Global Impact of Recession on Aerospace and Defense
By Madusudanan Ramani
The current recession started in the US December 2007. Some of the key
trends that are expected during the current recession are:
Volatility of crude oil price,
Prices of other commodities
such as metals are expected to be remain low on account of subdued demand,
Interest rates are expected to
be low on account of lower demand and lower cost of raw material,
Increased role of government
in business, and
Consolidation activity is
expected to take place at lower valuations, with smaller participants
The price of crude oil has come down steeply from the levels of $140 a
barrel seen in the June-July 2008. It dropped to levels of $40 a barrel by
December 2008. The price of crude oil had come down on fears of recession
and a consequent drop in demand. It has increased to levels of $65 a barrel
in June 2009 on account of increased optimism of recovery and subsequent
increase in demand for the crude oil.
Chart 1.1 depicts the price of crude oil during the period 2008-2009
The sharp drop in price of
crude oil is expected to reduce the fuel cost of airlines and improve
profitability. Fuel as a percentage of expenses is expected to come down
from levels of 32.0 percent in 2008 to 25.0 percent in 2009.
Outlook for the sector in
The earnings of the manufacturers such as Boeing, EADS, Embraer and
Bombardier might not be affected in a big way because of the huge order book
that was accumulated during the boom period. The earnings of the defense
firms might be affected due to reduced allocation of funds by the government
towards military and defense. The earnings of the passenger carriers flown
might come down in 2009. The drop in passengers flown has been steeper than
cut in capacity, which remains a huge challenge for the carriers. The
airlines have yet to fully reap the benefits of drop in prices of crude oil
as they would have hedged the part of the fuel requirement at higher price.
M&As and PE Deals
The value of the top 10 M&As in 2008 was $11.98 billion, down from $20.1
billion in 2007. The size of total M&A deals has fallen from $32.9 billion
in 2007 to $14.3 billion in 2008. The top 10 M&As accounted for 96.0 percent
of the total deal value in 2008 against 78.0 percent in 2007. The number of
deals started falling from 69 in the first quarter of 2008 to 33, 32 and 33
in second, third and fourth quarters of 2008, respectively.
Chart 1.2 depicts the A&D deals, (World), 2007-2008
Due to recession, the average size of a PE deal has fallen from $207.8
million in 2007 to $77.5 million in 2008. The PE/VC activity is expected to
increase if the valuations slip even further.
The deals outside North America and Europe have been increasing in number.
The industry participants are expected to increase their presence in the
Asia-Pacific region through M&As. The outbound deals from the Middle East
region are expected to be less than the previous years (2006-07), due to
less invest-able surplus (Petro-dollars) in the region.
Performance of Various
Segments of Industry
Defense – The prospects of the global defense industry looks bleak
due to recession and the credit crunch. Global defense spending is expected
to reduce due to increased allocation to stimulus packages.
Aircraft Manufacturing – Due to the credit crunch, the major
companies are cutting their capital expenditures. Some of the deliveries are
expected to be delayed on account of recession.
Commercial Airlines – The airlines are planning to cut capacity in the near
future and delaying the procurement of newer aircraft fleets. The lower
crude oil price will reduce the overhead of the airlines.
The recommendations that can be implemented to remain competitive are:
• Focus on green trends,
• Strategic tie-ups,
• Rationalizing the assets base,
• Concentrating on fuel efficient aircraft, and
• Route optimization.
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