Transformation Strategy


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Transformation Strategy

  1. 1. OPTION 2 Create sizable NCW / C4ISR footprint <ul><li>Defense investment likely to slow substantially </li></ul><ul><li>Slow recovery in commercial transport OE </li></ul><ul><ul><li>Selective aftermarket opportunities </li></ul></ul>Growth Strategy Development A Context For Evaluating Strategic Alternatives Market Trends <ul><li>Evolutionary transformation will continue to be a guiding principle for defense program funding </li></ul><ul><li>Legacy force structure upgrades and (often reduced) in-production platforms likely safe havens; new programs increasingly at risk </li></ul><ul><li>Low-cost carriers and regional / narrowbody aircraft are best commercial play </li></ul>Industry Trends <ul><li>Tier 1 and 2 contractors have become active acquirers in Tiers 3 and 4 </li></ul><ul><li>Limited new program opportunities mean acquisitions become core to growth strategy </li></ul><ul><ul><li>But pool of sizable, attractive acquisition candidates is dwindling </li></ul></ul><ul><ul><li>Ability to become avionics leader likely foreclosed </li></ul></ul><ul><li>Margin expansion more likely at lower tiers of value chain </li></ul>Customer Trends OPTION 1 Grow platform electronics market position OPTION 3 Capitalize current value – exit at current multiples Acquisition strategy addresses Options 1 and 2 <ul><li>Tier 3 and 4 positions </li></ul><ul><li>Product-oriented portfolio </li></ul><ul><li>Initial steps towards integrated organization </li></ul><ul><li>Scale and breadth of capabilities increasingly important – increased investment requirements </li></ul><ul><li>Growing risk in dependence on vulnerable production programs </li></ul>SA
  2. 2. <ul><li>Higher operating tempo </li></ul><ul><ul><li>Since 1990, US forces have been deployed more than 100 times </li></ul></ul><ul><ul><li>387,000 troops deployed in more than 90 countries </li></ul></ul>Defense Market Themes and Implications Mission Requirements Shaping Spending Priorities Evolution toward contingency operations as major mission driver: increasing demand for network connectivity, situation awareness and precision strike <ul><li>Programs supporting legacy force structure and warfighting (and peacekeeping) objectives favored </li></ul>Stability Operations Peacekeeping Failed States Local Engagement Measured Response Counter-Insurgency Guerilla Suppression Non-State Adversaries Local Engagement Flexible Response U.S. Military Deployments: # of Response Days (All U.S. Military Services) <ul><li>Evolution toward contingency operations </li></ul><ul><ul><li>Historical focus on strategic deterrence and major combat operations giving way to counter-insurgency and stability operations </li></ul></ul>
  3. 3. Defense Market Themes and Implications NCW Focuses On Three Principal Priorities NCW becoming well-established in U.S. military doctrine and force structure planning: issues are pace of deployment and opportunity to establish significant position in a market characterized by limited new program opportunities <ul><li>Situational awareness – networked sensor upgrades for battle management and precision strike… </li></ul>GEO/HIO Backbone LEO/MEO Users Theater Grid Tactical Grids Surface Grids Fixed Grid JTRS JFN Tactical Internet Link 11, IFDL Link 16 Broadband LOS AEHF TSAT , MUOS APS WIN-T <ul><li>… enhanced connectivity to provide bandwidth, comms and sensor links for BM/C2 and warfighter situational awareness… </li></ul><ul><li>… and precision strike to enhance accuracy and reduce the required number of aircraft sorties and munitions </li></ul>Fix Target Assess Find Engage Track Joint Domain Platform Element Tactical NCW Sensor-to-Shooter Chain
