Boeing Getting a Lift From Defense

Since its founding in 1916, Boeing Co.’s fortunes have depended on commercial aircraft sales.

Until now.

The Pentagon is Boeing’s biggest customer today, and the company’s flourishing defense business -- most of it based in Southern California -- is helping offset a sharp drop in plane orders from struggling airlines. This year, amid one of the worst slumps in commercial aviation, Boeing expects for the first time in decades to generate more revenue from defense contracts than from commercial jetliners.

The sales flip-flop is crucial: Although long the world’s dominant jet maker, Boeing probably will be surpassed this year by archrival Airbus of France in commercial aircraft sales. But Chicago-based Boeing is expected to unseat rival Lockheed Martin Corp. as the world’s largest defense contractor.

Without that dramatic transformation, Boeing might not have stayed aloft.

“Boeing would be a completely different company without the defense business,” said Craig Fraser, an aerospace analyst for Fitch Rating. “Across their defense portfolio, they’ve had a lot of success winning contracts and positioning themselves for what the Pentagon wants.”

Boeing built many of the aircraft used in the Iraq war, including the Air Force’s C-17 workhorse transport plane, the KC-135 aerial refueling tanker, the Navy’s F/A-18 Super Hornet fighter jet and the Army’s Apache attack helicopter.

Boeing’s annual investors conference this week in Los Angeles will showcase its defense business as the company tries to convince Wall Street that military programs hold the key to its future.

Since reaching a high of $70.90 in November 2000, Boeing shares have tumbled by nearly two-thirds as airlines canceled or delayed deliveries during a widespread travel slump. In recent weeks the stock has recovered slightly, the shares closing Friday at $30.42, up 26 cents, on the New York Stock Exchange.

The stock slide would have been far worse without the defense business to prop up earnings, though many people still don’t think of Boeing as a defense contractor.

“If we took a word-association poll ... and said ‘Boeing,’ the immediate response of the majority of investors would be ‘airplane,’ ” said Byron Callan, an aerospace analyst for Merrill Lynch & Co. “Boeing is a broader, more diversified aerospace defense company.”

James F. Albaugh, president of Boeing’s Integrated Defense Systems, said the prospects for most of the company’s local military operations remain bright.

“The last couple of years have been as dynamic as any that I’ve been associated with, and I think the next several years will be even more so,” Albaugh said. He was promoted last year to head Boeing’s defense business from a post overseeing the company’s space and communications operations in Seal Beach.

Boeing is the largest private employer in Southern California, with 35,000 workers scattered from Palmdale to Canoga Park to Huntington Beach and Anaheim. More than two-thirds of those jobs are military-related.

Several key Pentagon contracts are driving Boeing’s growth, Albaugh said.

Last week, the company got the green light to begin developing an array of new weapons and systems for the Army. They are intended to create a highly mobile force that would combine lighter vehicles and tanks, robotic land cruisers and spy planes, all linked by a new satellite-based communication system.

Boeing is the lead contractor for the so-called Future Combat Systems. The initial contract is worth $1.7 billion this year, but the Pentagon expects to spend nearly $15 billion on it over the next seven years.

The program is part of a government spending spree after more than a decade of military downsizing. In the aftermath of the Sept. 11 terrorist attacks and military campaigns in Afghanistan and Iraq, defense spending is expected to grow 8% a year over the next five years.

Albaugh believes that the Iraq war showcased new precision bombs and weapons developed by Boeing, as well as the need for more of its military transport planes and aerial refueling tankers. When Turkey denied access to its bases near northern Iraq, U.S. troops had to be dropped there by parachute from C-17 transports. And throughout the war, bombers and fighters had to refuel in the air.

In one celebrated operation, a B-1B bomber dropped satellite-guided bombs on a building in Baghdad in a mission that targeted Iraqi President Saddam Hussein. The bombs landed 12 minutes after the order was issued, a far cry from the hours or days it would have taken in past conflicts.

The Joint Direct Attack Munitions bombs were outfitted with a Boeing GPS navigation guidance system that allowed them to hit their targets with pinpoint accuracy.

“The preliminary information that we have ... is that much of the hardware that we delivered performed as advertised” during the Iraq war, Albaugh said.

Because of a likely jump in military contracts, Albaugh expects Boeing to add jobs across its defense operations, including several hundred positions at its unit in Anaheim.

Boeing engineers in Anaheim work on developing electronic systems for missile defense, battlefield command and control, and secret intelligence programs -- all key growth areas in defense spending. This is in keeping with the Pentagon’s goal for generals to see what’s happening on the battlefield in real time, even if they are thousands of miles away.

In all, Boeing projects that defense revenue will jump to about $27 billion this year and climb to about $30 billion next year, compared with $25 billion in 2002.

Meanwhile, commercial aircraft revenue is expected to shrink to $22 billion in 2003, down from $28 billion last year, and remain flat in 2004.

As a result, defense businesses probably will account for 55% of Boeing’s sales this year, compared with 45% from commercial aircraft. A decade ago, 80% of Boeing’s revenue came from commercial plane sales.

This transformation has been led by Phil Condit, Boeing’s chief executive since 1996. Condit went on a buying spree, acquiring several major defense contractors including Rockwell International’s space and defense business in 1996 and McDonnell Douglas in 1997.

Boeing has developed three new defense businesses that each generate about $3 billion in sales a year. It is taking the lead in developing a new missile-defense system that would protect the U.S. and its allies from ballistic missiles.

It also has been working on so-called network-centric warfare that would link various communication systems and surveillance and reconnaissance aircraft as well as satellites to give generals a greater view of the battlefield.

And the company has increased its work in classified programs, particularly for intelligence agencies.

Albaugh said a trio of additional defense businesses could add several billion dollars more in revenue, including developing electronic systems for homeland security, building pilotless combat planes and air tankers for the Air Force.

One project is Boeing’s X-45 unmanned combat vehicle, now undergoing flight tests at Edwards Air Force Base. Under a congressional mandate, one-third of the U.S. fighter fleet is slated to be pilotless in the next decade. Military strategists believe that unmanned aircraft will cut costs and reduce human casualties because they would be used primarily in the initial phases of an attack to destroy anti-aircraft radar and missile batteries.

Meanwhile, Boeing and Pentagon officials last week continued to haggle over terms of an air tanker deal that could be worth $17 billion over six years. The Pentagon wants to lease 100 of the company’s 767 jets, which would be modified as refueling tankers. But the proposal has come under attack by some in Congress who say the deal is a handout to make up for Boeing’s ailing commercial aircraft business.

Albaugh counters that the current KC-135 tankers are among the oldest planes in the U.S. military, with an average age of 42 years.

“We believe we’ve got a fair and equitable proposal on the table,” he said.