The British defence giant BAE Systems is in merger talks with EADS, owner of the plane maker Airbus, to create a £30bn European aerospace and security champion.
The deal was disclosed yesterday as shares in BAE soared 11 per cent to 363.6p. Under the outline terms, BAE shareholders would own 40 per cent of the merged business, with EADS accounting for 60 per cent.
The two already collaborate on the Eurofighter Typhoon and MBDA, a missiles venture, but a merger is designed to better compete with the American plane maker Boeing, as well as boost EADS's sales to the Pentagon, where BAE is a key supplier.
The British Government will need to be convinced. It holds a "golden share" in BAE, allowing it to veto any buyout bids from overseas. The company is a major employer and exporter, and is responsible for much of Britain's defence technology.
In comparison, the French government owns 15 per cent of EADS, with an equivalent German stake held through the car maker Daimler. Special shares would be issued to the three governments as part of the proposal to protect national interests.
BAE has been struggling to define its future strategy as defence spending cuts have forced it to axe jobs. One of its three shipyards in Scotland and Portsmouth are expected to close, and aerospace hubs in Lancashire and Humberside have also shed staff.
Ian King, the chief executive, has a strained relationship with the City that has seen the company's shares slide by a fifth in the last five years.
The dual-listed company is expected to be led by EADS's boss, Tom Enders, and headquartered outside the UK. However, Mr King is expected to be retained to lead an expanded defence and security business based in Britain. Few job losses are predicted.
The disclosure comes at a sensitive time for the Government, which is trying to throw its weight behind manufacturing. Dick Olver, BAE's chairman, sits on the Prime Minister's business advisory council. But the announcement was met with an enthusiastic response on Whitehall, with a leading Shadow Cabinet member describing the move as "very positive".
However, the companies will have to woo the White House and the Pentagon. The combined group is likely to derive just under a quarter of its sales from the US, and, in an election year taking place in the spectre of massive unemployment, US officials will have to be convinced that the move does not represent a threat to its own workforce.
Under the takeover rules, the companies must announce the result of their discussions by 10 October. The terms of the deal will see EADS pay £200m to its shareholders prior to completion of any deal, as BAE usually pays investors a better dividend every year. BAE used to be a shareholder in Airbus, but sold its stake six years ago.
In a statement, BAE said: "BAE Systems and EADS believe that the potential combination … offers the prospect of significant benefits for customers and shareholders of both companies. These benefits include cost savings, such as from procurement and sourcing efficiencies available to the enlarged group, and substantial new business opportunities."