Lockheed Martin, the world's largest weapons maker, announced on Monday a $9 billion deal to buy helicopter manufacturer Sikorsky, pushing further into the world of military hardware despite a recent slowdown in Pentagon spending.
The deal reflects an industry-wide rethinking about the future of defence spending. After years of hedging bets and straying from traditional government contracting into civilian-focused information technology work, defence contractors are doubling down on military hardware investments.
"Nothing makes money for a defence contractor like manufacturing defence platforms," said Richard Aboulafia, vice president of analysis for Teal Group. "With a budget environment like this, you're not going to do that organically. You're going to do that through acquisitions."
The news of the deal came as Lockheed reported better-than-expected revenue and profit during its second quarter. Lockheed's revenue increased 3 per cent and its profit rose more than 4 per cent during the quarter compared with the same period last year. The company also lifted its profit expectations for the year.
The deal broadens the company's reach into a new piece of military equipment - and internationally. Lockheed manufactures the F-35 fighter, unmanned drones and missiles. But it didn't make helicopters, until now.
Sikorsky, a division of United Technologies, makes some of the government's most widely used helicopters, including the Black Hawk. In 2014, it won a contract to manufacture the new Marine One, the president's official helicopter.
As part of the deal, Lockheed will take on the manufacturing - and the lucrative maintenance work - on the more than 4,000 Black Hawks in use worldwide.
In a conference call with investors on Monday morning, Lockheed executives said the company would also use Sikorsky as a gateway into more international markets. In 2014, nearly half of Sikorsky's sales were to international customers. The Saudi Arabian Navy, for example, ordered 10 Sea Hawk helicopters in May. Sikorsky also sold a modified Black Hawk to the Jordanian royal family for $21 million.
Foreign sales made up 20 per cent of Lockheed's revenue in 2014, though company officials have said it could reach 25 per cent in coming years.
Lockheed also said on Monday that it was reviewing the future of its $6 billion civilian information technology business, which includes about 17,000 employees.
"All that commercial stuff, that IT stuff, that's always been a difficult story to tell and generally has lower margins," Aboulafia said. "Manufacturing new defence platforms, that's an easy story to tell."
Sam Pearlstein, co-head of equity research for Wells Fargo Securities, said, "I think the competitive dynamics for the IT business have been challenged for some time. It hasn't been a high-margin segment for this company for quite a while."
The IT businesses, including civilian cybersecurity and big-data analysis, could be sold or spun off, Lockheed said.
"There's a lot more competitors coming into the marketplace, and our customers' needs are changing," Lockheed chief executive Marillyn Hewson said in a call with analysts on Monday. "We think what we have is a premier asset, and if we can stand it up as a stand-alone company or if we can find a buyer and get a good price for it, that's the best thing for that business."
Lockheed executives said they expect the merger, which must be approved by regulators, to be completed by the end of the year. Lockheed will avoid paying nearly $2 billion in taxes because of the way it structured the deal with United Technologies.
"Sikorsky is a natural fit for Lockheed Martin and complements our broad portfolio of world-class aerospace and defence products and technologies," Hewson said. "I'm confident this acquisition will help us extend our core business into the growing areas of helicopter production and sustainment."
Lockheed's stock rose nearly 2 per cent on Monday, closing at $205 a share. United Technologies was flat, closing down slightly at $110 a share.