  4. 4. <ul><li>Despite faster-then-market CAGR since FY2001 and priority among warfighters and senior policy makers, NCW growth rate likely to slow </li></ul><ul><ul><li>‘ Special’ and intel, and surveillance/reconnaissance, while largest segments by value, may be among most vulnerable in a constrained budget environment due to ‘big ticket’ space programs (SBR, SBIRS, etc.) </li></ul></ul><ul><ul><li>Tactical C2, Comms and IW may see faster-than-market growth </li></ul></ul>Defense Market Themes and Implications NCW Market Includes C4ISR And Other Components Sources: President’s FY05 Budget, GEIA 2004, CSP analysis Potential Network Centric Warfare Market FY2005-2009 Total NCW Market (2005-2009) = $348B <ul><li>NCW investment has recently outpaced other defense investment by a substantial amount… </li></ul>NCW market will remain more attractive than other segments – but is not immune from budget headwind NCW vs. Other Defense Investment FY00-FY05E (FY00=100) NCW investment has grown 50% faster than other investment
  5. 5. Defense Market Themes and Implications Summary: Significant Changes In Store For Defense Contractors <ul><li>Decelerating defense budget and persistent deployment environment driving investment priorities to support legacy platforms at the expense of large new NCW architectures </li></ul><ul><li>NCW capabilities will become ubiquitous, driving relative growth in NCW/C4ISR market versus other sectors (but lower than recent years) </li></ul><ul><li>Shift from ‘revolutionary’ to ‘evolutionary’ transformation means spiral upgrades of legacy force structure </li></ul>Major Defense Sector Market Themes Mission Environment Budget Outlook Defense Investment Transformation Strategy NCW/C4ISR Market <ul><li>U.S. defense market exhibiting important themes that will shape strategies for organic and acquisition growth </li></ul><ul><li>Increased deployment frequency, persistent engagement in contingency operations </li></ul><ul><li>Topline budget approaching cyclical peak, Combatant commands’ growing influence favors immediate warfighting needs </li></ul>Need for SA to offset potential vulnerability to new platform cancellations and reduced buys of some in-production programs – but executing NCW growth strategy into budget headwinds will prove challenging <ul><li>Pressure on defense investment accounts puts many new programs at risk, though cancellation of in-production platforms unlikely </li></ul>
  6. 6. Growth Strategy Development NCW market offers opportunity for SA Product/Capability Expansion <ul><li>Acquisition approach </li></ul><ul><ul><li>Focus on markets that are closely adjacent to existing SA markets and capabilities </li></ul></ul><ul><ul><li>Targets to include well-established, longer-life platforms </li></ul></ul><ul><ul><li>Effort should also consider relatively larger and more strategic properties </li></ul></ul><ul><ul><li>Considerations include strategic density, synergy potential, size/scale, valuation/availability </li></ul></ul>NCW strategy based upon internal growth alone insufficient to achieve leadership position <ul><li>Opportunity to work at product and subsystem level, and pursue spiral upgrade of legacy platforms to insert transformational NCW capability </li></ul><ul><li>Objective is to capture more platform ‘real estate’ and add subsystem and payload integration capabilities – product/capability expansion </li></ul><ul><ul><li>Need to define next generation of products with NCW capability, relative competitive position </li></ul></ul><ul><ul><li>Potential market expansion to enhance Customer and Platform Diversity </li></ul></ul><ul><li>Acquisitions could </li></ul><ul><ul><li>Build out product position, vertically or horizontally, and add scale </li></ul></ul><ul><ul><li>Provide mission critical footprint with proprietary position to address Tier 1 vertical integration threat </li></ul></ul>Platform Electronics (Flight Controls, Displays, Mission Computing ) Communications, Navigation And Identification (CNI) Battle Management / Command & Control Intelligence, Surveillance & Reconnaissance (ISR) SA Systems Engineering & Integration
