WASHINGTON -- Overall defense revenues for the Top 100 defense companies in the world dropped in 2015, the fifth straight year of decline. But there are signs that defense revenues are poised to bounce back, with opportunistic companies spurring mergers and acquisitions to better position themselves for glory days ahead.
Total 2015 defense revenues for the Top 100 companies came in at $356.7 billion, down more than 7 percent from the 2014 Top 100 total of $385.8 billion. However, because Defense News relies on self-reporting from companies, many of whom provide estimates rather than definitive data for their defense percentages, those numbers come with some variance. Another major factor that comes into play is the exchange rates, something which this year handicapped European and Russian firms in particular.
The top 25 companies accounted for 73 percent of total defense revenues in the year, and the Top 10 firms accounted for 54 percent of total defense revenues in the year, an improvement from the last two cycles, which saw that percentage drop a point each in 2013 and 2014.
Geographically, 41 of the Top 100 firms are based in the US, which accounted for 60 percent of total defense revenue, up from 54 percent in 2014 – a sign that even as other nations expand their defense industries, American companies remain dominant on the global stage. Europe has 27 companies featured, which increases if Russia's six major defense companies are included, while the Asia-Pacific region has 17 companies. In contrast, Africa and South America were represented by a single firm each.
Click here for our full coverage of the Defense News Top 100, including our interactive list of companies
The Top 10
Three companies in the Top 10 showed increase in defense revenue over 2014 – Lockheed Martin (+1.17 percent), Boeing (+4.79 percent) and General Dynamics (+3.17 percent). That is an improvement from both 2013 and 2014, when only one company each year showed an increase in defense revenues, and could be a sign that the industry projection that the defense market has bottomed out is coming true.
As it has for every year of the past decade, Lockheed Martin came in as the top defense contractor, with $40.5 billion in defense revenue – or 88 percent of its $46.1 billion total revenue for the year.
"Lockheed Martin has been the leader for years and will continue to be the leader for many years to come," said Phil Finnegan, director of corporate analysis with the Teal Group. "The F-35 is obviously a key element of retaining that, but Lockheed has the broadest array of technologies of any company in the defense industry, which means they have the ability to move whatever direction they want as the market grows and they see opportunities."
Lockheed's defense revenue total was $10 billion more than second-place Boeing, which had $30.3 billion in defense revenues. In sharp contrast with Lockheed, that total is only 31 percent of its total company revenue, as 2015 saw record deliveries from the commercial aviation side of the company.
UK giant BAE came in third, with $25.2 billion in defense revenues, which represented about 92 percent of its 2015 revenues.
All three of those firms repeated their placement from 2014, which is symbolic of the top companies as a whole: Since 2005, some combination of Lockheed, Boeing, BAE, Raytheon, General Dynamics, Northrop Grumman, EADS/Airbus, United Technologies, Finmeccanica (now Leonardo), L-3 and Thales have made up the Top 10.
Byron Callan, an analyst with Capital Alpha Partners, believes there is some churn coming in the future.
"If you look at what 2016 list will look like, I assume United Technologies and Airbus will drop, because United Technologies sold Sikorsky to Lockheed and that will knock them down, and Airbus sold off its defense-electronics group," Callan said. "So now you should start seeing some emergent new people entering that Top 10. Maybe Huntington Ingalls [number 12 in 2015] or maybe a Russian firm gets in there."
However, those changes are more likely to come because of mergers and acquisitions or shifts in currency exchange rates than because of a massive, game-changing company entering the fold, Callan said.
The drop for United Technologies is the most visible symbol of that change. The company slid from 8th place in 2014 to 13th in 2015 thanks to a 47.93 percent drop in defense revenues – the result, at least in part, of the decision to sell its Sikorsky helicopter unit to Lockheed Martin at the end of 2015 for $9 billion.
When reporting 2015 defense revenues to Defense News, UTC confirmed that the divestiture of Sikorsky was a factor of their drop-off, though it's unclear whether all revenue tied to Sikorsky was dissolved from the balance sheet. Lockheed Martin included revenue generated from the rotorcraft arm from Nov. 6, when the deal closed, through the end of the calendar year. The full extent of the Sikorsky deal on the bottom line of both companies will be evident in the 2016 list.
Acquisitions Take Root
Since the defense budget began to draw down in the early 2010s, industry has been predicting a rash of mergers-and-acquisitions activity – the impact of which is finally being felt in the 2015 Top 100 list.
The Lockheed-Sikorsky deal stands out as a particularly large one, a startling enough development that Frank Kendall, the Pentagon's top acquisition official, publicly mulled the need for congressional action to prevent another such deal from occurring in the future.
Finnegan notes that changes to the top companies will likely be more about shifting excess areas of focus around than undergoing a total transformation as a business.
"In the upper tiers they are going to be reshaping their portfolios, but they can‘t make major acquisitions that fundamentally would change their business anyway, for two reasons: because it wouldn’t be approved in a regulatory sense, and because there is nobody out there who wants to sell," Finnegan said, before noting, "There’s going to be a lot of shifting in the lower tiers."
