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Aerospace and Defense M&A

By: Francois Herman (McGill), Gurneek Gill (UCL), and Abilash Prabhakaran (MIT)

Photo: John McArthur (Unsplash)

 

I. Industry Background


The Aerospace and Defense (A&D) industry faced significant challenges over the past two years, especially in the commercial aircraft sub-sector due to reduced air traffic during the COVID-19 pandemic. Nonetheless, commercial air travel underwent a small rate of recovery, so M&A activity decreased in 2020, barring several deals that were desperately put together. Also, cross-border deals plunged from their 36% average over the previous two years to 17%.


However, in Q3 and Q4 of 2020, M&A deal activity picked up alongside economic recovery and as dealmakers became more in sync with remote diligence activities. Additionally, companies with unique technology became high-demand acquisition targets due to their extremely valuable intellectual property. Moreover, deal value also began to increase as EBITDA multiples rose back to pre-pandemic healthy levels and this momentum carried on into 2021 as many multi-billion dollar deals were agreed for A&D companies looking for digital transformation via vertical integration.


Whilst demand for defense remained strong in 2021 and suppliers were able to sustain production levels, budgets did not rise to pre-pandemic levels. Since the Trump administration came to an end, the debt-to-GDP ratios rose to their highest levels since World War II and budget drills were seen at the Pentagon. Consequently, defense M&A activity decreased, so companies across Aerospace and Defense sought M&A to diversify to avoid the impact of being overly exposed to just one industry.


Another prominent trend was A&D executives raising SPACs, including L3 Technologies’ founder Robert LaPenta launching LGL Systems. A huge amount of SPAC mobility deals were also seen, including electric vertical takeoff and landing company Volansi and the Moelis-backed Archer Aviation air taxi company.



II. AerCap - GE Capital Aviation Services


On November 1, 2021, global leader in aircraft leasing AerCap Holdings N.V (NYSE: AER) announced the acquisition of GE Capital Aviation Services (GECAS), a subsidiary of US conglomerate General Electric (NYSE: GE). The transaction incorporated $23B in cash, $1bn of AerCap notes, as well as 111.5 million AerCap shares, for an estimated total of $31B.


This deal consolidates AerCap as the global leader in the aviation industry, with a fleet of over 2,000 total aircraft. Located between airplane manufacturers and airlines, AerCap plays a major role in the aviation supply chain. The Dublin-based company now possesses over 300 clients, including all major international airlines and is itself the main buyer of aircraft from Airbus and Boeing. As the aerospace industry was put to a complete halt by the Covid-19 pandemic in 2020, this deal is part of the global aviation rebound in 2021. The deal provides a source of expansion for AerCap as organic growth mechanisms have slowed down.


"In GECAS, AerCap has acquired the right business, for the right price, at the right time, as air travel continues to recover from the pandemic an d demand for aircraft leasing continues to accelerate." – Aengus Kelly (AerCap CEO)

The acquisition of GECAS also provides shareholders long-term growth prospects. Revenues, cash flows, and earnings per share are all expected to grow as part of this transaction. Both cost synergies in the form SG&A synergies (around $150M) and revenue synergies due to AerCap and GECAS’ complementary customer base are also expected to arise.


Looking at GE’s perspective, selling their subsidiary is part of their broader strategic plan to simplify and reinforce their industrial core. By significantly reducing their assets and generating proceeds GE continues to further de-risk and de-lever. Indeed, the entire proceeds of the operation will be used to reduce their debt by $30B. However, the US industrial giant remains part of the aerospace ecosystem by being a global engine producer.


Citi and Morgan Stanley acted as the financial advisers to AerCap. PJT Partners LP, Goldman Sachs, and Evercore served as financial advisors of General Electric.


III. Lockheed Martin - Aerojet Rocketdyne


On February 19, 2021, Lockheed Martin (NYSE: LMT), worldwide leader in the Defense industry, announced a final agreement to acquire fellow US-rocket manufacturer Aerojet Rocketdyne (NYSE: AJRD). Although expected to finalize in 2022, this all-cash transaction amounting $4.4B, establishes the price of Aerojet Rocketdyne’s share at around $56 per share.


The goal for Lockheed Martin was clear – reinforce its positioning as the US leader in space and hypersonic technology. As Lockheed Martin represented 33% of Aerojet Rocketdyne’s sales, the deal embodies Lockheed’s willingness to vertically integrate the US Defense supply chain. The reduction of fees and further cost synergies are expected to amount to $250M, as Lockheed expands its operations in the rocket and missile segment. Aerojet Rocketdyne’s propulsion systems already currently represent an essential part of Lockheed’s operational supply chain, which will further increase the cost synergies stemming from the deal. Revenue synergies are also expected, as Aerojet Rocketdyne’s engineering teams will benefit from greater resources and increased funding to increase innovation and scale-up its operations.