  7. 7. NCW Growth Strategy Development Two Distinct Roadmaps <ul><li>Augment product portfolio for NCW requirements </li></ul><ul><li>SA Vehicle sub-system applications: </li></ul><ul><ul><li>Network Centric File Server </li></ul></ul><ul><ul><li>Signal Acquisition </li></ul></ul><ul><ul><li>Sensor Data Fusion </li></ul></ul><ul><ul><li>Video Image Processing </li></ul></ul><ul><ul><li>Situational and Terrain Awareness </li></ul></ul><ul><ul><li>Target Recognition </li></ul></ul><ul><ul><li>Threat Processing </li></ul></ul><ul><ul><li>Image Exploitation </li></ul></ul><ul><ul><li>In-flight Replanning </li></ul></ul><ul><li>SA subsystems that support NCW operation: </li></ul><ul><ul><li>Vehicle, Mission Management Computers </li></ul></ul><ul><ul><li>Secure operating Systems </li></ul></ul><ul><ul><li>Flight Management, Autonomous Nav Systems </li></ul></ul><ul><ul><li>Stores Management Systems </li></ul></ul><ul><ul><li>Mission Planning Systems </li></ul></ul><ul><ul><li>Data/Voice/Video Recording & Display Systems </li></ul></ul><ul><ul><li>IVHM </li></ul></ul><ul><li>Work with Current Customers to satisfy Platform upgrade needs </li></ul><ul><ul><li>Potential to leverage incumbent position </li></ul></ul><ul><li>Limits opportunity and potential growth </li></ul>Action <ul><li>Transformative Acquisition: DRS Technologies </li></ul><ul><li>Mid-Size Acquisitions: </li></ul><ul><ul><li>EDO, Ultra Electronics, Cubic </li></ul></ul>Action Pros Cons <ul><li>Provides strategic market expansion opportunity </li></ul><ul><ul><li>Position in large & relatively attractive adjacent sector </li></ul></ul><ul><ul><li>Arguably a strategically important move for SA to hedge against potential erosion in core platform markets </li></ul></ul><ul><li>DRS is presumptively available; execution risk can be bounded </li></ul><ul><ul><li>Significant number of ‘bolt-on’ acquisition opportunities possible once critical mass is achieved </li></ul></ul><ul><ul><li>Most are <$100M in revenues Potentially significant cost and revenue synergies likely due to similarity of businesses </li></ul></ul><ul><ul><li>Acquired businesses relatively familiar to Smiths </li></ul></ul><ul><ul><li>Integration strategy more straightforward </li></ul></ul><ul><li>Market dominated by Tier 1 and Tier 2 primes </li></ul><ul><ul><li>Defense budget pressures will cause larger players to increase competitive focus on Tier 3 and 4 value-added roles </li></ul></ul><ul><li>Relatively new market for SA </li></ul><ul><ul><li>Post-closing integration strategy must be well-developed and diligently executed </li></ul></ul>Organic growth through existing and new Products Build substantial position by Acquisition Pros Cons
  8. 8. <ul><li>Mapping top candidates against market areas highlights complementarity with SA </li></ul><ul><ul><li>Clear strategic choice represented by DRS Technologies versus other candidates </li></ul></ul><ul><ul><ul><li>DRS establishes a transformative position in C4ISR products and subsystems – and expands SA’s non-mission electronics product portfolio </li></ul></ul></ul><ul><ul><li>EDO and Ultra Electronics would also strengthen market adjacencies </li></ul></ul><ul><ul><li>Sierra Nevada and Cubic – while very attractive businesses – are less closely adjacent (and offer more limited synergy opportunities) to Smiths </li></ul></ul>Platform Electronics (Flight Controls, Displays, Mission Computing) Intelligence, Surveillance And Reconnaissance (ISR) Battle Management / Command & Control (BM/C2) Communications, Navigation And Identification (CNI) EDO Ultra Electronics Company footprints proportional to 2003 revenues. DRS Technologies Growth Strategy Development Priority Candidates Map Well To SA DRS and EDO are most strategically significant NCW candidates for SA SA Sierra Nevada Cubic
