Orange County’s aerospace and defense companies are likely to continue buying in the coming year, according to analysts.
Aerospace is a cyclical industry, driven by the government’s defense budget and the economy as a whole. A downturn in the industry is usually a sign that there’s more merger and acquisition activity to come.
“You will see more consolidation despite the fact that aerospace is growing,” said Hector Cuellar, president of RSM EquiCo Inc.’s capital markets group in Costa Mesa.
The question is who’s left to buy here?
Possible targets include Costa Mesa-based Ceradyne Inc., a maker of ceramic body armor and braces, Arrowhead Products Corp., a maker of metal ducts for airplanes in Los Alamitos, and Synchronous Aerospace Inc. in Santa Ana, which makes parts for Joint Strike Fighter planes and the Apache helicopter.
There’s a bit of debate as to whether the local companies will start to see a downturn in business. Most industry watchers say the industry’s already peaked.
“I think we certainly have peaked relative to the core defense spending,” Cuellar said. “It’s not just the war, it’s (spending on) new technologies, new programs.”
Other experts say the aerospace and defense industry is far from heading toward a dramatic downturn.
“I think that we are at the crest of the cycle right now, but the crest is going to be broader than normal given the overall strength of the economy,” said Kevin McFarlane, managing director at Deloitte & Touche in Los Angeles.
Growth will continue to be fueled by the military’s presence in Iraq and the war on terror, Cuellar said.
The military will turn to local companies for supplemental contracts, the “guns and underwear” orders that replenish supplies used in combat, he said.
“The supplemental piece will continue to climb,” Cuellar said. “When you have a war on a couple of fronts, you need a lot of equipment.”
Aerospace and defenses companies are set to see more business from contract renewals and the extension of others for repair and maintenance services.
“Since we are not moving out of Iraq as soon as many would have liked, we still see a solid amount of spending in 2007 and 2008,” Cuellar said.
Companies that supply to top-tier contractors such as Boeing Co. and Raytheon Co. are set to be the most active in the mergers and acquisition market, McFarlane said.
Midsize companies looking to win more business from big contractors could snatch up smaller suppliers that provide parts and such, according to McFarlane. It makes them more efficient suppliers to the big contractors and keeps costs down, he said.
“We’ve seen a lot of suppliers looking to be more significant to the original equipment manufacturers,” McFarlane said.
McFarlane helped with French aerospace company Zodiac SA’s $600 million buy of Huntington Beach-based C & D; Aerospace Group in 2005.
C & D; designed commercial and military aircraft cabin fixtures, including overhead bins and cabin lighting.
“Zodiac wanted to be more significant to its customers,” he said.
Record plane building during the next five years is likely to push local suppliers into this type of consolidation, McFarlane said.
“Boeing and Airbus continue to look for lower costs and people who can supply systems instead of just parts,” Cuellar said. “That has a trickle-down effect. It starts from the top as the manufacturers push their requirements down the supply chain.”
Last year, Britain’s Hampson Industries PLC spent $56 million to buy Coast Composites Inc., an Irvine-based maker of molds for airplane parts.
Others like Zodiac are looking to gain market share on the supply chain.
In January, Portland, Ore.-based Precision Castparts Corp. announced a deal to buy Cherry Aerospace LLC in Santa Ana for $300 million.
Cherry, which makes rivets and bolts, is set to become part of Precision’s fastening systems for commercial and military aircraft. Precision bought two other OC fastening businesses in recent years.
Aerospace companies are seen as good investments for companies flush with cash.
“They are relatively easy to understand, asset intensive and they have long lasting customer relationships,” McFarlane said. “All of those characteristics are attractive.”
Britain’s Smiths Group PLC said in January it is set to sell its Smiths Aerospace division to General Electric Co. for about $5 billion.
The move was part of GE’s strategy to grow its aerospace divisions.
Smiths Aerospace has a Santa Ana facility where landing gear for military helicopters is made.
Experts expect more deals where smaller niche players are snatched up because of their unique technologies,which typically fit into a larger company’s strategy.
“Anything that helps the connectivity becomes very attractive for the large cap companies,” McFarlane said. “All of the smaller, not as well-known players that have niche technologies are where you’ll continue to see an active market.”