"Acquiring Aerojet Rocketdyne will preserve and strengthen an essential component of the domestic defense industrial base and reduce costs for our customers and the American taxpayer." – James Taiclet (Lockheed Martin CEO)

Amid competition from new entrants such as SpaceX and Blue Origin, Lockheed Martin is strengthening its positioning as a leader to obtain space contracts with the U.S. government. Through advanced solutions and faster development of technological capabilities, this deal is critical for the US to successfully deliver on its future national security and space programs.


IV. Raytheon - SEAKR


On November 29th 2021, Raytheon Technologies (NYSE: RTX) announced it had completed the acquisition of privately-held SEAKR Engineering LLC, a leading supplier of advanced space electronics for an undisclosed amount.


SEAKR is the primary contractor for Pit Boss, an autonomous mission management system that will drive the Defense Advanced Research Projects Agency’s ‘Project Blackjack. This project aims to prove the military utility of a large constellation of small satellites operating in low earth orbit. Raytheon is also working on this exciting project and was awarded funding to do so in 2020. However, since then it seems clear that the company is looking to acquire companies that are also doing the same; as the acquisition of SEAKR closely follows that of Blue Canyon Technologies, another key contributor towards Project Blackjack.


“Today's growing space market demands greater innovation, technological expertise, and ability to deliver to a higher space standard faster," said Roy Azevedo, president of Raytheon Intelligence & Space. "SEAKR Engineering provides depth and strength across all these areas with a portfolio of proven space electronics and a forward-leaning culture of commitment, and we welcome them to the RI&S team."

The defense industry benefited from strong government spending under the Trump administration, and global defense spending is projected to increase 2.8% by the end of 2021, so the advantageous dynamics for continued M&A activity in the segment are set to stay. Therefore, major defense Original Equipment Manufacturing companies (OEM’s), such as Raytheon, will continue to drive M&A activity in this sector as investors continue to be excited by the growth of unique patented technologies.


V. Safran - SkyFive


On May 19th 2021, Safran S.A (EPA: SAF), the world's second largest aircraft equipment manufacturer based in France, announced its acquisition of a stake in SkyFive, a German company that provides true broadband connectivity services and technology to airlines and other aircraft operators.


Safran’s fund, known as Safran Corporate Ventures, invested an undisclosed amount into SkyFive as part of the company’s Series A investment round. This was conducted by Safran Corporate Ventures alongside STAR Capital, a European private equity fund manager known for growing up-and-coming infrastructure businesses.


The investment in SkyFive consolidates Stafran’s strategic roadmap centered around expanding digital solutions within the aviation industry.


“This technology cooperation constitutes a key milestone within Safran’s strategy in offering aircraft connectivity solutions. Safran is a key player in this area and we see tremendous growth in Air-To-Ground connectivity. SkyFive’s cutting edge solution will complement our current offering and set us apart from other industry players in bringing an affordable and increased level of performance to the aircraft”, said Sebastien Weber, Safran Aerosystems CEO, new SkyFive board member.

This deal is a strong sign of one of the three major trends that have been seen in Aerospace and Defense: Digital Transformation. The bigger companies, such as Safran, are continuing to look for vertical integrations to increase their value and accelerate post-pandemic growth. By expanding their in-house capabilities, such companies will hope to gain new customers as well as broaden service offerings and capabilities to increase competitive positioning.


VI. Future Outlook


After a tumultuous 2020 and 2021, here are a few key trends to follow for the Aerospace and Defense M&A industry.


Looking ahead at 2022, global defense spending is expected to continue to increase as it did in 2021. As global geopolitical competition continues to arise and R&D-led technology innovations are prioritized, M&A volume will be on the rise in the US and other parts of the world. Defense corporations will continue specializing in their respective departments as they continue to divest in non-core assets and focus on emerging technologies. Indeed, the constant urge to innovate will drive M&A activity through the acquisition of high-tech startups.


The commercial aerospace sector is still riding the wave of the post-pandemic recovery, but Covid variants and prospects of future lockdowns could hinder the development of the industry. Although global vaccination is well-underway, the demand for aviation services still remains significantly lower compared to the supply in the industry. Although it is difficult to imagine pre-pandemic M&A levels any time soon, deals are expected to be on the rise in 2022, mostly driven by well-capitalized suppliers and private equity firms.


In both Aerospace and Defense, a key driver of deal-making will be geopolitical context and tensions. Geopolitics have always been the fuel of the Defense industry as rising tensions usually equate to increased military budgets. On one hand, this increases M&A activity in local M&A markets but decreases cross-border transactions. In addition, the role of the government in today’s economy was on display during the pandemic, and further governmental decisions on lockdowns and travel will continue to dictate the short-term future of commercial aerospace.


Finally, diversifying operations will be a key trend to follow going forward. As illustrated with the previously mentioned trends, the future of the A&D industry is heavily correlated with external factors and the need to diversify is becoming more and more apparent. The medical, industrial, and semiconductor industries are only a few examples of industries in which A&D firms will look to invest in to reduce their exposure to macroeconomic factors.


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