The decision, made after BAe's advisers had received a mixed response from soundings among institutional shareholders, removes all the obstacles to GEC's knockout bid of pounds 21.50 a share, worth pounds 835m.
As VSEL recommended the GEC bid to shareholders, BAe shareholders strongly approved the plan to back away from a fight. Its share price rose 28p to 560p.
GEC's share price also rose slightly. In the City, the company is still thought to harbour long-term ambitions to merge its defence interests and those of British Aerospace.
But it is understood that there is no change in Lord Weinstock's decision that any deal between the two companies will have to be friendly, ruling out a hostile bid for British Aerospace, whose board has reacted frigidly to overtures from GEC in the past.
Aerospace sources denied the company had run into an institutional blockage as it considered whether to bid again for VSEL over the past fortnight. But advisers are known to have found a mixture of neutrality, outright opposition and support in the City, and these mixed feelings about the prospects of trying to outgun GEC are thought to have been reflected at board level.
With British Aerospace's City reputation and share price having risen sharply over the last six months, "this is not the time to dissipate it", said the company.
BAe sources said it had pounds 1.3bn of systems business and prime contracting in naval defence last year and that the amount would increase in 1995. There would be a major effort to get a larger share of this business in future. A company source said that while it would have been convenient to buy a submarine maker, there was no money to be made out of the business of actually building the hulls. The profits were in the equipment and systems.
The company's strategy would probably be to look for European partnerships in naval defence and it was investigating a number of options.
A company statement said: "An offer for VSEL by British Aerospace at this or any higher level would not be in the interests of British Aerospace or its shareholders. Consequently, British Aerospace will not be pursuing its offer for VSEL."
Dick Evans, the company's chief executive, said: "We made this decision only after considerable analysis. However, even with the significant commercial and taxation benefits available, the outlook for VSEL's profits as the Trident programme winds down would make an acquisition at these price levels materially dilutive, given our expectations for the results of British Aerospace over the same period."
The company is to repay the first instalment of the pounds 383m rights issue announced on March 30 by 19 July together with interest at 8 per cent. The second instalment of the rights issue is automatically cancelled.
GEC's success is due in large part to a decision by Michael Heseltine, president of the Board of Trade, to overrule a recommendation by a majority vote of the Monopolies and Mergers Commission, which wanted the takeover banned on competition grounds.
A minority of two commission members said they thought the company should be allowed to bid for VSEL and Mr Heseltine sided with them, citing the Ministry of Defence's approval of a consolidation of the warship yards as a reason.Reuse content