Lockheed’s New CEO Surprises With $4.4 Billion Old-Space Deal

Lockheed Martin Corp.’s new chief executive officer has talked up his interest in artificial intelligence and advanced communications since taking the reins six months ago. But for his first major deal, Jim Taiclet chose a longtime supplier, Aerojet Rocketdyne Holdings Inc.

Adding Aerojet should bolster Lockheed’s capabilities in missile-defense batteries, hypersonic vehicles and space, where the defense giant has a venture with Boeing Co. that competes with Elon Musk’s SpaceX. Joining with Lockheed will unlock greater potential for Aerojet as a seller of propulsion systems to other industry players, Taiclet told investors Monday.

The acquisition faces a range of potential obstacles, however. Competitors may challenge the deal. Lockheed’s purchase of Aerojet is also likely to provide an early test of antitrust policy under President-elect Joe Biden -- and his administration’s willingness to allow consolidation among U.S. defense suppliers. Wall Street, meanwhile, was taken aback by Taiclet’s play for an old-school manufacturer that has been making rocket motors since the Cold War.

“It is our sense that investors were focused on LMT pursuing deals in the realm of next generation defense electronics and communications, not in rocket propulsion,” said Ron Epstein, an analyst with Bank of America Corp., referring to Lockheed by its stock ticker. “This may fuel worries over slowing share buybacks at a time when there are already concerns over slowing defense spending.”

Lockheed shares fell 1.9% to $349.35 at the close in New York, while Aerojet soared 26% to $52.77.

What Bloomberg Intelligence Says

“Acquiring Aerojet Rocketdyne brings propulsion systems in Lockheed’s key missile-defense programs in-house, improving costs, as well as expanding opportunities in space launch, where affordability is vital to securing work in the fast-growing and increasingly competitive sector.”

--Douglas Rothacker, aerospace and defense analyst

--Click here to read the research

Taiclet and his colleagues insisted the defense titan will continue to repurchase its stock, with about $1 billion targeted for next year. The Bethesda, Maryland-based company plans to finance the Aerojet acquisition through cash and debt.

Under the terms of the $4.4 billion deal -- approved unanimously by the boards of both companies and expected to close in the second half of next year -- Lockheed will effectively buy Aerojet for $51 a share. That’s a 21% premium from the closing price on Friday.

Aerojet also declared a $5 per share special dividend for shareholders of record as of March 10. The payment, which will be made before the deal closes, will effectively reduce Lockheed’s offer of $56 a share, according to a company statement Sunday.

Strategic Fit

The buyout mirrors Northrop Grumman Corp.’s 2018 takeover of Orbital ATK, which “locked out” competitors such as Boeing from tapping the only supplier of large-diameter solid rocket motors, analyst Ken Herbert of Canaccord Genuity wrote in a note to clients.

Boeing and Raytheon Technologies Corp. have “the most to lose” as another independent rocket-motor company gets snapped up, Herbert said. The companies rely on Aerojet’s propulsion for almost all of their space, hypersonic and missile programs, from Boeing’s Starliner capsule to Raytheon’s Tomahawk cruise missiles. And in a twist, both companies have owned Rocketdyne, which merged with Aerojet in 2013.

Last year, Boeing dropped out of an $85-billion contest for a next generational intercontinental ballistic missile system against Northrop, contending that it was blocked from getting technical and pricing information from Orbital after the merger.

Representatives Boeing and Raytheon declined to comment when asked if they intended to challenge the latest deal.

Apollo Roots

Aerojet has been making solid rocket motors 60 years, while providing propulsion for pioneering National Aeronautics and Space Administration efforts like the Apollo program. The main engines that it built for the old U.S. Space Shuttle have been refurbished for the Space Launch System, the heavy-lift rocket being built to counter Musk’s Space Exploration Technologies Corp.

Together, Aerojet’s engines and Lockheed’s spacecraft are a good strategic fit, with little overlap and deep commercial ties, said Roman Schweizer, an analyst at Cowen & Co. The defense giant is Aerojet’s largest customer, accounting for 34% of sales, while Lockheed’s United Launch Alliance partnership with Boeing adds another 10%.

Boeing and Raytheon probably don’t have the fire power to muster competing bids, even though the breakup fee for Lockheed’s transaction is only $150 million, Schweizer said. “Lockheed’s competitors will grouse,” he said, but Northrop’s Orbital acquisition “sets up a workable framework” for regulatory approval.

Taiclet was known for his deal-making acumen when he joined Lockheed in June, and he’d signaled that acquisitions were a strategy to boost sales in an era of constrained defense spending. The former U.S. Air Force pilot pursued a long list of mergers to help build the market value of his previous company, American Tower Corp., from $2 billion to $100 billion over 17 years.

‘Growth’ Potential

In a conference call with analysts, Taiclet touted the efficiencies and savings for Lockheed and the U.S. government by bringing propulsion in-house. Aerojet is one of Lockheed’s largest suppliers, and adding its engineers and technology will streamline product development while eliminating fees that are usually charged by military subcontractors to maintain their profits.

About a third of the estimated $100 million in cost savings from the acquisition will be returned to customers, Taiclet said.

“We’re going to be a better business together than we ever could have been separately,” Taiclet said. “I’m very confident that we will get through that integration process to deliver that endpoint.”

There may be a bigger payoff if Taiclet can find new ways to bolster Lockheed’s sales beyond its F-35 fighter, the company’s main source of revenue.

“If Lockheed can get a ‘growth’ versus ‘value’ reputation that would have a much greater impact on the valuation multiple and the share price,” said Rob Stallard, an analyst with Vertical Research Partners. “Getting investors to buy into this remains a challenge, but even with a conservative target multiple of 15.5x we are still showing material upside.”

©2020 Bloomberg L.P.

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