The changing role of defence firms

During the Cold war, the West had a large number of big defence contractors. During the 1960s, the US alone had 11 military aircraft builders, and even by the mid-1980s there were still nine.

Each big European country had at least one -- in Britain, for example, four separate companies were put together in 1977 to form what was then British Aerospace. And there were similar industrial sectors producing warships, tanks, and helicopters.

Taxpayers paid a great deal of money to keep this formidable machine going. But there was a war on, albeit a cold one. Following the collapse of the Soviet Union, everything began to change.

Defence budgets were slashed: NATO defence spending dropped 23 per cent in real terms between 1985 and 2000 and most countries took a "procurement holiday".

Companies could no longer be sustained on the relatively meagre ration of orders. As a result, the industry went through a mergers and acquisitions boom in the 1990s.

Plenty of US contractors exited the market, selling out either their defence businesses or whole companies to other US contractors. In Europe, national markets were no longer sufficient and companies consolidated both within borders and through cross-border deals.

The result was an industry dominated by just a handful of companies: Lockheed Martin, Boeing, Northrop Grumman, General Dynamics, and Raytheon of the US; BAE Systems of the UK; the Franco-German-Spanish European Aeronautic Defence and Space Company; and Thales of France.

They mostly have a range of products beyond their original area: Northrop Grumman is involved in aerospace, ships and electronics; General Dynamics builds armoured vehicles and ships (as well as civil aircraft); BAE Systems builds aircraft and warships and has just acquired Britain's armoured vehicle maker.

Restructuring has slowed down. The top eight are now quite stable, and customers as well as competition regulators might object to any further consolidation moves at the top level.

In the US, for example, the top four companies control 84 per cent of major programme prime contracts by value. However, while the players may remain the same, their customers' demands upon them are changing.

Governments no longer want technology development to be concentrated on individual "platforms"-- aircraft, ships, or vehicles -- which have different systems from one another.

The background assumption is that, by contrast with the Cold War, when armed forces were in static structures for national defence, all armed forces and equipment must now be deployable on overseas operations. The emphasis is on having all systems networked in order to achieve maximum effectiveness.

The beginnings of this were seen in the initial combat phase of the operation in Iraq. The idea is that battlefield commanders see a common picture built from many data sources, and then decide on the best use of assets, whether ground, naval, or aerial. New methods of operation become possible -- for example, the invading forces in Iraq enjoyed new forms of air support.

The extraordinary development of information technology in the civil world has prompted the desire for much more networked military systems. But the new approach is not just about technology. It means -- to use the US buzzword -- a "transformation" of the whole way that defence establishments go about their work.

In Europe, governments want better value for money from defence budgets because they do not get the punch in terms of deployable forces that the size of their collective defence budgets would suggest.

Defence companies are therefore having to change their business practices in order to be "systems integrators" able to link together platforms, sensors, and weapons. New management approaches, project management skills and technologies are required.

This presents several challenges. Some of the required technologies may be beyond their existing skills -- in the realm of IT, the best ideas might come from companies, perhaps very small, that have no knowledge of the defence world. Customers will be anxious to bring them into the fold.

The US Department of Defense, for example, is carrying out a series of studies identifying companies across the world that are engaged in technologies in which the DoD is interested.

It is also possible that the very way in which the largest companies do business, managing large prime contracts, may change.

The concept of specialised project managers known as "lead system integrators" -- who may not themselves be aircraft makers or shipbuilders -- is gaining acceptance. But the existing primes will not easily cede their main business to others.

Contrary to the popular image, the biggest prime contractors do not have huge profit margins. In fact, they are quite low. In the US, this reflects their role more as utilities meeting government needs than as risk-taking, cutting-edge technology companies.

Government procurement practices enshrine this position. It means that the big companies do well when there are surges in production business, such as to meet needs created by the Afghanistan and Iraq conflicts.

When defence budgets level off, as many expect will occur in the US soon, the big contractors will do less well.

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