BAE Systems Plc (BA/)’s planned merger with European Aeronautic, Defence & Space Co. (EAD) may flush out other suitors for the British weapons maker and set off industry consolidation, Moody’s Investors Service said.
The negotiations between the companies will likely prompt other defense contractors to consider consolidation as well as asset trades, the New York-based credit-rating company said in a report. It didn’t name any other possible suitors. EADS and BAE announced on Sept. 12 that they are exploring a combination.
“We expect that the merger talks have now triggered at least consideration of a new round of business realignments within the global aerospace and defense industry, the immediate effects of which could include counteroffers for BAE from other large defense contractors,” Russell Solomon, senior vice president at Moody’s, said in the report.
EADS and BAE are attempting the biggest combination, valued at $45 billion, in the industry as they seek to make each company’s business less prone to cycles. EADS products include the Airbus SAS civil aircraft, while BAE is among the largest defense contractors in the U.S. Both companies already cooperate on the Eurofighter warplane.
Creating a combined aerospace and defense company with annual revenue approaching $100 billion, 20 percent greater than competitor Boeing Co. (BA), would be positive for the credit ratings of both companies given the scope for cost savings and greater global reach, Moody’s said.
BAE declined as much as 4.8 pence, or 1.4 percent, to 342.2 pence in London, while EADS advanced as much as 73 cents, or 2.9 percent, to 26.03 euros in Paris.
Moody’s rating analysis was echoed by Standard & Poor’s, which said the merged company’s business risk profile would benefit from “stronger diversification and earnings stability.”
In the U.S., the world’s largest defense market, BAE competes with companies including Boeing and Lockheed Martin Corp. (LMT) EADS and BAE have said that they would “ring-fence” BAE’s U.S. operations to ensure the U.S. Department of Defense continues to provide clearance to do business with the group.
Some of the largest U.S. aerospace and defense companies may consider a bid for BAE, said Andy Chambers, London-based analyst for Redburn Partners LLP.
“BAE’s under valuation has been explicitly highlighted to the market,” Chambers said in a note today. “This therefore provides an opportunity for one of the U.S. aerospace & defence companies such as Boeing, Northrop Grumman (NOC) or Lockheed Martin to make a counter offer.”
EADS, which is based in Toulouse in southern France, is rated A1 by Moody’s, the fifth-highest investment-grade rating on a 10-step scale. BAE, based in London, is rated Baa2 at Moody’s, which is the second-lowest investment grade. EADS is more than twice the size in terms of revenue, and the companies said last week that Airbus parent would hold 60 percent of the enlarged group, with BAE owning the rest.
“This is the start of consolidation” said John Kenkel, London-based managing partner at Renaissance Strategic Advisors. “It started with a bigger bang than anyone expected.”
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