Rescuing America's ailing weaponsmakers

Pentagon wants to expand foreign sales, spread contracts to aid strategic industry.

While much of the US economy is booming, the defense industry is falling into a slump so troubling that it is forcing the Pentagon and weaponsmakers to rethink some of their most basic tenets.

Stung by the end of the cold war and a decade of shrinking defense budgets, the industry is only now beginning to feel the full impact of peace. Stock prices of top defense companies are near 52-week lows, and many have lost half their values in the past year. The companies are wracked with debt, while at the same time there are fewer and fewer plum contracts to go around.

"Major companies, be it Lockheed [Martin], or Raytheon, or General Dynamics, or any of them can find themselves not being valued as much as a new computer firm," Defense Secretary William Cohen told reporters last week.

Other companies that make ships, munitions, and tanks "are on their last bones of survival," says one defense-industry analyst. "If the government does not give them enough work, they will simply disappear."

While Pentagon officials do not consider the weakness of the industry a threat to national security, they have begun exploring new ways to breathe life into the military-industrial complex.

The Department of Defense has ordered a task force to review acquisition policies and their effect on the health and competitiveness of the industry. The task force will brief Secretary Cohen and other officials by April 10.

In the meantime, it is evident that the Pentagon is moving in two distinct directions. It is working with the State Department to loosen export controls, which in turn should open new sales markets. And it is gradually taking more care to regulate - even prop up - the industry.

"The [government] is starting to realize that they own the industry, and that the skills needed to make these weapons are vital to this country," says Harvey Sapolsky, a defense-management expert at the Massachusetts Institute of Technology in Cambridge.

Professor Sapolsky, like many analysts, thinks the government needs to move in the direction of buying out the industry - treating it as if it were a public utility.

To do so, however, would reverse a free-market defense industry trend dating back to 1950, when the cold war was heating up and weapons were becoming vastly more complex. But it would not be the first time the government has stepped in. At the so-called "Last Supper" in 1993, then-Secretary of Defense Les Aspin urged the top 15 defense executives to consolidate - or face extinction.

A dramatic example of the difficulties facing the military-industrial complex is the production of the Joint Strike Fighter, a versatile aircraft that will likely be built for the Air Force, Navy, Marines, and the United Kingdom.

With a price tag as high as $200 billion, it will be the largest aircraft contract in history. So far, it has been tagged as a winner-takes-all competition between Lockheed Martin Corp. and Boeing Co. Since it is unlikely there will be another acquisition that big for 30 years, losing the contract could drive either company out of the fighter-jet business.

But it is widely speculated that the Pentagon will change the rules when it awards the contract - possibly giving each company half of the estimated 2,800 copies, or having different companies build for different forces.

Sharing contracts is not the only way the Pentagon is trying to help. This week they approved a plan to speed up payments to primary contractors, says David Oliver, the principal deputy undersecretary of defense for acquisitions and technology. Analysts also expect the Department of Defense to begin giving more compensation to losers in large bids.

And the Pentagon appears to be making acquisition decisions aimed at preserving the industry's health - as critics said was the case with a recent order for 30 NSSN attack submarines that will keep the only two remaining nuclear sub builders in business.

Part of the problem is that the defense sector simply does not work according to normal market forces. Exports aside, the government is the only buyer. And usually there are only a few builders.

Oftentimes, the only way the government can be sure it is getting a fair deal is by bargaining with the contractor and closely regulating production. "Government inspectors are all over the shipyards to make sure time cards are being punched correctly," says a retired Navy officer.

The Pentagon is also trying to open up new markets overseas. It is asking the State Department to loosen control of exports, some of which contain technologies that once were considered national secrets. With exports having jumped from 8 percent of sales to 20 percent, foreign markets have become critical for survival.

Most recently, the US approved a deal to sell the United Arab Emirates 80 F-16 fighter jets that will have superior capabilities to those flown by US pilots.

Pierre Chao, an industry analyst for the investment firm Credit Suisse First Boston, sees some signs of hope for the industry. Spending, especially for procurement, is up. And Pentagon initiatives should help, he says. But he warns that the US could be in for trouble if the military-industrial complex does not regain its solid footing through a combination of Pentagon intervention and the implementation of internal efficiency measures.

"If the industry and the Pentagon can't fix some of the funding issues and make the industry more attractive for investors, then we have an issue regarding national security," Mr. Chao says.

(c) Copyright 2000. The Christian Science Publishing Society

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