Pentagon Expected To OK NNS Deal

The Pentagon is widely expected to clear the proposed $2.1 billion merger between the two remaining U.S. builders of nuclear submarines and aircraft carriers, eliminating prospects of any future competition between former rivals. Defense Department officials recognize the peculiarities of the situation faced by General Dynamics Corp. and Newport News Shipbuilding Inc., according to antitrust lawyers, industry consultants and Wall Street analysts. With only one major customer -- the U.S. military -- and declining demand for nuclear submarines, there is simply not enough business to go around.

"Let's face it, there's only one buyer in these kinds of situations," said Richard Steuer, chairman of the antitrust practices group at Kaye, Scholer, Fierman, Hays & Handler in New York. "So its incumbent on the Defense Department to convince the DOJ (Department of Justice) it can work with that type of situation." Defense industry experts have speculated for months that the Bush administration would be more open to further consolidation than its predecessors.

What's more, the merger now has the support of U.S. Sen. John Warner, chairman of the Senate Armed Services Committee. The Virginia Republican was a strong opponent of a General Dynamics-Newport News combination in 1999. "Clearly, from the top there is an attitude that we've got to let defense companies do more to ensure their future viability," said Phil Finnegan, industry analyst at Teal Group, a Virginia-based aerospace and defense research firm. "There is a new administration, which is likely to have a less stringent antitrust policy."

Competition v. Cost Savings

While both General Dynamics and Newport News Shipbuilding develop nuclear vessels for the U.S. military, neither company makes the same product. They do not even bid on the same programs. The companies stopped competing against each other for Pentagon programs in 1991, with the contract for the Seawolf submarine. Since then, General Dynamics has focused on nuclear submarines, producing attack subs and the last of the Trident ballistic missile subs. Newport News has focused on nuclear aircraft carriers. They already work together through a joint venture to build the new Virginia-class attack submarine. "Our businesses are complementary, as opposed to competitive," said Nicholas Chabraja, General Dynamics' chairman and chief executive. "These companies cry out to merge together. It's a natural phenomenon and a logical next step."

General Dynamics previously tried to merge with Newport News in an unsolicited, 1999 bid valued at about $1.8 billion. That offer was squashed after concerns it would have created a monopoly builder of attack submarines and would leave only one company in charge of nuclear work. It also came toward the end of a nearly decade-long consolidation phase that brought the number of top defense contractors down to six from 20. Antitrust experts in Washington said General Dynamics' new proposal has a much better chance of winning approval from the Pentagon and the Justice Department because -- unlike the first time -- it's not a hostile takeover and won't face opposition from Newport News.

In 1999, executives at Newport News contradicted General Dynamics' contention that the merger would save the Pentagon money. They argued that Newport News could cut costs just as effectively on its own. Now, executives from both General Dynamics and Newport News say they've cut costs and can only continue trimming as a consolidated concern. The chairmen of both companies called Sen. Warner, along with Republican Virginia Sen. George Allen on to brief them on the merger plan, according to Warner. The CEOs assured Warner and Allen that jobs are safe for shipyard workers at both companies.

Warner released a statement later in the day saying he had phoned U.S. Defense Secretary Donald Rumsfeld to advise him of his support. He said the companies had no alternative "if they wish to survive in this one-world market." Officials at the Pentagon also may be more receptive to the idea of consolidation at a time when the Bush Administration is both struggling to cut costs and build up the U.S. military. General Dynamics' CEO would not set a target on total cost reductions from the deal. He stressed that there were no plans to close shipyards or reduce staff, which tempers labor concerns in Virginia, the home state of both companies. The new General Dynamics would be able to trim administrative costs, reducing expenses on shared design technology, for example. That, in turn, lowers the cost of buying equipment and warfare technology for the U.S. government. "What these two companies are going to do is say, 'We can save you lots of money right away,'" said William Kovacic, an antitrust specialist at George Washington University Law School. "I think that message may be more attractive to the Department of Defense today than it was two years ago." "I think the key question is going to be what kind of cost-saving story can they tell," he said. Antitrust regulators at the Justice Department rarely oppose a merger the Pentagon recommends because without the support of the Defense Department, regulators probably could not prevail in court. "DOJ has a hard time opposing transactions if DOD will not back them up," Kovacic said. - (Reuters)