Mergers and protests signal tighter defense market

By Andrea Shalal-Esa - Analysis

WASHINGTON (Reuters) - A new wave of defense industry mergers and the increasing propensity of companies to protest contract losses signal the post-9/11 surge in U.S. defense spending is finally coming to an end.

The U.S. defense budget, which accounts for half the world's military spending, ramped up dramatically this decade but is now likely to plateau, albeit at a high level, according to defense analysts.

Michele Flournoy, president of the Center for a New American Security, predicted a period of "belt-tightening" for the U.S. defense industry in coming years. She said procurement spending had not grown at quite the same pace as overall defense budgets, given rising personnel and health care costs.

The U.S. military is expected to reduce its presence in Iraq regardless of whether the Republicans or Democrats win the 2008 presidential election. That means an end to the supplemental war budgets that have pumped extra funds into myriad weapons programs in recent years.

"The post-9/11 days of a blank check for defense are coming to an end," Flournoy said, noting that slower growth or stagnation in spending could fuel industry consolidation.

Italy's Finmeccanica SpA (SIFI.MI: Quote, Profile, Research, Stock Buzz) agreed this week to buy U.S. defense contractor DRS Technologies Inc (DRS.N: Quote, Profile, Research, Stock Buzz) for $3.94 billion. It is the latest effort by European defense companies to increase their foothold in the U.S. market.

"If indeed companies find themselves with a hole in their bookings, they will have to identify options to close that gap, which may include strategic acquisitions," said defense industry consultant Jim McAleese.

Communications equipment maker Harris Corp (HRS.N: Quote, Profile, Research, Stock Buzz) has also started exploring strategic options that may lead to its eventual sale, the Wall Street Journal reported last week.  Continued...