Critical size or critical skills? That is the question
(Source:; published Jan. 14, 2013)
Charles Edelstenne, CEO of the Marcel Dassault Industrial Group, explains why European defense companies are better off cooperating than merging.

The subject has been sparking off the same debate for many years. It reappears with clockwork regularity with every attempted merger or reorganization. Yet, the question “What future for the European defense industry?” never seems to find an answer.

According to some “experts”, this strategic industry made up of numerous companies does not have the sacrosanct critical size in Europe to play a leading role on a global scale. A critical size that one of those “experts” recently assessed in an economic journal at a minimum annual turnover of 30 billion Euros.

In the US, at the behest of Secretary of Defense William Perry, a decision was made in the 1990s to carry out major industrial amalgamations. The company bosses in question were informed of the choice without notice, at a dinner that went down in history as the “Last Supper”.

The initiative led to gigantic firms, such as Lockheed Martin, with 46 billion dollars in sales and 130,000 employees. But despite its alleged “critical size” and a single contract-giver (the US Department of Defense), the company has distinguished itself:

- with the F22, which cost four times more than the initial contract price, leading to a reduction in orders from over 700 aircraft to 180;

- with the F35, an aircraft currently being developed and the cost of which, according to the US Department of Defense, has already increased 77%, earning it the nickname “The Trillion Program”.

According to Brett Lambert, who is currently responsible for the US DoD’s industrial policy, “it was a consolidation of stock symbols that was healthy for shareholders, but not sure it ended up saving money for the taxpayer or delivered additional benefits for the war fighter.” I could give other examples, both American and European, where size is no guarantee of efficiency or success.

We should also note that numerous US corporations working for defense are conglomerates with several lines of business, like General Electric that operates in aeronautics, energy, finance and safety. In defense, the concept of critical size set by the “expert” at 30 billion Euros means nothing to major prime contractors. Its main justification seemingly lies in the ability of military programs to self-finance research, development and industrialization, yet everywhere they are financed by the State.

In the 1970s-1980s, the Northrop F20 Tigershark, the only known example of a self-funded fighter, was a failure. Today, costs are such that no manufacturer would risk a similar venture, particularly as, with no reference within its own air force, it would not find a buyer overseas.

As for the major equipment manufacturers, grouping them under the same roof – i.e. a de facto holding company – is not in favor with prime contractors who want to choose the best equipment at the best price. This does not rule out the possible need to streamline certain activities in the military sphere, as the Government cannot afford to finance competing industries.

In commercial aeronautics, size depends on the products sold. Airbus or Boeing generate tens of billions in sales, whereas business aviation turnover is around a few billion. This idea of critical size mainly applies to mass production industries. Ultimately, the real differentiating factor is not size, but skill.

Dassault Aviation has been capable of manufacturing products such as the Rafale, the Falcons and the nEUROn (1).

No one could say that its size has been a disadvantage for these achievements. Quite the contrary, their performances, lead-times and costs were perfectly managed and are exemplary compared to those of other industry manufacturers.

Such management relies on technological excellence and widespread use of innovative IT tools, created by Dassault Systèmes and now global standards. These tools allow engineers worldwide to work together remotely in a virtual design office on the same digital product mock-up. The Falcons have long benefitted from such tools, and they avoided a dramatic cost drift on the Rafale program, despite the lengthy phasing. These are the tools of the 21st-century industry.

If these consolidations aim to reduce defense equipment costs in Europe, should we merge the various European companies or merely prompt them to cooperate efficiently?

For companies, mergers almost unavoidably come with:
- culture shocks,
- HR problems,
- and management paying less attention to the real issues, i.e. products and customers, because a company is there to make products, not to form structures.

In defense industries, which are sovereign, high-tech industries, transnational mergers add problems relating to:
- the location of decision and competence centers;
- the distribution of employment.

The other drawback with mergers is that they freeze situations for good.

Cooperation, meanwhile, offers the advantage of being flexible, i.e. the possibility of variable geometry alliances depending on programs and national needs that change with time. Recent examples of cooperation have been somewhat inefficient, particularly in managing program lead-times, costs and performances.

What factors explain these drifts?

- Firstly, the lack of a common product definition leading to several versions, whereas when they buy US equipment, the same countries accept the definition they are offered.

- Secondly, the lack of a clearly identified prime contractor.

- And lastly, a choice of manufacturers taking part in the program very often made on the basis of the technologies they want to acquire as part of the programs, rather than the skills they actually have.

However, on 1st December 2012, for its first flight, the nEUROn demonstrated that there is no need to merge to be efficient, far from it. This UCAV, designed and produced by six manufacturers from six European countries, has proved that future solutions are already emerging in Europe. It is the biggest European research and technology program.

And it met the cost limits set because it is based on a simple principle: that of creating a federation of skills, i.e. bringing together top talents under the leadership of a single prime contractor, with tasks clearly shared out according to each party’s capabilities.

Only Government can solve the problems inherent in European cooperation, as they come within their sovereignty. But that’s supposing that there are joint projects and budgets.

As for mergers, we should let manufacturers conduct their strategies according to the industrial or financial opportunities that arise.

Cooperation offers the advantage of being flexible, i.e. the possibility of variable geometry alliances depending on programs and national needs that change with time.

This column first appeared in Le Figaro on Jan. 8, 2013.


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