Over the past several years, Pentagon leaders have warned the big defense industry companies not to merge with each other. In early 2011, Ash Carter, then-undersecretary of defense for acquisition, technology and logistics, acknowledged that firms would likely restructure in response to expected cuts to the defense acquisition budget, but said, "The department is not likely to support further consolidation of our principal weapons systems prime contractors."
In the last month, the current undersecretary, Frank Kendall, escalated the rhetoric, revealing plans to ask Congress to expand existing anti-trust laws to give DoD more power over defense industry mergers.
Their heart is in the right place. Americans celebrate competition as the best route to efficiency and innovation, and mega-mergers can threaten the possibility of competition. But the defense industry presents a special challenge not typically addressed by anti-trust: Defense contractors influence their buyer's decisions not just by offering a variety of products in the marketplace, but also through lobbying.
But the authority to regulate mergers will not get the department what it wants. No merger policy can eliminate the substantial political influence that contractors enjoy. Congress often gives in to industry pressures — buying more of the weapons that industry wants to sell — but it does not always do so. Neither mergers nor merger policy can determine what weapons will arm the US military. Ultimately, Congress makes the key decisions.
In a "normal" business, when the market shrinks, competitors often merge to close down excess capacity and return to profitability. Americans are used to seeing this pattern during cyclical downturns, for example among airlines and banks during the recent Great Recession.
The defense sector has loudly proclaimed its reduced market prospects as the defense budget has started to drop from its 2010 peak, and investment bankers and private equity moguls have been salivating over the prospect of a bonanza.
The tale of a few recent deals, though, shows that defense mergers are not like mergers in the rest of the economy. Prime contractors bought some of the factories that produced the signature weapons of the Iraq and Afghanistan wars: e.g., MRAP vehicles that protected against improvised explosive devices and UAVs that surveilled the complex battlespace.
From an industrial perspective, those acquisitions did not matter very much, because the prime contractors integrated the new facilities into their political portfolio more than their production portfolio. Their main goal was to keep selling the new products to the DoD. They thought they were buying growth — the parts of the defense budget that would be protected from the budget cycle. Perhaps the political goodwill from selling the "new stuff" would rub off on the primes' other products, too.
This was a rational, profit-maximizing strategy, but it did not work well for them this time. With the wars ending, DoD actually had a surplus of the new stuff. The department sought to streamline its complex mix of UAVs, so even though unmanned vehicles are still extremely popular, the buyer does not have room for every type on offer. And no matter what the lobbying strategy, Congress has little taste for expensive vehicles designed to put boots on the ground.
Note that the purchasers in this nascent mergers and acquisitions wave did not focus on industrial consolidation and increased production efficiency. Facilities closed and restructured not at the time of the mergers but when Congress and the DoD closed off the money spigot.
That experience followed the pattern of the 1990s merger wave. For example, Boeing merged with McDonnell Douglas in 1997. Boeing integrated what had been the MD-95 into its commercial product line as the 717, but Boeing left McDonnell Douglas' C-17 factory alone. Instead of consolidating the defense aircraft business, Boeing continued McDonnell Douglas' political effort to prop up C-17 sales. The plant is finally closing this year, because Congress stopped supporting it.
Political control over what DoD buys naturally frustrates the policy experts in the Pentagon. They want to decide what to buy based on their analysis of technological trends and military threats. They want the defense industry to offer choice, and they resist mergers, as if the mergers would decide what products are on offer. But Congress has the last word on when a factory develops a new product or closes its doors.
The real background for Kendall's new statement may be his concern about the aftermath of the coming award of a development contract for the new bomber. The losing bidder(s) are widely expected to exit the aircraft business, perhaps through a merger. But the key to maintaining the losers' design capacity is a contract, even just to experiment or build a prototype.
As much as competition is the American way, so is politics. In fact, defense policy should be political, because our elected representatives should be the ones who decide what fights we prepare for and what wars we actually fight.
With that political process comes inefficiency and frustration. Neither mergers nor merger policy reform can address the US needs. What we need is for Congress to make responsible defense policy decisions.
Eugene Gholz is an associate professor at the University of Texas at Austin and the Stanley Kaplan Visiting Professor of American Foreign Policy at Williams College.