U.S. Objects to Merger of Lockheed, Northrop
After an eight-month antitrust review, federal regulators have raised serious objections to Lockheed Martin’s $11.6-billion acquisition of Northrop Grumman and may file suit to block it later this week, the firms said Monday.
The disclosure of serious opposition to the deal by both the Justice Department and the Pentagon shocked investors and sent shares in Los Angeles-based Northrop skidding in trading Monday.
Although the firms said they would try to meet the government’s concerns, they also vowed to “vigorously oppose any attempt to block the transaction.”
But the government’s objections include a demand that Lockheed divest virtually all of Northrop’s defense electronics programs, located near Baltimore, Orlando, Fla., and Chicago, according to industry sources.
The electronics business was a key reason why Lockheed wanted to buy Northrop. Thus, if the government does not budge on the demands for Lockheed to divest the radar, electronic warfare and intelligence programs, the entire deal could be jeopardized.
If the deal falls through, the fallout for Southern California would carry some short-term benefits. The Northrop headquarters in Century City would not be shuttered, as planned, and the company--with its 15,500 employees locally--would resume its independent course.
In a letter issued late Monday that was part of a tense exchange of statements throughout the day, Lockheed officials agreed to postpone the merger for 30 days beyond the original March 24 deadline for closing the deal. The firm said it would submit a proposal in the meantime to address the government’s antitrust concerns.
The government’s tough stance with Lockheed and Northrop comes amid clear signs that the Clinton administration is stiffening its antitrust policy in certain areas, taking a combative line on Microsoft Corp. and on a series of other antitrust prosecutions, experts said.
“I think the Justice Department is taking steroids,” said PaineWebber analyst Jack Modzelewski. “They are taking on Bill Gates and now Lockheed Martin. They are on a roll.”
If antitrust officials block the deal or even force a significant restructuring in its terms, it would mark the first time that the long-running post-Cold War defense consolidation has run into an obstacle.
The Northrop acquisition would give Lockheed a 24% share of the nation’s defense weapons and research budget, significantly higher than those of its two main competitors, Boeing and Raytheon.
The government first made its objections known Friday in a meeting with Northrop Chairman Kent Kresa and Lockheed Chairman Vance D. Coffman at the Pentagon. Walking into the meeting, Kresa and Coffman “had absolutely no idea that the government would block the deal,” a key industry official said.
Indeed, late last month the two companies held a successful shareholder vote, and Lockheed executives confidently predicted at a bash held for securities analysts at the Four Seasons restaurant in Manhattan, N.Y., that the merger would close with few problems.
“What’s so shocking to me is that the company and government negotiators have been negotiating for months, why would the government have held this so close to the vest?” asked Credit Suisse First Boston aerospace analyst Peter Aseritis. “Why didn’t they say from day one they were opposed?”
A Pentagon official, however, charged that the two defense contractors were attempting to “strong arm” the Defense Department by forcing it to conclude the antitrust review so the firms could close their deal.
Dozens of Pentagon lawyers and program officials are investigating how the merger would affect weapons production and research capabilities. Lockheed and Northrop produced 5.8 million pages of documents to antitrust investigators, one of the largest merger reviews in history.
Nonetheless, a number of key experts and analysts predicted Monday that the impasse will be resolved and the deal in some modified form will be consummated.
“The deal will still happen in some way, shape or form,” Aseritis said. If the problems are not resolved quickly, however, Justice officials said a suit could be filed in a matter of days.
In the first disclosure of the impasse, made in a joint Northrop and Lockheed news release issued in the predawn hours Monday, the corporations said the Justice Department was “fundamentally opposed” to the deal.
Later in the day, government officials disputed that description, saying they would not even negotiate with the firms if they were fundamentally opposed to the deal.
Pentagon spokesman Ken Bacon, attempting to clarify the matter, said the government has “serious concerns about the competitive effects of the transaction,” but defense officials would not discuss their specific objections to the deal.
One of the experts close to the deal said the demand for a full withdrawal from Northrop’s electronics business represents not just a stumbling block, but a fundamental problem.
The government’s logic in seeking to exclude the electronics segment of the deal is a desire to limit further “vertical integration,” in which a single company has the capability of producing all of the constituent parts of a product or weapon. Such integration is a powerful competitive weapon.
Modzelewski added that Lockheed’s 24% market share would open the door wide for Boeing and Raytheon to increase their market share. The combined concentration of ownership in the industry would finally reach a threshold too high for even the Clinton administration, he said.
If Lockheed were to divest the large block of business, which involves billions of dollars in revenue, it is unclear who would buy it. No doubt, Lockheed would not want either Raytheon or Boeing to get the operations, which would only compound their competitive problems.
From Lockheed’s viewpoint, it is the underdog in many of its markets. Raytheon is a bigger powerhouse than Lockheed in electronics and Boeing is far superior in aircraft. Although Lockheed is bigger than either one, it is spread thinner across more territory with stronger rivals than either of its two big competitors.
After the government revealed its hand Friday, Lockheed and Northrop officials made a counterproposal Sunday to the top government officials, including Justice Department antitrust chief Joel Klein and Deputy Secretary of Defense John Hamre. Although the counterproposal offered a number of key concessions, the government refused to budge, according to industry sources.
Investor reaction was swift--and sharply negative in Northrop’s case. Northrop shares plummeted $20.13 to $117.50 on the New York Stock Exchange; Lockheed Martin shares rose 81 cents to $116.
Securities analysts said the drop in Northrop shares indicates that investors seriously question the likelihood of the merger going forward but have not entirely discounted it. Northrop was trading at about $87 per share when the deal was announced last July, so it has given up about half of the premium it gained from the Lockheed deal, noted Merrill Lynch analyst Byron Callan.
“We were expecting this to be completed before Christmas when it was announced in July,” Callan said. “So, here we are three or four months later and another big question mark has been raised.”
Rick Rule, former antitrust chief during the Reagan administration, said it appears the Clinton administration is toughening its stance in some areas, including criminal antitrust enforcement and horizontal mergers.
In the case of mergers, the administration has established a policy of considering efficiencies created by deals even if they have anticompetitive effects. Despite that new, more lenient policy, they are showing recently that they are willing to fight.
“They are much more aggressive,” Rule said.
(BEGIN TEXT OF INFOBOX / INFOGRAPHIC)
Under Attack
The proposed merger of Lockheed Martin Corp. and Northrop Grumman Corp. was dealt a major setback Monday when the companies announced that the government opposed the transaction.
CORPORATE YARDSTICKS
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Northrop Grumman Lockheed Martin Headquarters Los Angeles Bethesda, Md. 1997 revenues $9.2 billion $28.1 billion 1997 profits $407 million $1.3 billion Employees 52,000 190,000
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“[The government has] serious concerns about the competitive effects of the transactions.”
--Pentagon spokesman Ken Bacon
Source: Bloomberg News, Aerospace Industries Assn., Company reports
Researched by JENNIFER OLDHAM / Los Angeles Times
