Bloomberg July 17, 2002
Northrop CEO Has to Prove TRW Purchase Is Worthwhile
Los Angeles, July 17 (Bloomberg) -- Northrop Grumman Corp.
Chief Executive Kent Kresa is spending $11.8 billion to buy
defense-industry rival TRW Inc. Shareholders ask: What's in it for
them?
Kresa, who faces mandatory retirement in eight months, had
already made $9 billion in acquisitions and more than doubled the
No. 3 U.S. defense contractor's sales since 1998. Since the TRW
deal on July 1, Northrop's shares had dropped 13 percent after
surging in the prior 12 months.
``We will see if over time that will pay off for
shareholders,'' said Matt Lamphire, an analyst with Northern Trust
Corp., which owned 581,674 Northrop shares as of March.
Northrop's second-quarter earnings surged 60 percent, helped
by several large military contracts and the acquisitions of
Newport News Shipbuilding Inc. in January and Litton Industries
Inc. in May 2001. Net income rose to $182 million, or $1.53 a
share, from $114 million, or $1.28, in the year-earlier period.
Sales increased 20 percent to $4.39 billion, the company said.
Shares of Northrop rose $2.98 to $111.48 in midday trading.
Kresa, 64, raised Northrop's bid for TRW twice to win rival
management's support. The purchase will make Los Angeles-based
Northrop one of the largest providers of sensors used on military
satellites and give it a bigger share of the U.S. missile-defense
program. Northrop expects to complete the purchase in the fourth
quarter.
TRW Program
Part of the boost that TRW is supposed to provide is a
missile-defense satellite system that Congress members and
Pentagon officials have criticized for cost overruns and schedule
delays. Kresa will have to keep the program, known as Space-Based
Infrared System Low, from becoming further over budget and behind
schedule, analysts said.
Kresa's biggest challenge will be ``just trying to keep the
program on track,'' said Paul Nisbet, an analyst at JSA Research,
who rates Northrop a ``buy'' and owns the shares.
Northrop, once the maker of the B-2 stealth bomber, is making
acquisitions to take advantage of increased defense spending,
Kresa said in February.
Kresa and other Northrop executives declined to be
interviewed for this story, prior to the release of the company's
earnings.
Satellite Business
The company is buying TRW for its space and electronics unit,
which makes military satellites and missile systems, and a unit
that provides computer services for government.
``I am convinced that TRW will be worth the trouble as it
gives Northrop the piece to their portfolio that they were missing
-- the satellite business,'' said Kevin McCloskey, who helps
manage $180 billion in assets for Federated Investors Inc.,
including Northrop shares.
Robert Friedman, an analyst at Standard & Poors, says he
isn't convinced.
``The margins in TRW are all right, but nothing
spectacular,'' said Friedman, who rates Northrop ``hold'' and says
he doesn't own the shares. ``I don't think it's going to add
materially to their long-term earnings growth and profitability
prospects.''
Tracking Missiles
The TRW program, a network of satellites to track the
movements of enemy-ballistic missiles, is integral to President
George W. Bush's plan to develop a missile-defense system,
analysts said.
The first satellites were originally scheduled to launch in
2004. The Pentagon is now saying the first launch will be in 2006.
The program's estimated cost has swelled to more than $23 billion
from $10 billion in the past year amid software design problems
and growing estimates of the weight of the satellites, military
analysts have said.
``It's not clear right now that it can work,'' said Andrew
Krepps, a junior fellow at the Carnegie Endowment for
International Peace, a group critical of missile defense. ``They
have some significant obstacles to overcome.''
Another TRW contract to process military travel orders may be
terminated if a government study shows that it would cost more
than the existing system, Pentagon officials have said.
Litton and Newport
Kresa, Northrop's CEO since 1990, inherited poorly performing
programs from Litton and Newport, including Litton's construction
of the LPD-17 amphibious assault ship. Costs on the first LPD-17
have increased by more than 50 percent, and the first delivery is
two years behind the initial schedule. Newport's USS Ronald Reagan
aircraft carrier also was late and will cost more than estimated.
Getting the TRW satellite program in shape will be even more
difficult, said John Pike, director of GlobalSecurity.Org, a
defense-research organization. To make the program succeed,
Northrop will have to get a network of 24 satellites to
communicate with one another and with ground stations so that they
can recognize the difference between U.S. and enemy missiles,
analysts said.
``They are trying to do things that have never been done
before,'' said Philip Coyle, former head of the Pentagon's office
of weapons testing and evaluation and now a senior adviser to the
Center for Defense Information, a Washington research group.
Pentagon Contracts
The acquisition of Cleveland-based TRW will add $2 billion in
Pentagon contracts. Based on contracts awarded last year, Northrop
would still rank third, behind Lockheed Martin Corp. and Boeing
Co., with $13 billion in awards. Lockheed had about $14.7 billion
in Pentagon contracts and Boeing had $13.3 billion.
Northrop upset rivals during the quarter for two big military
contracts. In June, Northrop and Lockheed won a $17 billion order
to overhaul the U.S. Coast Guard's ships, aircrafts and control
systems. A Northrop-led team won a $2.9 billion contract in April
to design a new class of U.S. Navy destroyer.
TRW is scheduled to report second-quarter results tomorrow.
The company earned about $1.09 a share, up from 65 cents a year
ago, according to a First Call survey of analysts.
--Jonathan Berr in Princeton, (609) 750-4516 or
jberr@bloomberg.net, with reporting by Tony Capaccio in
Washington, through the Princeton newsroom. Editors: Babula,
*McCorry, Babula.
Copyright 2002 Bloomberg
