The impact of Covid-19 on M&A activity in aerospace, defence and security
The impact of Covid-19 on M&As in the aerospace, defence and security industries is ongoing and can be divided into three phases: short-term response, medium-term impact and long-term trends.
Having already seen the short-term impact, at present, we are likely seeing the medium-term impact occurring. The longer-term impact through macroeconomic conditions is harder to gauge but will be different in character from the short and medium-term impacts.
Liquidity and broader finance issues amongst tech and other sensitive companies in the political west due to the economic fallout of Covid-19 have resulted in key government measures to protect companies from foreign investment or acquisition, specifically Chinese attempts at acquiring tech companies for their intellectual property and security-critical technology.
A map of aerospace, defence and security M&As completed in 2020 by deal volume, as recorded by GlobalData.
Immediate responses to Covid-19 in M&A activity
The short-term impact of Covid-19 was seen in the pausing of manufacturing and corporate activity. Measures were taken at government level to protect the supply chains in the defence domain, but the massive exposure to commercial markets rapidly became evident.
Initiatives such as the CARES Act in the US sought to push cash through the system to preserve the supply chain. Due to the overlap between commercial and defence aviation, initiatives to preserve the defence supply chain have provided a cash lifeline to companies that straddle both domains.
The process of cash preservation and risk aversion in particularly uncertain times naturally mitigated against mergers and acquisitions.
Foreign investment in critical and sensitive technologies is undergoing increased regulation, with efforts being made to prevent companies vulnerable due to macro-economic circumstances from being acquired by the lure of foreign money.
The medium-term impact of Covid-19 on M&A activity
In the medium term, the inability to compensate for the exposure to commercial aviation and the collapse of the civil aviation market globally is having a significant impact on the companies that survived the cash-flow crisis in the short term.
The dominant pattern is the pursuit of efficiencies and restructuring for the new market landscape. Vertical integration in supply chains will occur whilst primes will seek to dispense with segments outside of core business.
This pattern is widely believed to be one of the underlying reasons for the Boeing-Embraer collapse, where Boeing stated the reason for withdrawal was Embraer not fulfilling requirements. The agreement specifically stated pandemics are not a valid reason for withdrawal.
Long-term trends in M&A activity due to Covid-19
The aerospace recovery timeline currently suggests commercial aviation and passenger traffic volumes will reach pre-pandemic levels in 2024, by which time many companies will have passed their capacity to survive. In the defence space there is much greater resilience, but macro-economic factors will influence how companies cope in the longer term.
This will result in the necessity to acquire or support specific value chain portions that economically do not make sense but cannot be lost for security reasons. Current examples of this include Sheffield Forgemasters in the UK providing important components for the Royal Navy’s Nuclear submarine fleet and the renationalisation efforts of the Atomic Weapons Establishment.
After a sustained period of focus on asymmetrical warfare, the peer-to-peer environment will see specific relevant technologies mature and proliferate more rapidly, which will be reflected in M&A patterns. Primes will be seeking to integrate vertically to protect their supply chains and acquire smaller companies for their technology and position in specific markets. Examples of this include Huntington Ingalls’ acquisition of Hydroid for its position and technology in the uncrewed segment, and Oshkosh’s acquisition of Pratt Miller for its robotics and unmanned technology and positioning.
Other key technology areas for M&A activity will be hypersonics, uncrewed combat aerial vehicles, engine technology, artificial intelligence, and counter uncrewed aerial systems.
Fiscal pragmatism will also mean that companies typically operating in the commercial sector will be tempted to acquire entry to defence work. Examples of this would be aircraft conversion for special mission roles, or defence aerospace maintenance, repair and overhaul.
For a number of primes, the exposure to collapsed commercial markets cannot be compensated for in any other market – think Boeing and Airbus – and this is also true for major suppliers, for example Spirit Aerosystems and Rolls-Royce. Entry into emerging technologies and markets through acquisition or merger activity is an option in some instances, for example in the space sensor value chain, or green technologies. Macro-economic circumstances will drive many primes to divest in order to focus on core business and retain cash with limited risk, whilst other non-Covid-19 related factors will drive acquisitions.
A major market geography, the European component on NATO, will see expenditure artificially inflated through the Covid-19 recovery period for several reasons. Defence expenditure is typically benchmarked against GDP as a percentage, with NATO members aspiring to spending 2% of GDP on defence. The macro-economic impact of Covid-19 (and other factors) naturally means that actual spend and thus market size, when aligned with GDP percentage, will be a reduced figure. This figure has previously been expected to be stable in most areas and climbing moderately in others.
Another critical point in understanding these numbers is that several European NATO members are likely to increase infrastructure expenditure and count it as defence expenditure, as has been made apparent in EU budget debates. This increased infrastructure spend will come from an already reduced budget for more traditional articles under this portion of the budget. Added to the divide in NATO in terms of orientation towards Russia or China as the primary threat, this is significant as a factor for companies operating in this space, and their M&A options and strategies.
|Deals value by theme||2019||2020|
|Internet of things||$101bn||$43.7bn|
|VR and AR||$1.3bn||$34bn|
Source: GlobalData thematic research: M&A in Aerospace, Defense, and Security 2020. You can find the full report in the GlobalData Report store. For more insight and data, visit GlobalData's Aerospace, Defense & Security Intelligence Centre.