War is hell, but not for industry

The conflict in Serbia means opportunities for construction companies as well as arms manufacturers, writes Hilary Clarke

"One of the sad things about wars is that they are not bad for business." Alan Sharman, director general of Britain's Defence Manufacturers' Association, wasn't talking specifically about the arms industry.

Indeed, when the bombs first started to fall on Serbia 66 days ago, the first stocks to rise on their respective bourses were German and Dutch construction companies. Investors were betting they would be looking at lucrative construction projects once the bombing in Yugoslavia stopped and rebuilding began, the final bill for which could be as high as $30bn (pounds 20bn).

But as the military campaign in the Balkans intensifies, the fortunes of the defence industry, which has been in decline since the end of the Cold War, seem to be turning. And UK manufacturers are ex-pected to be well positioned to reap the benefits.

British defence companies had a comparatively good spell last year despite the havoc wreaked when their biggest customers in the Middle East were hit by the fall in oil prices.

British arms exports in 1998 were worth $10bn, giving the UK 26 per cent of the export market and making Britain the second-biggest exporter of arms after America, whose exports in the same period were worth $14bn.

But the conflict has demonstrated Nato's reliance on American equipment and manufac- turers. This will further fuel the general trend towards consolidation that is already well under way in the European defence industry.

The US, which has the lion's share of the market and spends five times more on military research and development than Europe, is already worried about competition. Witness the recent US reaction to the proposed merger of the defence divisions of GEC and Marconi. John Hamre, the US Deputy Defense Secretary, accused European companies of creating a "fortress Europe" designed to prevent competition from US arms companies.

Only on Friday, France's Aerospatiale Matra said forming alliances with European partners was its first priority after completing its initial public offering this week.

But the effects on the British and European arms industry of the Kosovo crisis will not be immediate. "The experience from the Gulf and Falklands conflicts was that it could be a couple of years before the benefits for defence companies feed through," said Mr Sharman.

Although the campaign is estimated to be costing Britain alone around pounds 3m a day, MoD sources say it is still too early to say how much new business for bomb manufacturers like GEC will be generated when the Government replenishes its stocks.

Ditto for the aircraft carrying the bombs. Unless they are shot down in significant numbers, there will be no rush by Nato governments to buy new ones. But, in time, those being used will need a major service, bringing lucrative new contracts to the companies that made them.

If, on the other hand, ground forces were to go in, "the logistics required would be enormous," said Mr Sharman.

"We don't expect to be a material beneficiary of the conflict," said Dennis Clark, finance director with Hunting Engineering. The company stopped making bombs after the fall of the Berlin Wall, concentrating instead on military support services. But: "If the troops do move in then of course there will be requirement for back-up services," he said, such as structures to house troops.

In terms of share prices, investors have reacted more quickly to the likelihood of an upturn in the defence market across the Atlantic than in Britain. Shares in US aerospace and defence giant Boeing, for example, closed at $42 on Friday compared to $34 when the bombing started.

Boeing benefited almost immediately from the Nato air campaign with an order to modify over 90 air-launched cruise missiles, originally intended as Cold War nuclear weapons. In an emergency contract filed by the Pentagon in early April, the company's missile division was instructed to carry out the $41m conversions by November.

"The Pentagon is concerned that the number of cruise missiles is low - enough for this conflict against Yugoslavia, but insufficient should Saddam Hussein and Kim Jung-il decide to rattle their sabres," said Paul Beaver, spokesman for Jane's Information Group.

The US Congress is currently considering a $10.9bn supplementary military funding package to pay for the operation in Kosovo. Shares not only in Boeing, but also Lockheed Martin and other US defence companies, have risen in response.

"The aerospace business is a growth business and people are now recognising it, and this whole sector ought to be invested in," Dan Burnham, Raytheon's chief executive, told the US trade publication Defense Daily.

"Kosovo didn't make it a growth business, it's punctuated it. The need for readiness has never been more apparent and the fact that aerospace has predictable growth trends and can generate lots of cash is becoming increasingly well known in the investment community."

Cynics might see the whole Kosovo episode as an opportunity for Nato and defence manufacturers to test their weapons. While that view might be far-fetched, the war has certainly provided a showcase for some state- of-the art technology.

"All the MoDs around the world will be looking at their inventories to see if they have the right kind of equipment," said Humphrey Crum Ewing of Lancaster University's Centre for Defence and International Security Studies.

"Kosovo is pointing out where we need to have new weapon systems and where we have deficiencies," said Aloysius Rauen, president of the military aircraft division of DaimlerChrysler Aerospace. He said makers of airborne surveillance systems which can pinpoint targets from afar are set to benefit in particular. Bad weather over Kosovo at the beginning of Nato's campaign illustrated the limitations of laser-guided bombs.

That will be good news for whoever wins the current UK government tender for a pounds 750m air radar system transported in special spy planes.

The winning bid is due to be announced in the next couple of weeks. The three pairs of bidders are: the UK subsidiary of Raytheon in partnership with Bombardier; the UK's Racal and Lockheed Martin; and British Aerospace in partnership with Northrop Grumman of the US.

"There is a big potential export for this type of equipment," said Peter McKee, managing director of Raytheon Systems. "Nato needs one, too, but hasn't bought it yet."

As Mr Sharman says, wars are good for business.

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