Northrop Can Learn Lessons From Lockheed’s History
By CONOR DOUGHERTY
In pursuing the hostile takeover of TRW Corp., executives at Northrop Grumman Corp. might well be studying Lockheed-Martin Corp.’s debt-laden buildup in the mid-’90s and learning a few lessons.
Lockheed’s acquisition spree, executed in the name of overall cost savings, led to integration problems and eventually defective products, massive debt and a tumbling stock price.
By late 1999 Lockheed had amassed $11.4 billion in debt while boasting just a $7 billion market value despite $26 billion in annual revenues.
It lost focus, and, led by a new management team, was ultimately forced to shed units and clean up the books.
What remains, however, is the nation’s largest defense company. In earnings released last week, Lockheed reported $7.5 billion in long-term debt, more in line with industry standards. After taking into account Clinton administration cuts in defense spending and overall industry consolidation, many analysts have declared the build-up a success.
A decade later, El Segundo-based Northrop, the nation’s third largest defense contractor, has been on a similar acquisition binge that could potentially bog it down in debt.
Since 1994 the company has spent more than $16 billion on 14 acquisitions, Litton Industries and Newport News Shipping the most recent among them. Should Northrop pull off its proposed $5.9 billion bid for TRW, it will surpass Boeing Corp. as the No. 2 aerospace and defense contractor while adding another $5.5 billion in debt to the $5.2 billion it already carries.
“The overall strategy is the same (as Lockheed’s) get larger. But back then you were looking to buy and reduce costs,” said Domenick Fumai, a fixed-income analyst with BNP Paribas. “Given the change in outlook in defense, (today’s defense companies) want to get bigger and win contracts.”
Following a string of purchases in the early ’90s, Lockheed’s position was solidified when in 1994 it announced its intent to merge with Martin-Marietta Corp. The newly formed Lockheed-Martin Corp., twice the size of its nearest competitor, was estimated to control 20 percent of the Pentagon’s research and acquisitions budget.
But before the deal had closed, the company found that the consolidation process to be more difficult than it had anticipated. “You can’t go on a buying binge before integrating the first acquisition,” Fumai said.
Shortly after the acquisition of Martin-Marietta closed in 1995, Lockheed bought Loral Corp. for $9.1 billion, financing the deal with commercial paper and bank debt.
Like Lockheed, Northrop’s bid for TRW would solidify the company’s position as a defense leader. Analysts have marveled over Northrop chief executive Kent Kresa’s ability to build up the company and separate itself from the competition.
“I think one of the similarities is that you have a management team at Northrop that recognizes the need to grow, you had that at Lockheed,” Fumai said.
Where Lockheed stumbled was in trying to integrate many individual acquisitions into a single corporate structure. Quality control setbacks resulted in lost business. A management shakeout added to the confusion.
That triggered the company to reduce its five operating divisions to four, focusing on its core aerospace line. It also condensed 27 business operations to 17. Since 1999, Lockheed has sold off about $2 billion in assets while at the same time reducing debt. In early 2001 the company pledged to get rid of $2.8 billion in costs by the end of 2003.
Northrop’s shares declined on news of the unsolicited tender offer, which was rejected by TRW management (its shares climbed on the news). But analysts say the company nevertheless has a good chance of prevailing. And assuming that Northrop is able to sell TRW’s debt-ridden auto parts business at a decent price a big if in the minds of some analysts the leftover bits of TRW are said to integrate nicely into Northrop’s business.
Northrop Grumman is said to have the advantage of a better spending environment. In addition, Northrop’s overall strategy differs from Lockheed’s in that its integration of acquisitions has been minimal. This may be a result of a lesson learned.
“They’ve seen the example of companies rushing to consolidate, often times causing more problems than benefits,” said Jon Kutler, president of Quarterdeck Investment Partners Inc. in Los Angeles.
Still, purchases are made for a reason. Northrop must manage to fit TRW, Litton Industries and Newport News Shipbuilding into its tent. “Size of the acquisition has a lot to do with,” said Fumai. “It ultimately comes down to head count. It’s natural when there’s a merger, people are distracted.”