In the political calculus of Wall Street, investors have come to regard Republican Administrations as the more favorable for the fortunes of the U.S. aerospace and defense industry. But things don't seem quite so clear-cut as the 2008 election approaches. The maverick reputation of Republican hopeful John McCain is making defense companies nervous about what the future may hold. And Barack Obama's commitment to protecting jobs at home (the defense industry employs a considerable number of Americans) has somewhat tempered concerns about his pledge to accelerate an end to the U.S. military presence in Iraq.
At a time when elevated public perception of foreign threats must be balanced against skepticism about the Iraq war, both Presidential candidates have been careful to play their hands close to the vest, keeping their statements on defense priorities to a minimum. American voters know that John McCain wants to maintain a robust U.S. military presence in Iraq and Afghanistan as long as is needed to win the conflicts. Barack Obama has made it clear he would gradually pull troops out of Iraq during the first 16 months of his Administration, leaving only a residual force in the region for counterterrorism missions against al Qaeda—and not establishing any permanent U.S. bases there.
Beyond that, however, many questions loom about how beneficial either Administration would be for the defense industry as a whole. Traditionally, industry executives have confidently backed the Republican candidate. But this year, many are saying they don't plan to vote at all, despite worries about Obama leaning toward lower defense spending, says Richard Aboulafia, vice-president for analysis at Teal Group, a consultancy in Fairfax, Va.
Cutback in Arms Spending?
It's unclear just what might happen to the industry in the event of a phased troop withdrawal from Iraq under Obama. When past conflicts wound down, weapons spending fell. The Vietnam pullout arguably helped reduce the threat from the Soviet Union, and after the brief 1991 Gulf War, the conventional view was that the Americans' display of military might would deter future threats.
"The difference, in a post-9/11 world, is that the perception of threat isn't likely to ease just because U.S. troops are no longer actively engaged in Iraq," says Cai von Rumohr, an analyst at Cowen & Co. (COWN) in Boston.
Recent government changes in Pakistan, a volatile U.S. ally; Russia's intervention in Georgia; and new threats in Algeria all argue for sustained, if not higher, arms spending, he says. So does the fact that U.S. military equipment is, on average, probably older than it was after prior conflicts, which bolsters the case that Armed Services officials make for bigger budgets, he adds.
More specifically, as industry lobbyists and consultants see it, Russia's invasion of Georgia will probably spur a rethinking of the Defense Dept.'s current emphasis on counterinsurgency and lead to a shift back to traditional superpower tools, such as aircraft carriers.
"The realization that the future is in traditional superpower conflicts—the pre-Afghanistan environment—and that hunting the Taliban might just be a passing fad—that's an even bigger potential sea change than the topline [revenue] issue," says Aboulafia.
Multiyear Contracts
The defense industry is also more consolidated now, which means any cuts in weapons spending might well put a contractor out of business. "If you want to maintain an industrial infrastructure, you have to have people doing something," says Cowen's von Rumohr. More coordinated, effective lobbying efforts by the industry, he says, could persuade U.S. policymakers to continue generous funding of weapons systems.