADS Chief Executive Louis Gallois seemed to indicate on Sept. 10 that his company would somehow challenge the Pentagon's decision to cancel the contract that EADS and Northrop thought they had won.

"We are disappointed by this decision," Gallois said in a statement. "We have not received any detailed direction from the Air Force or Northrop Grumman. However, we have a contract and will seek an appropriate conclusion to that contract." An EADS spokesman said Gallois was referring to costs incurred by Northrop and EADS that can be recouped from the Air Force. It might also refer to a legal challenge. A Northrop spokesman declined comment on the prospect.

The abrupt mood change is in contrast what had been an expansive mood at EADS. In recent weeks, EADS even started recruiting for jobs that more than hinted at the internal corporate strategy. The company wanted, for instance, a business and development director for "tanker and derivative aircraft" who could develop a marketing strategy for "Airbus platforms which could compete for Air Force programs such as E-4B, JSTARS, AWACS, and other C21SR Platforms." All are big military contracts in which Boeing could have an interest.

"We are looking at all of the options available to us," Northrop spokesman Randy Belote told BusinessWeek on Aug. 28.

On Wednesday, Ralph Crosby, EADS North America's chief executive, said the Pentagon's cancellation of the contract signified a significant breakdown in decision-making. "We are extremely disappointed by this decision, which represents a major failure of the defense acquisition system," he said.

To be sure, EADS has already established a military contracting toe-hold in the U.S. It is building light utility helicopters in Mississippi, and runs a military transport and training center in Mobile. But big hopes have been pinned on the tanker deal to get things moving in a major way. Among aerospace insiders, its become almost a truism that the most anxious Boeing managers over the tanker program are those on the commercial side—those who develop and sell airliners.

"Clearly, success in the tanker program would be a significant element of our strategy in the U.S. market," says EADS North America spokesman Guy Hicks. "However, it's not the only element of that strategy. The outcome of tanker will not determine whether we go forward in the U.S."

Meanwhile, EADS is aggressively scouting possible acquisition targets. The company's focus in the U.S.: Companies involved in designing and manufacturing other platforms besides the tanker, companies that are involved in network technology-dependent systems known as "net centric," and companies that would give EADS training and simulation capabilities for war fighters, whether in the cockpit or on the ground. The company also is scouting for companies whose work could help it garner a piece of homeland security contracts.

What company does similar work on the same fronts? Boeing.

Epstein is a correspondent in BusinessWeek's Washington bureau. Matlack is BusinessWeek's Paris bureau chief.

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