Give credit where credit is due. DefenseNews.com called it.
Last month, The Wall Street Journal reported on Boeing's (NYSE:BA) plans to "concede the fighter market" to Lockheed Martin (NYSE:LMT), shift the focus of its defense business away from building fighter jets, and focus on building "bombers, drones, and trainers" instead.
The catalyst for this move was said to be the fast-approaching end of F/A-18 fighter jet production in 2017, and the potential shutdown of F-15 fighter jet production lines in 2019. As Boeing Defense, Space & Security head Chris Chadwick explained to the Journal, "You have to face reality." And if customers aren't buying Boeing fighter jets anymore, it's time for Boeing to exit the business -- and focus on giving customers what they do still want from it.
As I said, The Wall Street Journal reported all of this last month. But DefenseNews.com (a division of Gannett Company (NYSE:GCI), which also produces USA Today) predicted this would happen nine months ago, in a column that came out in January. So, DefenseNews deserves some kudos. That's not to say that nothing new has happened in the ensuing nine months, however.
Notably, WSJ reports that despite Boeing's efforts to convince Congress that the U.S. Navy needs to buy 100 EA-18G new "Growler" electronic warfare versions of the F/A-18, the Pentagon begs to differ -- and has asked Congress to fund the purchase of precisely zero Growlers in fiscal 2015. (Website DoDBuzz notes, however, that the U.S. House of Representatives, at least, wants to buy about a dozen Growlers. Even so, Boeing must share revenues on any such contract with Northrop Grumman (NYSE:NOC), which built the Growler's predecessor, the EA-6B Prowler, and still does the electronic warfare equipment in the Growler).
Adding injury to insult, DoDBuzz reports that the Pentagon wants to pull 51 F-15Cs out of Air Force service, hurting Boeing maintenance-and-upgrades revenue. And adding insult to injuries-and-insults already sustained, the money saved on not maintaining Boeing F-15s would almost certainly be used to buy more F-35 fighter jets from Lockheed Martin.
The future for Boeing
So, where does this leave Boeing as a defense business? Assuming a lenient Congress and continued international interest, production of the E/A-18G and F-15 may continue for a few years. But even so, the writing is on the wall for Boeing's defense business. But going forward, the company will be cutting costs at its defense division, and focusing efforts on trying to win business in trainers, bombers, and drones.
Let's take a quick look at those.
The big opportunity in training jets is the Air Force's "T-X" program, in which USAF will seek a replacement for Northrop Grumman's T-38 Talon, in use since 1959. It's a big opportunity for Boeing to be sure. Some analysts estimate that the Air Force could buy as many as 350 trainers to replace their T-38 fleet -- with additional sales to other branches of the military, and to foreign buyers, which could push total sales up past 1,000 units. If that happens, total sales from T-X over time could exceed $50 billion in value.
Everyone from General Dynamics (NYSE:GD) and Northrop to Saab, BAE, and Finmeccanica abroad, will be gearing up to compete for this prize. So Boeing is anything but a "lock" to win it. Indeed, Air Force pilots will be training to fly primarily fighter jets built by Lockheed Martin: F-16s and F-35s (and yes, Boeing F-15s as well). Logically, you'd think pilots would do better training on jets built by the same company that builds the planes they're training to fly. That seems to give Lockheed Martin the edge in this competition.
The opportunity in bombers could be even bigger -- a potential $55 billion contract to build 100 Long-Range Strike-Bombers (LRSB) for the Air Force. Boeing is teaming up with Lockheed Martin to bid on this contract. You might think that co-opting its fiercest rival would help Boeing's chances of booking a win -- and you'd be right. But even the combined forces of Boeing and Lockheed could struggle to defeat the Air Force's incumbent stealth bomber builder, Northrop Grumman -- which is also an expert in drone technology. (And yes, it's entirely possible that the Air Force's next stealth bomber will be a drone.)
And speaking of drones ... we don't speak about drones a whole lot when discussing Boeing. This is because Boeing, while a behemoth in commercial airplanes, a near-sole provider in aerial refueling tankers, and (historically) a force to be reckoned with in fighter jets, quite simply isn't very hot stuff when it comes to drone-building.
To date, Boeing's most famous drone is the smallish ScanEagle -- the drone that helped rescue "Captain Phillips" from Somali pirates back in 2009. But technically, Boeing didn't even build the ScanEagle solo. Rather, it bought the company (Insitu) that did -- and paid through the nose for it, too.
Fact is, when it comes to drone-building, there are really two leading manufacturers in America -- and Boeing isn't either one of them. In low-tech, prop-driven drones, General Atomics basically owns the market. In high-tech, jet-powered, carrier-landing capable drones, Northrop Grumman dominates.
The upshot for investors
Now don't get me wrong. I'm not saying that Boeing is about to be shut out of the defense industry entirely and forever. Far from it.
Fact is, I see at least two thirds of Boeing's defense business as safe from the risk of losing the fighter jets business -- and I see at least the potential for Boeing recouping part of the missing "third" through winning new business in trainers, bombers, and drones. I mean, raise your hand if you had even heard of General Atomics before the company basically invented the drones industry from whole cloth. Raise your hand if you guessed beforehand that it would be Northrop Grumman -- best known as an EW specialist and a shipbuilder -- that would master the concept of building robotic helicopters.
But the plain fact of the matter is that Boeing's got a tough row to hoe if it wants to remain a dominant player in defense. Like Boeing Defense, Space & Security head Chris Chadwick said, "You have to face reality."