There is a war waging in Britain's defence industry and the chief combatants are BAE Systems and the Government. The timing could not be worse, with the war in Iraq looming. Now, more than ever, a united front would be expected.
BAE at war with Whitehall Trust has broken down between the MoD and the defence group,
write Mary Fagan and Robert Fox
However, BAE, Europe's largest defence and aerospace company, is at daggers drawn with the Ministry of Defence over delays and cost overruns relating to two of its major programmes. And City analysts say there is a question mark over its very future.
On Wednesday BAE issued its second profit warning in less than three months, when an aggressive letter from the MoD stated that cost overruns on the Nimrod maritime patrol aircraft and the Astute nuclear submarines, estimated at about £800m, would have to be borne solely by the group. The shares slumped by 40 per cent as investors realised that BAE's already fragile relationship with its most important customer was at breaking point.
"For the first time ever, I believe the Government would be receptive to a bid for BAE. They cannot manage themselves out of problems. I think the MoD would sell them for a dollar if someone offered it today," says one influential analyst. "No one is saying the MoD is blameless, but if BAE died today, ministers would party and worry about the UK's defence manufacturing capability tomorrow."
So deep does this bitterness run in Whitehall, and so sensitive are the issues involved, that Tony Blair has been drawn in. And there are signs that Number 10 is uncomfortable with the way the MoD has handled its dealings with BAE - though one minister said that rumours of a rift were unfounded.
The prime minister invited the permanent under secretary at the Ministry of Defence, Sir Kevin Tebbitt, to brief him about the BAE crisis and whether the company could be trusted with the UK's major defence projects in future. However, it is unclear whether the meeting took place, after Downing Street schedules were thrown into disarray by the media frenzy over Cherie Blair.
Anyway, although the problems with Astute and Nimrod have triggered the panic, of greater concern to the government is who should win the contentious £13bn order for two giant aircraft carriers to be delivered in 2012 and 2015. Failure to clinch the deal would be a savage blow to BAE.
For months it has been lobbying against its main rival, Thales of France, for the carrier contract, and until just days ago was confident of success. In the wake of the Nimrod and Astute fiascos, BAE acknowledges that the carriers might slip from its grasp.
According to one BAE insider: "The real question now is, does the Government have the confidence to award it to us? If for any reason they wanted to find something to make it easier to offer the contract to the French, then this does make it easier."
This is big stuff for a company which, defence sources say, has hinted it might "become unviable" if it does not get the carrier deal (due to be announced on January 30).
The defence secretary, Geoff Hoon, and the defence staff under Admiral Sir Michael Boyce, do not seem impressed by the brinkmanship. And the Navy is particularly critical of BAE's manufacturing performance. "Most of the problems we seem to have now is with British-made systems," one senior commander remarked. "The outstanding success has been the Vanguard submarines and the Trident ballistic missile, a largely American system delivered on time and under budget."
Those are chilling words for BAE's management, led by Sir Dick Evans, the group's chairman, and Mike Turner, the abrasive chief executive. One of the most bizarre aspects of this sorry tale is that it is just nine months since BAE ousted Turner's predecessor, John Weston, citing his adversarial relationship with the MoD. Now it is the future of Turner and Evans, who many say had already outstayed his welcome, that is in question.
Since Weston's departure, Turner appears to have lost what few friends BAE had in the City and in Government. He went so far in a recent newspaper interview as to insist that BAE should be handed most big Government defence contracts on a plate and be allowed to earn higher margins to boot.
It comes as some surprise, then, when a BAE spokesman says: "Mike and the team are now just determined to re-establish a mutually beneficial relationship with the MoD. What we do not want to do is negotiate in public. We just want to renegotiate the [Nimrod and Astute] contracts and put it behind us and then get on with the job."
In spite of BAE's protestations, City analysts are sceptical about the group's ability to persuade the MoD to share the extra cost incurred on the Astute and Nimrod programmes, both fixed-price deals signed in the mid-1990s.
Last Wednesday morning, Sir Robert Walmsley, the chief of defence procurement, delivered his verdict in a terse letter to the board which stated "we cannot protect the company from losses which in our judgement arise from its failure to perform". BAE says that the letter was in direct conflict with the spirit of negotiations, which had been going on with the MoD since November.
Whatever BAE says, the cracks in its relationship with the MoD have been widening for months, if not years. The group has long been trying to scrap the concept of fixed-price contracts and, during Weston's tenure, it appeared to have persuaded the MoD that BAE would not bankrupt itself to win deals. That success, and BAE's bully-boy lobbying tactics (often including threats of job losses if deals were awarded elsewhere), left a bad taste in the mouths of Whitehall officials. It lingers.
Within the last few weeks, the ministry infuriated the group by saying the long overdue Eurofighter Typhoon aircraft would be delayed by a further six months until June. BAE said that the fault was the MoD's tardiness in approving the Typhoon, while the three other governments in the Eurofighter consortium (German, Spain and Italy) were forging ahead.
As the group struggles to rebuild bridges with a recalcitrant MoD, its shareholders can only look on in dismay. Investment banks, including ABN Amro and Goldman Sachs, expect the dividend to be slashed. There are even those who say that the payout could be ditched completely when the company next announces results in February.
BAE says with its typical sang-froid that by then there will be agreement with the MoD on the "cost implications" arising from Astute and Nimrod. However, few outsiders are persuaded by BAE's perennial Macawberism that something will turn up.
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