As conflicts heat up in Southeast Asia and the surrounding seas, it turns out that Japan isn't the only country worried about recent aggressive moves by China. The Taiwanese are starting to feel a bit nervous, as well. They're also doing something about it.
Meet the Taiwanese Navy, Version 2.0
Military experts say that the Taiwanese Navy, once the island nation's most neglected military service, has lately come to be viewed as "the most important" arm of the Taiwanese military. The Navy alone, goes the thinking, holds the power to sink an invading military force, and save Taiwan from invasion. Accordingly, the Navy is now becoming the focus of Taiwanese military investment.
Last month, Taiwan's government released preliminary details on a new 20-year plan to modernize its Navy. Currently composed primarily of hand-me-down U.S. and French warships -- Perry-, Knox-, and La Fayette-class frigates, and Kidd-class destroyers -- plus supporting Kuang Hua 6 fast-attack missile boats and Ching Chiang-class missile patrol boats that are built domestically. But Taiwan plans to replace this current fleet with one that's entirely domestically built.
According to DefenseNews.com, Taiwan's plan is to spend the next five to 10 years designing a new 10,000-ton destroyer, and 3,000-ton catamaran-like frigate, an amphibious transport dock (often dubbed an "LPD" or "landing platform/dock"), and a new 1,200-3,000-ton diesel submarine. Once it's designed, Taiwan will spend the succeeding 10-15 years building:
- four destroyers
- 10 to 15 frigates
- perhaps 11 LPDs
- four to eight submarines
A pair of used U.S. Tench-class diesel submarines make up half of Taiwan's current submarine force. But based on a 1944 design, Taiwan is looking to upgrade to something a little more modern.
What does it mean to investors?
At first glance, you might think this has very little import to U.S. investors in the defense industry -- and to an extent, you'd be right. The fact that Taiwan wants to invest in developing its homegrown defense industry, and build these ships entirely at home, means there's precious little opportunity for foreign defense contractors such as General Dynamics (NYSE:GD) and Huntington Ingalls (NYSE:HII) -- America's two biggest military shipbuilders -- to participate in the project. But there are still at least two good reasons that U.S. defense investors should want to be aware of what's going on in Taiwan.
First, from a "no news is bad news" perspective, we know that there's a big arms race afoot in Southeast Asia right now. According to naval analysts at AMI International, the Asian-Pacific region is currently the No. 2 market for naval arms sales globally.
AMI estimates that Asian and Pacific nations will build upwards of 1,100 warships during the next 20 years, and spend $200 billion building them. But if Taiwan's share of this military buildup becomes off-limits to U.S. defense contractors, this will mean that as much as 3.5% of potential revenues from this arms race is out of U.S. defense contractors' reach, as well. According to S&P Capital IQ data, that's $6.9 billion worth of revenues -- about a year's worth of business for General Dynamics' Marine Systems unit, or a year's worth of revenues for all of Huntington Ingalls -- that investors can count on their companies not getting a piece of.
Aside from that, Mrs. Lincoln, how was the play?
The news isn't all bad for General Dynamics and Huntington Ingalls. While they might not get a chance to build Taiwan's ships, they might very well be able to play a role in building the weapons and electronics systems that go into those ships.
According to DefenseNews, you see, Taiwan's Ministry of National Defense is still open to the idea of hiring foreign defense contractors to provide "assistance on various components and systems" that will be installed in its new navy. Taiwan has shown particular interest, for example, in acquiring RIM-161 Standard Missile 3 anti-aircraft missiles built by Raytheon (NYSE:RTN), to replace the Standard Missile 2s that currently outfit its Kidd-class destroyers (now dubbed "Kee Lung-class" destroyers).
As contracts go, that one won't be as lucrative as getting to build a whole country's entire navy from the keel up -- but in a defense spending environment like this one, beggers can't be choosers.