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Pentagon Budget Secures Major Strategic Win For Lockheed

Posted by Loren Thompson on

If you are one of those people who believes the various conspiracy theories making the rounds about Lockheed Martin’s excessive influence over government decisions, the Pentagon’s fiscal 2013 budget request probably won’t make you feel any better.

Having served as an advisor to Lockheed and many of its competitors for a long time, I don’t take the conspiracy-mongering very seriously because I frequently see up close how frustrated company executives get with their military customer. However, I have to admit I was surprised at how well the nation’s biggest military supplier made out in the Obama Administration’s reordering of Pentagon priorities.

It is no exaggeration to say the budget request sets the stage for Lockheed to dominate the domestic military marketplace for a generation to come.

The official version of events from policymakers is that the defense budget is being cut by a quarter trillion dollars over the next five years in a “balanced” fashion that will share pain across all mission areas, military services, and major suppliers. And sure enough, Lockheed did take a significant hit to its biggest franchise, the $400 billion F-35 Joint Strike Fighter. But look a little closer at the dozens of major adjustments in weapons accounts, and what you see is that the dominant military contractor is likely to become even more dominant as a result of the decisions made. For instance:

The administration confirmed a production goal of 2,443 fighters for the F-35 program, declining to scale back or cancel any of the versions being developed for three different military services. Lockheed Martin will soon be the only company producing fighters in the United States, and policymakers have made foreign sales of the F-35 a pillar of their plan for relying more on overseas partners.

Cuts to mobility aircraft justified by reduced warfighting requirements leave Lockheed’s C-130J Super Hercules transport as the only fixed-wing airlifter still being produced in the decade ahead. No funding is requested for Boeing’s C-17 airlifter even thought President Obama praised it on the campaign trail in 2008, and L3’s smaller C-27 transport is being discarded even before it reaches the force, but the Pentagon plans to continue buying C-130s for the Air Force, Marines and Special Operations Forces indefinitely.

Every single military satellite that Lockheed Martin builds is strongly supported by the budget request, making it the dominant player in space-based missile warning, secure communications and global positioning through 2025. Meanwhile, the Pentagon’s National Reconnaissance Office has conferred a multi-billion-dollar contract on the company that restores its traditional role as the leading developer of photo-reconnaissance satellites.

The other parts of Lockheed’s military space business, launch vehicles and ground networks, will benefit greatly from the emphasis the new spending plan places on staying ahead in space. The budget stabilizes demand for launch vehicles manufactured by a Lockheed-Boeing joint venture at economical rates while funding numerous ground nodes and networks for better utilizing the capabilities of overhead assets.

The new budget also puts a premium on operating successfully in cyberspace, a goal which requires many billions of dollars in spending on computer network defense, exploitation and attack. Lockheed Martin has been rapidly expanding its role in all aspects of cyber security for the military and civil agencies, leveraging its status as the biggest supplier of information services to the federal government.

Lockheed’s long-running Aegis naval combat system franchise is effectively made the centerpiece of administration missile defense plans, eclipsing other programs that are either too controversial or lack the flexibility of sea-basing. A senior Navy official inadvertently disclosed recently that his service wants to build toward a goal of 72 Aegis missile defense destroyers in the future while gradually enhancing the capabilities of each vessel, signaling that the Aegis program will live on for decades to come.

The Navy also confirmed support for the Littoral Combat Ship, a shallow-water warship in which Lockheed Martin has invested considerable resources over the last decade. Not only will the new warships be stationed in places like Singapore as part of the new Asia-Pacific posture, but they look likely to take on added roles in the Horn of Africa and Caribbean as bigger warships are shifted to the Pacific.

I could go on, but you get the point. Lockheed Martin is poised to be by far the biggest beneficiary of the new military spending priorities articulated by the Obama Administration. It has lost little in the trade-offs leading up to the budget release, and it is actually gaining ground from the setbacks dealt its rivals. Termination of Northrop Grumman’s Global Hawk Block 30 unmanned aircraft will result in the Air Force relying on Lockheed Martin’s U-2 spy plane for decades to come.

Cancellation of the same company’s Defense Weather Satellite System means the military will continue to depend on Lockheed’s legacy weather satellites. The demise of a Boeing program to upgrade electronics on the C-130 airlifter will probably lead the Air Force to turn to a lower-cost approach offered by Lockheed. Even the Navy’s stretch-out of production for a next-generation maritime patrol aircraft dubbed the P-8 Poseidon that Boeing is building at its commercial transport plant in Renton, Wash. will probably result in extending operations of existing P-3 Orion patrol planes supported by — you guessed it, Lockheed Martin.

Not that the companies losing ground are likely to complain about Lockheed Martin’s good fortune. Northrop Grumman generates billions of dollars in revenue each year from its subcontractor role on programs where Lockheed leads such as the F-35 Joint Strike Fighter and the Space-Based Infrared System missile warning system. Even Raytheon, Lockheed’s most persistent rival in naval electronics and missile defense, is locked into supplier relationships with the behemoth of Bethesda on dozens of programs. So although there is probably a fair amount of grousing behind the scenes about how well Lockheed Martin is doing, the unhappiness is muted in public.

What’s ironic about all this, though, is that Lockheed Martin is faring so well after four years of continuing friction with Obama Administration officials over the F-35 fighter. The administration has understandably focused on the Pentagon’s biggest weapons program as the place to begin implementing acquisition reforms, but company executives feel that the resulting delays and restructurings are undermining the business case for the program by increasing the cost of each plane. The most recent round of recriminations over what government program managers contend is excessive concurrency in the program — meaning production in advance of flight testing — has seriously damaged relations between the two sides. But there is little evidence of the tensions in Pentagon budget decisions beyond the F-35, some which make Lockheed Martin look like the government’s favorite contractor.

The explanation for this outcome resides less in undue influence than it does in the company’s performance. When Boeing failed to perform on a next-generation spy satellite program, Lockheed Martin was able to avert a prolonged shortfall in imagery collections by delivering a gap-filler satellite two years earlier than expected for two billion dollars less than planned. When plans for future missile defense systems came unraveled due to technical hurdles and cost growth, Lockheed Martin was able to evolve its Aegis system to meet the defensive needs of the joint force. Even the F-35 program, which has been subjected to a continuous drumbeat of negative coverage as schedules have slipped, is progressing steadily through flight testing without encountering any major design problems — a key factor in why the administration has stuck with plans to build all 2,443 planes.

Besides being better at execution than many of its competitors, Lockheed Martin has also done a very good job of positioning itself in the military marketplace. Company executives didn’t over commit their business mix to short-lived opportunities like military transformation and stability operations, preferring instead to concentrate in areas where Lockheed traditionally excelled such as military space and naval electronics. Thus, Lockheed Martin is less exposed as the military customer begins shifting back to the investment priorities that prevailed before 9-11. It has also been aggressive in cutting costs since the first signs of softness in military demand began to appear.

So even though Lockheed’s revenues are not expected to grow much in the years ahead unless it diversifies or buys other defense companies, its profit margins have strengthened across all major business units. Some observers will interpret this trend as further evidence that Lockheed Martin has a special relationship with its government customer. Investors are likely to conclude it is just better run than its competitors.

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