"An army marches on its stomach," Napoleon Bonaparte once said. But what about a navy?
It floats on a sea of oil. And in the modern U.S. Navy, it's America's fast combat support ships, built by General Dynamics (NYSE:GD), that bring the oil to the warships.
Dubbed "T-AOEs" by the Navy's Military Sealift Command (MSC), fast combat support ships such as the USNS Supply, shown above, can carry as many as 177,000 barrels of fuel in their hold -- and 2,150 tons of ammunition, 500 tons of dry food, and 250 tons of refrigerated food besides. Manned by civilian crews, the four vessels of the T-AOE class serve in the MSC's Naval Fleet Auxiliary Force, keeping U.S. carrier battle groups fueled and supplied while at sea.
But this mission may be in jeopardy.
Defense News reported that the Navy plans to retire two T-AOEs -- half the fleet -- over the course of the next year. Complaining that the ships are too expensive to operate in an era of constrained defense budgets, the Navy proposes replacing the all-in-one vessels with smaller, slower "T-AO" oil-supply ships and "T-AKE" dry goods-and-ammunition carriers. But this could be problematic.
Cruising at 25 knots, T-AOE-class vessels are 25% faster than the MSC's T-AKEs, and T-AOs, both of which max out at 20 knots. That's still not as fast as a nuclear-powered aircraft carrier tooling across the ocean at 30 knots or more, but it's a closer match. Defense News also noted that it takes a pair of T-AOs and T-AKEs about 50% longer than a T-AOE, working on its own, to "fill up" a carrier with ammo and jet fuel.
But there may be a solution to this problem. Even as it plans the T-AOE's retirement, the Navy is angling to get a new class of support vessel built, tentatively monikered "T-AO(X)." These are planned to be an improvement on the 14 T-AO oilers currently in the fleet.
Meet the T-AO(X), America's newest, fastest floating gas station
With an estimated speed of between 20 and 26 knots, the new T-AO(X) class of oiler could well turn out to be fully as speedy as the T-AOE. The new vessel is also said to have increased capability to carry dry goods and ammunition, so it could theoretically perform the T-AKEs' mission as well.
According to a Congressional Research Service report, the Navy plans to buy its first T-AO(X) tanker in 2016 for an estimated $682 million, and to put it in service four years later. However, Strategic Mobility Combat Logistics Division chief Scott DiLisio, who reports to the chief of naval operations, said costs could rise as high as $690 million per T-AO(X) oiler. Current plans call for a 17-ship build out, enough to replace all the current T-AO vessels, as well as one of the retired T-AOEs.
At $682 million a pop, we'd probably be looking at roughly an $11.6 billion program, beginning with a first purchase in 2016, pausing to evaluate any changes necessary in 2017, then resuming with a build out of one ship per year, through 2033 (with final delivery in 2037).
What it means to investors
Potential builders include T-AOE incumbent General Dynamics, rival defense contractor Huntington Ingalls (NYSE:HII), and VT Halter Marine -- which S&P Capital IQ says is a subsidiary of foreign-listed Singapore Technologies Engineering. Last summer, the Navy awarded all three companies small contracts to begin working up proposals for the T-AO(X) program.
Of the three, General Dynamics probably has the edge on winning this contract by virtue of (a) its incumbent status and (b) the fact that GD has been building out its expertise in this space with a series of recent contract wins to build tankers for civilian companies such as SEACOR Holdings (NYSE:CKH) and Kinder Morgan (NYSE:KMI). With an operating profit margin of nearly 10% in its marine systems business, a win for GD could mean as much as $1 billion in extra profit. Huntington Ingalls, with a profit margin of just 7.5% from shipbuilding, would get significantly less out of a win, and thus benefit investors proportionately less.
The upshot: Defense investors should probably be rooting for General Dynamics to win this one -- and invest appropriately.
Rich Smith has no position in any stocks mentioned. The Motley Fool recommends Kinder Morgan. The Motley Fool owns shares of General Dynamics and Kinder Morgan. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.