A failed merger that puts a defence giant at America’s mercy

Marc Sidwell
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THE merger of BAE and EADS should always have been seen as a long shot. The two firms may have agreed on the commercial logic of tying the knot, but they should have recognised it would never be simple to get the German, French and British governments to sign off on the marriage.

As such, both sides should have had a plan B at the ready to appease shareholders, analysts and interested politicians alike. BAE in particular now looks vulnerable: it has publicly exposed its need for a partnership to diversify its business away from declining defence revenues but is left with no obvious contender in sight. In hindsight, its disposal of Airbus to EADS in 2006 looks like a significant strategic blunder.

Will a US player like Lockheed attempt to swoop in? The UK government’s golden share will protect against any further unwanted offers, but that hardly answers the question of BAE’s future profitability. Warm words from the coalition about rebalancing Britain’s economy to manufacturing look increasingly tepid with our most important manufacturer suddenly swinging in the wind.

Yet gloom over BAE’s independent future may be overblown. The UK is in no position to expand its military spending any time soon, but America, despite appearances, may be another story. Given the scale of its debts, the US does need to trim its spending, but its ability to cut defence budgets is notoriously constrained by commitments overseas and lobbying for jobs and government cash at home.

After the presidential election in November, attention in the US will turn to negotiating an alternative to falling off the fiscal cliff at the end of the year, when automatic cuts to military spending are scheduled to come into force. The sheer scale of these defence cuts – $500bn (£312bn) over a decade, with $55bn in the first year – argues against the likelihood of them going through in full force come 2 January. Mitt Romney this week also promised to end President Obama’s additional defence cuts: “I will roll back President Obama’s deep and arbitrary cuts to our national defence that would devastate our military. I will make the critical defense investments that we need to remain secure.”

After its bruising encounter with European self-interest, BAE has little reason to trust to the whims of foreign politicians. But Obama’s disastrous debate performance means there is still some chance of a President Romney in the White House and, whoever wins the presidency, of some form of fiscal cliff climbdown. BAE might look in a far stronger position come the spring than it does now.