United Technologies, Raytheon Are in Deal Talks

(Bloomberg) -- United Technologies Corp. and Raytheon Co. are in talks about a deal that would create an aerospace and defense industry giant, according to a person familiar with the matter.

The all-stock transaction could be announced in the coming days, according to the Wall Street Journal, which first reported the talks. United Technologies has a market valuation of about $114 billion, while Raytheon is valued at about $52 billion.

The deal would extend the transformation of United Technologies under Chief Executive Officer Greg Hayes, who is already spinning off his company’s Carrier climate-controls and Otis elevator operations. With Raytheon, Hayes would double down on aerospace and defense after last year completing the $23 billion acquisition of Rockwell Collins, a provider of cockpit displays. One benefit would be more negotiating power with the so-called prime defense contractors such as Boeing Co.

“Clearly, Greg Hayes has decided that he wants to fashion the biggest aerospace and defense enterprise in the world,” said Loren Thompson, a defense analyst at the Lexington Institute, a defense research organization that receives funding from Lockheed Martin Corp. “With this transaction he’s most of the way there.”

Hayes is expected to lead the new company, while Raytheon’s Thomas Kennedy would become chairman, the paper said. The combination will probably be billed as a so-called merger of equals, the Journal reported, while saying United Technologies shareholders are likely to own a majority of the new company.

Michele Quintaglie, a spokeswoman for Farmington, Connecticut-based United Technologies, declined to comment. Mike Doble, a spokesman Waltham, Massachusetts-based Raytheon, didn’t immediately respond to a voice mail requesting comment outside of office hours.

A Pentagon spokesperson said the Defense Department won’t comment on merger talks between private companies.

Defense Powerhouse

The combination would create a powerhouse in defense contracting with products from Patriot missiles to the Pratt & Whitney engines on Lockheed Martin’s F-35 fighter jet.

Combining United Technologies’ aerospace business, which is expected to generate $50 billion in revenue in 2020, and Raytheon’s $30 billion would create the second-biggest western aerospace defense company, according to Douglas Rothacker, an aerospace/autos analyst at Bloomberg Intelligence. That puts it behind Boeing but ahead of Airbus SE, offering an “impressive breadth of products” from commercial to defense systems, he said.

In Bloomberg Opinion: Raytheon Is the $50 Billion Finishing Touch

“It would be an enormous supplier to the primes, particularly Boeing, which would give the new company more negotiating power,” said Richard Aboulafia, an aerospace analyst with Fairfax, Virginia-based Teal Group.

Consolidation Concerns

M&A in the industry slowed to $40 billion in the 12 months through March, according to Bloomberg Intelligence.

“Aerospace suppliers have been, and will continue to be, under immense pressure from Boeing and Airbus to cut costs,” Rothacker said. “We’ve seen consolidation in the sector as a way to counter these pricing and competitive pressures, and also diversify to add revenue streams.”

While antitrust risk in the deal is low because the companies’ main businesses don’t compete, according to analysts, the Defense Department’s views will be important to antitrust enforcers, said Jennifer Rie at Bloomberg Intelligence in New York. The Department of Justice and Federal Trade Commission rely on the Pentagon to evaluate competitive effects from deals in the defense industry because it’s often the only purchaser, they said in a 2016 statement.

“We don’t expect DoD to raise strong objections to the deal,” analyst Byron Callan of Capital Alpha Partners wrote in a note Sunday. He said there may be small divestitures where there’s overlap with businesses picked up with the earlier Rockwell Collins purchase. The overlap may not be readily apparent because some programs are classified.

“Because this appears to be more of a horizontal portfolio expansion, we doubt there’s much room for cost savings from facilities’ consolidation,” Callan wrote.

Callan is skeptical the deal would be a true merger of equals.

“This looks more like an acquisition of Raytheon,” he wrote, adding that that calls into question whether Raytheon may now be in play as an acquisition target by other companies.

United Technologies shares are trading at 16.6 times estimated earnings, slightly ahead of the 16 times for Raytheon. Both stocks have risen more than 20% this year, exceeding the 15% gain in the S&P 500 Index.

--With assistance from Chiara Vasarri, Hailey Waller, David McLaughlin and Katherine Chiglinsky.

To contact the reporters on this story: Brendan Case in Dallas at bcase4@bloomberg.net;Ranjeetha Pakiam in Singapore at rpakiam@bloomberg.net

To contact the editors responsible for this story: Elizabeth Fournier at efournier5@bloomberg.net, Kevin Miller

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