IN FOCUS: Euro's demise to change shape of aerospace industry

London
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This story is sourced from Flight International
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The European single currency may survive 2012, but after months of roiling crisis only the delusional can seriously, in unguarded private moments, believe this well-meant but ill-devised attempt to smooth the Continent's commerce and bind its nations together in fiscal harmony can survive in its current form.

For sure, expect more scrambling around by Merkel, Sarkozy et al to devise rescue packages, and expect to tire of their insistence the euro cannot fail. Feel some sympathy for poor Mario Draghi, who will himself grow weary of insisting the European Central Bank he heads cannot, and will not, print an unlimited amount of money to save the currency it manages, even if the printing presses could save it.

Watch as tiny Greece, nominally democratic but with a government more or less powerless against the cronies who have retained real power from the fascist era, lurches from crisis to tragedy; to irrelevance.

Because the real players - Germany, France, Italy - are all going to be washed away by an irresistible wave of reality as bankers, investors and especially voters realise there is no hope for the euro.

Italians, wealthy and proud, will not look on in despair for long while their new government of unelected technocrats fails to hold back the rising tide of sovereign bond market yields that threaten to push Rome towards insolvency. Expect a new political contender - perhaps even the extraordinary Berlusconi - to stand for office on a "take back our destiny and ditch the euro" platform.

The French, with a presidential election in May, will look their candidates in the eyes and realise - if they have not done so already - that none of these people have any idea how to solve the euro crisis. Wait for the call to get out.

That is, if the Germans do not look around at the mounting chaos and jump in first with a proposal to end this agony.

The turning point came on 23 November, when the German government managed to sell only about two-thirds of the 10-year bonds it offered for sale. Such a shortfall is not actually unusual, and suggests no alarm about Berlin's solvency. However, this time the market sent a signal that the investors who buy these bonds as a way to lend money to governments are wary of taking on long-term euro assets because they believe the euro won't be around in 10 years.

Worst-case forecasts have the euro seeing in the new year from its death bed. Less apocalyptic visions have it languishing for a while yet, terminally ill but on life support. Either way, as long as markets fear it may go, investors are going to start moving their money, most typically into US dollars. Who wants to find out what will happen to their euros when the plug gets pulled?

The commercial implications are massive. Already there have been examples of airlines being denied the typical 12-year finance deals to buy aircraft - being offered rolling six-month deals instead - because uncertainty surrounding the value of the euro has left European banks unable to raise enough dollars.

US banks have lots of dollars, of course, but are small players in aircraft finance and show few signs of moving into the market. Both Airbus and Boeing are talking about becoming significant lenders, to keep their assembly lines rolling. But why should these aircraft makers be successful bankers where banking professionals fear to tread? Aviation has done well to ride out the global financial storm, but faces its own financial crunch in 2012.

In the aerospace supply chain, the prospect of an end to the euro poses another challenge, one that could change the geographic shape of the industry.

For years, eurozone-based companies have been pushing to expand or acquire in North America, as having some costs and revenues in both euros and dollars provides some protection from exchange-rate fluctuations. But while a typical complaint in Europe has been that the euro has been so highly valued as to hammer profitability, the prospect of a euro collapse is also going to encourage companies to expand into North America, to protect themselves from currency chaos.

Likewise, American companies that have been enthusiastic over acquiring European businesses are going to think twice about investing now. In any case, prices are only likely to fall if the currency crisis gets severe, so best hold off.

The question of what happens to euro-denominated contracts if the euro dissolves is a thorny one. When the euro was created, contracts in old currencies rolled smoothly into the new single currency during a time of economic stability, and at widely-agreed exchange rates. Reversing that process will not be such a seamless transition.

All this manoeuvring around a euro crash is going to play out against a backdrop of rising pressure for aerospace industry consolidation.

Defence-focused companies are looking for acquisitions to get them into civil aerospace to beat military budget cuts. Suppliers are generally looking to either focus on a few specialties or become big system integrators. That trend is sure to accelerate as Tier 1 contractors and airframers face unrelenting pressure to cut costs.

The drive for mergers and acquisitions gained momentum in 2011, but watch out for a flurry of deals in 2012 - and let us hope companies can realign themselves on their own terms, rather than in frantic response to a currency implosion.