In Defence of Military Procurement

By Peter Dollé, Berlin Correspondent |

Western governments are debating hefty cuts in defence spending as deficits soar and the threat of large-scale war recedes. Now it’s the major contractors such as Northrop Grumman who are under fire. What’s their winning strategy?

There are not many options available when business conditions implode as they did in 2008 and your long-term projects worth billions go from “up and running” to “on hold”.  For Northrop Grumman, confronted with hefty cutbacks in government spending following a surge in procurement after 9/11, the first line of defence was to consolidate resources.

It hasn’t been easy.  Northrop is the third largest U.S. defence contractor and the fourth largest worldwide.  In 2010, it earned nearly half of its total revenue – US$16 billion - from the U.S. government.  Northrop has four divisions – aerospace, electronics, information and services - in 25 countries – and employs a workforce of 72,000.   “We’re not only looking at the right resources for the right jobs but also [asking] do we need to move resources around to optimise the work on certain contracts,” Nat Piscitelli of Northrop Grumman told INSEAD Knowledge at the Berlin Air Show in September 2012. 

Sales on U.S. government contracts have fallen nearly eight percent since 2008, prompting Northrop to sell off unprofitable units, close plants and lay off workers.  In September, the defence company said it was offering buyout deals to some 600 workers at its aerospace unit in Southern California. 

Since 2008, Northrop Grumman has spent millions restructuring.  It succeeded last year in spinning off its shipbuilding assets into a new company, Huntington Ingalls Industries, in response to budget constraints and rising competition.  Northrop makes all U.S. Navy aircraft carriers and half of all nuclear submarines, and top management feared that scaling back operations would cripple its ability to deliver on major contracts.  That fear was echoed in the halls of the Pentagon in 2011 which coordinated the Huntington Ingalls move in an effort to preserve U.S. national security while maintaining competition. 

The Case for Spending Cuts

The Pentagon warns the automatic cuts will make defence operations less flexible, and they have reason for concern. The U.S. government is now over US$15 trillion (15 followed by 12 zeros) in debt.  The annual budget deficit is currently around US$1.1 trillion and lawmakers cannot agree on how to reduce that.  The defence budget itself – now at US$700 billion – is a popular target among members of President Barack Obama’s Democratic Party.  And if a “super committee” of Congressional negotiators fails to reach agreement on reducing the deficit by early next year, some US$600 billion in cuts and tax increases would come into force automatically.  When projected on a graph, the deficit curve from higher taxes and spending cuts appears so steep, that U.S. Federal Reserve Chairman Ben Bernanke has dubbed it a “fiscal cliff”. 

This political uncertainty is forcing Northrop to work harder on boosting sales and product quality. Northrop spent US$12.7 million lobbying Washington in 2011, according to the independent tracking group, The Center for Responsive Politics, making it one of the top political contributors in the defence industry.  It is keen on preserving its share of defence spending.  “The key is to perform on our existing contracts.  If you can do that then you’re certainly within high regard to obtain other follow-on contracts.  And then the sustainment piece itself is the logistics tail that feeds the system once they’re deployed.  And that’s a big part of the future business,” says Piscitelli. 

Riding Demand for High Tech Drones

Piscitelli is a former colonel in the U.S. Air Force and now has a civilian title that doesn’t fit on a name tag - Director of International Programs for Northrop Grumman’s High-Altitude Long-Endurance Unmanned Aircraft Systems, or more commonly, “surveillance drones”.  He has been instrumental in finding promising new markets overseas, as demand soars for drones in combat, the war on drugs and disaster relief. 

According to the aerospace and defence analysts Teal Group Corporation, drones are the fastest growing segment of the aerospace industry.  They estimate spending will almost double over the next decade to US$11.4 billion a year.

RQ-4 Block 20 Global Hawk, Courtesy of Northrop Grumman

Northrop’s RQ-4 Block 20 Global Hawk is at the high end of the market for unmanned aerial vehicles (UAV) in terms of capability and price.  It is a large aircraft – a single-engine jet, packed with high resolution sensors and radar – and can be “flown” via remote-control by pilots with a joystick almost half-a-world away.  The Global Hawk runs US$35 million per unit, according to Defense Industry Daily.  “We started the programme in 2002 and we received the contract in 2007,” explains Piscitelli, pointing to an airplane directly behind him which he explained “flew 24-hours from Edwards Air Force Base (California) and landed 2-feet off the centreline four minutes off-schedule when it flew over here a year ago.” 

The Limits to Overseas Expansion

To secure a bigger share of European procurement, Piscitelli has launched a joint-venture with European Aeronautic Defence and Space Company (EADS) in Germany, called EuroHawk GmbH, to produce a special variant of the RQ-4 with homemade sensors.  The new high altitude drone will replace an aging German surveillance aircraft and give both countries access to each other’s markets.  Piscitelli says the new venture is totally integrated.  “We rotate CEOs and COO positions every four years, so the management team is integrated.  We have 600 employees in the GmbH just like EADS does and they work side-by-side as we go through the process of meeting the Ministry of Defence requirements.”

Piscitelli sees great potential for the Global Hawk in Asia but is limited by the U.S. government’s International Traffic in Arms Regulations (ITAR) guidelines, which control the export and import of military hardware and services.  “It’s a challenge,” Piscitelli says cautiously, mindful of sensitive government information, and ponders:  “Where do we focus these fields and resources to capture new business?  Asia is a big market place.  A lot of companies are focusing their efforts and resources there.  And I think in the next two years that'll be a big area for all of industry to recognise some opportunities.” 

Beyond History

Northrop Grumman has a noteworthy track record: before the big merger that created its name in 1994, the Grumman Corporation made the NASA Lunar Module that put Neil Armstrong and other Apollo astronauts on the moon.  Its Ryan Aeronautical Company, acquired in 1999, built the Spirit of St. Louis - the aircraft that Charles Lindbergh used in his trans-Atlantic solo flight to Paris.  It has also helped pioneer stealth technology with its B-2 bomber. 

Analysts expect a new round of consolidation in the defence industry once budget cuts come into full force.   With the government planning further spending cuts, there are fears that the U.S. defence industry could be weakened for years.  In the meantime, Northrop Grumman will stay on the offensive and use its expertise and global reach to pry into new territory. 

Comment
Burtway,

The Air Force assessed months of field testing of the Global Hawk RQ-4B Block 30 by the Office of Test and Evaluation in 2011. It determined that GH could not be on station to do its job reliably. It could be on station only 27% of the time. This is because the GH system cannot provide the maintenance data that would allow it to be fixed in time to use when needed. You can find the OTE report online under the title "RQ-4B Global Hawk Block 30 Operational Test and Evaluation, May 2011". As it states, "Air Force maintenance personnel are unable to evaluate the large number of presented fault codes to identify specific system failures." Can't this be fixed? Yes the Navy variant called Triton is addressing many GH problems. However congress is forcing on the service the flawed Global Hawk Model 30. Fix it first, then buy!

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