  9. 9. Potential Acquisition Opportunities DRS Technologies (DRS) <ul><li>Revenue: $1,001M (FY2004A) </li></ul><ul><li>EBIT: $84.1M / 8.1% of sales </li></ul><ul><li>Employees: 5,800 </li></ul><ul><li>DRS has built market leadership positions in a range of electronic products niches, including thermal imaging devices, ruggedized computers and displays, mission and deployable flight recorders </li></ul>Value Chain Position Lead Systems Integrator Prime Integrating Contractor Subsystems / Networks Platform Prime Element Prime Products Engineering and Technical Services Structural / Mechanical Platform Systems Propulsion C2 / BM ISR / EW Communications Weapons Some Capability Competitive Capability Leadership Position No Role C4I Surveillance and Reconnaissance A well-positioned electronics product portfolio in a number of market niches <ul><li>Revenue: $559.4 M </li></ul><ul><li>EBIT: $59.5M / 10.6% of sales </li></ul><ul><li>Revenue: $441.9 M </li></ul><ul><li>EBIT: $45.4M / 10.3% of sales </li></ul><ul><li>C3 </li></ul><ul><ul><li>Naval displays; radar and border reconnaissance; shipboard and data links; technical support services; electronic manufacturing and systems integration </li></ul></ul><ul><li>Power Systems </li></ul><ul><ul><li>Naval power generation; propulsion systems, drives and motors; power conversion, distribution and control; industrial </li></ul></ul><ul><li>Intelligence Technologies </li></ul><ul><ul><li>Receivers, tuners and intelligence data collection; SIGNINT/COMINT processing; data dissemination equipment </li></ul></ul><ul><li>Tactical Computing </li></ul><ul><ul><li>Battle management systems; tactical computers; peripheral equipment </li></ul></ul><ul><li>Reconnaissance, Surveillance and Target Acquisition </li></ul><ul><ul><li>IR sighting, targeting and sensors; cooled/uncooled IR; unmanned vehicles; data and digital imaging systems; flight recorders </li></ul></ul><ul><li>Training </li></ul><ul><ul><li>Air combat and simulation systems; close formation flight equipment; software systems; threat emitters, EW simulation; network systems </li></ul></ul><ul><li>Electronic Test </li></ul><ul><ul><li>Test and embedded diagnostics; vehicle and fire control electronics; hybrid electric drives </li></ul></ul>
  10. 10. Potential Acquisition Opportunities – DRS Technologies A Broad – But Niche-Oriented – Electronics Products Portfolio Most significant capability gap is relatively nascent systems integration skills <ul><li>Market leadership positions in a number of defense electronic niches built through 15 acquisitions </li></ul><ul><li>NCW capabilities focused in surveillance/reconnaissance and platform electronics </li></ul><ul><ul><li>Key strength is electro-optic capabilities (>$300M revenues) </li></ul></ul><ul><ul><ul><li>Leader in second-generation EO infrared sighting, targeting and weapons guidance systems </li></ul></ul></ul><ul><ul><ul><li>Second largest provide rto the USG for advanced focal plane array technology including focal plane arrays, IR uncooled sensors and components </li></ul></ul></ul><ul><ul><ul><li>Focused on ground vehicles, helicopters, some ships and night vision goggles </li></ul></ul></ul><ul><ul><li>Platform electronics (>$100M revenues) primarily based on recorder technology </li></ul></ul><ul><ul><ul><li>Cockpit flight/video recorders. mission recorders, video analysis systems </li></ul></ul></ul><ul><ul><ul><li>Also significant ship power distribution and conditioing </li></ul></ul></ul><ul><ul><li>Computing includes Q-70 displays for major USN combatants and ruggedized computers for US Army </li></ul></ul><ul><li>Relatively broad exposure on Army and Navy platforms; growing Air Force exposure from late 2003 acquisition of Integrated Defense Technologies </li></ul><ul><li>Despite relatively active acquisition history, ‘strategic density’ is quite high </li></ul><ul><ul><li>Most business units focused on key NCW/C4ISR markets </li></ul></ul><ul><ul><li>Has growing training business unit </li></ul></ul><ul><ul><li>Only ‘commercial’ initiative is hybrid electric drives for HMMVs </li></ul></ul>Strong Competitive Weak