And that shifting is already taking place,
particularly among companies that provide services to the Pentagon.
"Service-heavy companies such as Day & Zimmermann, Cubic, Vencore and Engility are concentrated in the third quartile of the Top 100, and tend to have relatively stable defense revenues," said Steve Grundman, a former Pentagon industrial policy chief now with the Atlantic Council.
If some of those firms merge together in the future, they could see big jumps on the list – and they have a potential model in Leidos, which Grundman predicts will jump higher on the 2016 list thanks to its purchase of Lockheed Martin’s Information Systems & Global Solutions arm.
"The Leidos move, juxtaposed against the third quartile concentration of so many defense services companies, is a leading indicator of the sort of change and opportunities for consolidation in the defense services sector," Grundman said.
Inside the top 25 companies, defense-electronics firms such as Elbit, SAIC and Harris showed growth, with the latter providing another data point in the argument that M&A activity in the lower tier is likely to reshape the Top 100 going forward. Harris jumped 22 spots from 39 to 17 on the list and saw defense revenues increase by 84 percent, largely on the back of its acquisition of Exelis.
"It really was a transformative acquisition for the company. It added scale. It broadened our technical offerings," said Harris CEO Bill Brown. "Exelis made us a solidly mid-tier player in the defense space."
Grundman warns not to discount the Harris jump as a one-off driven by a major acquisition, but rather to see it as a leading indicator of what may be to come, while Finnegan says defense electronics, as a sector, "is an area worth paying attention to."
"It’s desirable because of the potential for growth, especially in time when there are budgetary cutbacks," Finnegan said. "In times of fiscal austerity, countries may cut back on the purchase of new aircraft, but they still will be upgrading existing aircraft. So that gives you some potential for growth, even in difficult markets."
Movers and Shakers
The impact of mergers and acquisitions at the services level shows up in some of the first-time companies to make the list. Vectrus, a spin-off from Exelis, debuts at 55. Also debuting is Vencore, which was part of Lockheed Martin until 2010; in 2014, the company acquired QinetiQ North America, forming a company that provides an array of cyber and data-analysis services for the government. US firm Telephonics also makes its debut at number 98.
Traditionally, there is decent churn at the bottom of the Top 100 list, and this year Japanese companies arrived that were missing from 2014. Multinational Toshiba Corp. makes it first appearance on the list since 2011, arriving at spot 91. Conglomerate Komatsu Ltd. also arrives for the first time, at number 100.
KNDS, a joint company formed from KMW and Nexter, was the largest riser on the list, jumping from 70 in 2014 to 34 in 2015 thanks to a pooling of defense resources between the two firms. (KNDS accounted for all of KMW’s defense revenues, while Nexter continues to report some defense revenues separately.)
The biggest drop? Brazilian giant Embraer, which fell from 55 to 79 on the list, in part due Brazil’s economic problems. Defense revenues made up only 14 percent of the company’s total 2015 income, a trend that the company expects to change in the future, Jackson Schneider, head of Embraer's defense unit, told Defense News in July.
"I’m pretty sure that defense will grow and will be more representative and enlarge its market share in Embraer’s company to be more and more important for Embraer," Schneider said at the time. Embraer is banking on future sales of its KC-390 multirole aircraft, along with growth in its defensive systems business, to drive revenues over the next decade.
Several Chinese companies would likely be big movers over 2015, but they unfortunately do not make their defense revenues public, and Defense News was unable to find reliable figures.
"They’re building a whole navy. They’re building satellites. They would be in there," Callan said about the Chinese firms. "I’ve got to believe that they would be a least as large as some of the Russian enterprises."
Russian firms also lost ground on the list, despite a notable military buildup orchestrated by Moscow. Overall collective defense revenue for the six Russian companies on the list sank from $24 billion in 2014 to $18.8 billion in 2015 –- a 21-percent cut.
That change is directly attributable to the fall of the Ruble in 2015 as a result of both Western sanctions against Russia and falling oil prices. In 2014, the ranking was calculated on a 2014 average, about 38 rubles to the dollar, before the exchange rate bottomed out at 61 rubles to the dollar in 2015. Russian arms exports, which are always marketed and sold in dollars to prevent exchange rates from meddling, were at a post-Soviet high of $15.2 billion in 2015, according to Rosoboronexport.
Given the focus inside the Pentagon on bringing in non-traditional sources of technology to the building, Callan predicts new names emerging on the list in the coming years.
"In five years’ time you could see companies like Amazon on this list," Callan said.
Finnegan also highlighted space-launch firm SpaceX as a name that may enter the list in the coming years, and wondered if commercial unmanned-systems firms could eventually end up there as development in swarming technology moves forward.
However, he notes that a number of traditional defense firms are working on similar technology and may maintain a stranglehold on the Pentagon’s use of unmanned systems.
Jill Aitoro in Washington and Matthew Bodner in Russia contributed to this report.
Aaron Mehta was deputy editor and senior Pentagon correspondent for Defense News, covering policy, strategy and acquisition at the highest levels of the Defense Department and its international partners.