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​ANALYSIS: Raytheon-UTC merger would help check Boeing's dominance

The proposed Raytheon-United Technologies (UTC) merger could create a company with sufficient heft to better counter Boeing while spurring more consolidation among smaller aerospace players, say industry observers.

And though US President Donald Trump already expressed concern about the planned combination, the companies' lack of product overlap should ensure the merger clears regulatory hurdles, some say.

"The synergies are very, very strong. There is very little overlap I can think of," says Michel Merluzeau, director at aerospace research and consulting company Air. "I see very few red flags, or any red flags."

Richard Aboulafia, aerospace analyst with Teal Group, sees the Raytheon-UTC plan as enabling Raytheon, which has a strong defence portfolio, to expand into the fast-growing commercial aerospace sector, where UTC enjoys a market-leading presence.

"There is so much pricing power and growth that comes from the commercial market," he says, adding that competitors may follow the same path.

"Parker, Safran, GE, Honeywell – all of these are great examples of systems companies that might want to achieve greater critical mass by a merger," Aboulafia says.

$74 BILLION BEHEMOTH

The plan, which the companies confirmed 9 June, calls for UTC's Pratt & Whitney and Collins Aerospace units to merge with Raytheon, creating a company called Raytheon Technologies Corporation. The deal will exclude UTC's Otis and Carrier units, which it will spin off into independent companies, as previously announced.

Raytheon's stockholders would own 43% of the merged company and UTC's stockholders would own 57%.

Current Raytheon chief executive Tom Kennedy would be the combined company's executive chairman; UTC CEO Greg Hayes would be its CEO. Raytheon Technologies would be based in Raytheon's home state of Massachusetts.

They expect the merger will close in the first half of 2020 after regulatory approval from 10 countries.

The companies' say the deal will generate $1 billion worth of annual synergies within four years and enable them to pass $500 million "in annual savings returned to customers".

But President Trump is already questioning if the merger might further drive up US military expenses.

"I am a little concerned," Trump told CNBC on 10 June. "Does that take away more competition?"

Asked to elaborate, Trump says he would find the merger problematic "only if" the companies make the same products.

"It's already not competitive," Trump adds of the aerospace industry. "Part of [why] we spend so much money… is we have no competition."

LOWERING COSTS

On 10 June Hayes and Kennedy said less than 1% of the companies' revenues come from overlapping products. They insisted synergies will lower costs.

"We also are going to save the government money. We've got a billion dollars of synergies – half of that goes back to the DoD through cost reduction on contracts," Hayes told Bloomberg. "It's going to increase competition, not hurt competition."

"We are going to create a company that can compete internationally on a level playing field," he adds.

Raytheon's strengths rest in defence technology – missile, space, surveillance, electronic warfare and integrated defense systems. It also sells commercial air traffic management products, cyber security services, and machine learning and artificial intelligence technologies.

UTC's Collins division makes a range of aerospace products – cabin equipment, avionics, electric systems, nacelles, landing gears and a multiple of other products. Pratt & Whitney makes aircraft engines, including its new PW1000G line of geared turbofans, and turboprops through its Pratt & Whitney Canada division.

Asset Image

A PW1100G on an Airbus A320neo

Airbus

Industry watchers agree the companies have little overlap. "I can't see anything" significant, Aboulafia says.

The combination would create a behemoth with some $74 billion in 2019 annual sales, roughly tying Airbus as the world's second-largest aerospace company based on revenue. Boeing leads, with $101 billion in 2018 revenue.

Raytheon Technologies would have four divisions: Collins; Integrated Defence and Missile Systems; Intelligence, Space and Airborne Systems; and Pratt & Whitney.

COUNTERING BOEING

Analyst Merluzeau thinks the merger could create a "shock-absorbing-capable organisation" with sufficient diversification to be somewhat insulated should one sector suffer downturn.

Aboulafia adds that defence contractors like Raytheon, which earned 81% of 2018 revenue from military and government sales, increasingly see risk in remaining heavily reliant on government work. They view the high-growth commercial sector as a means to supplement, even buoy, defence.

For instance, Boeing's commercial juggernaut helps gloss over its struggles with the KC-46 tanker programme, which has suffered some $4 billion in cost overruns, Aboulafia says.

"No one really notices because it gets washed away by their huge commercial numbers," he says.

Analysts see a combined Raytheon-UTC as better able to counter Boeing's efforts to wring costs from commercial suppliers. Indeed, as part of its cost-cutting moves, Boeing replaced UTC Aerospace Systems (now Collins) with Heroux-Devtek as 777 landing gear supplier.

"If you are a supplier like UTC, you want this critical mass… to push back on pricing pressure," Aboulafia says. If Boeing keeps squeezing on the commercial side, the combined company could make up the difference on its military deals with Boeing, he suggests.

Aboulafia and others think more mergers may follow.

The deal might force "the Safrans, Thales and BAEs in this world to consider their future as independent", says Merluzeau.

Though stocks of both Raytheon and UTC spiked on news of a deal, analysts question the prudence of UTC pursuing a merger on the heels of its 2018 Rockwell Collins acquisition.

"It's an awful lot," says Aboulafia. "Executing this kind of merger is always a monster. Merger fatigue must have set in among everyone involved."

Financial analysts raised similar concerns, which UTC's Hayes dismissed, calling the deal an "integration-light" effort.

"Most of the workload associated with this transaction… is actually falling on our corporate office," he says. "This is not going to really affect our businesses or our operations anywhere."

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