Aerospace

DOMINIONGLOBALIZATION WORKSHOP

Dennis Encarnation

Harvard University

For more information, please contact me atwww.encarnation.com

MANUFACTURING

Aerospace

Topics:

1. Two Views of Globalization, Revisited

a. A “Flat” World:

The Rise of Asia-Based Companies &

Asia-Based Operations

b. A “Mountainous” World:

Continued Trans-Atlantic Dominance

2. Aerospace Value Chain

a. Downsteam: Sales & After-Market

b. Midstream: Manufacturing & Systems

Integration

c. Upstream: R&D, Design, Engineering

3. Multi-Tiered Supply Chainsa. Primes: A World of ‘Coopetition’

b. Tier 1: ‘Coopetition’ vs. Specialization

c. Below Tier 1: Asia outside Japan

TWO VIEWS OF GLOBALIZATION

THE EMERGINGCONCENSUS

the world is flat

it’s a borderless world

where geography mattersless and less

with increased geographicdispersal of assets,capabilities and wealth

where our choices--business, cultural, economic,political, technological, social--are converging

GARMENTS: A FLATTER WORLD

the garment trade is highly segmented, with Asia generallycompeting for volume & Europe generally competing for price…

ELECTRONICS: A FLATTER WORLD

16.8Lenovo (China)499.38.1Canon (Japan)189.

17.2Xerox (US)489.37.0Philips (Netherlands)197.

18.2Sanyo (Japan)459.38.3Intel (US)188.

19.4Ricoh (Japan)438.40.4NEC (Japan)174.

19.5Whirlpool436.46.7Fujitsu (Japan)149.

21.9Onex (Canada)386.51.5Microsoft (US)136.

22.2Sumitomo Electric (Japan)383.51.8Hon Hai (Taiwan)132.

22.6Emerson Electric (US)375.61.1Dell (US)106.

23.0Asustek Computer (Taiwan)363.67.1Toshiba (Japan)91.

344.

342.

332.

325.

292.

261.

218.

210.

200.

192.

23.7Quanta Computer (Taiwan)69.9Nokia (Finland)88.

23.7Schneider Electric (France)77.7Sony (Japan)75.

24.0Apple (US)79.4Matsushita (Japan)72.

24.6Alcatel-Lucent (France)82.1LG (Korea)67.

27.6Flextronics (Singapore)98.3Hitachi (Japan)48.

29.9Sharp (Japan)98.8IBM (US)46.

34.9Cisco Systems (US)104.3Hewlett-Packard41.

35.5Mitsubishi Electric (Japan)106.0Samsung (Korea)38.

36.6Motorola (US)106.1Siemens (Germany)37.

37.7Tyco (US)176.7General Electric (US)12.

RANKING AMONG THE FORTUNE GLOBAL 500 COMPANIES, 2007(revenues in US$ billion)

Nearly half of the world’s largest electronics companies are based in Asia…

TWO VIEWS OF GLOBALIZATION

AN ALTERNATIVEPERSPECTIVE

a very “mountainous”world, with deep “valleys”

globalisation is aboutmaking borders work

where geography mattersmore & more

with increased geographicconcentration of assets,capabilities and wealth

globalisation means morechoices, not less

THE EMERGINGCONCENSUS

the world is flat

it’s a borderless world

where geography mattersless and less

with increased geographicdispersal of assets,capabilities and wealth

where our choices--business, cultural, economic,political, technological, social--are converging

QUESTION: UPSTREAM VALUE ADDED

WHAT INDUSTRIES HAVE A HIGH DEGREE

OF INDUSTRIAL CONCENTRATION IN THE

NORTH ATLANTIC REGION?

WHY?

PHARMACEUTICALS: TRANS-ATLANTIC CONCENTRATION

RANKING AMONG THE FORTUNE GLOBAL 500 COMPANIES, 2007

29.6UKASTRA ZENECA7.

25.9USAABBOTT LABORATORIES8.

24.2USAMERCK9.

22.4USAWYETH10.

45.4UKGLAXO SMITH KLINE3.

48.4USAPFIZER2.

40.3SWITZERLANDROCHE GROUP4.

40.0FRANCESANOFI AVENTIS5.

39.8SWITZERLANDNOVARTIS6.

20.0USABRISTOL-MYERS-SQUIBB11.

18.6USAELI LILLY12.

61.1USAJOHNSON & JONHSON1.

REVENUES(US$ billion)

HQ LOCATIONCOMPANY NAMERANK

Source: Fortune, 2009.

Not one Asian- or BRIC-based pharmaceutical company appearsamong the 500 largest companies

PHARMACEUTICALS: TOP 10 TRADERS

Source: WTO, 2008.

10.

9.

8.

7.

6.

5.

4.

3.

2.

1.

2.3CHINA2.0ISRAEL10.

2.5BRAZIL2.5AUSTRALIA9.

2.8MEXICO2.8INDIA8.

3.2TURKEY2.9

0.6

SINGAPORE

RE-EXPORT

7.

3.9RUSSIA3.3JAPAN6.

5.5AUSTRALIA3.5CANADA5.

7.8CANADA3.8CHINA4.

8.2JAPAN25.1SWITZERLAND3.

39.3USA25.9USA2.

155.9

38.1

EU (25):INTRA

EXTRA-EU

190.9

73.0

EU (25):INTRA

EXTRA-EU

1.

TOP 10 EXPORTERS, 2006(US$ billion)

TOP 10 IMPORTERS, 2006(US$ billion)

PHARMACEUTICALS

AEROSPACE: TOP 10 TRADERS

Source: UNCTAD/WTO, International Trade Centre, 2007.

10.

9.

8.

7.

6.

5.

4.

3.

2.

1.

3.0ITALY1.1NETHERLANDS10.

3.2SPAIN1.4JAPAN9.

3.8SINGAPORE1.5SINGAPORE8.

4.8JAPAN2.8SPAIN7.

5.0INDIA3.3BRAZIL6.

5.3CANADA3.4ITALY5.

6.6CHINA8.0CANADA4.

11.1FRANCE19.3GERMANY3.

16.6USA24.5FRANCE2.

19.4GERMANY49.8USA1.

TOP 10 EXPORTERS, 2005(US$ billion)

TOP 10 IMPORTERS, 2005(US$ billion)

AIRCRAFT & SPACE VEHICLES PLUS ASSOCIATED EQUIPMENT

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AEROSPACE: TRANS-ATLANTIC CONCENTRATION

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*Revenues for defense & space, government information services &

commercial aircraft (including financing), components & subsystems.

2007

Sales, $B*

Source: Annual Reports; Dennis J. Encarnation & Associates, 2008.

How do you explain the continued geographic concentrationin the aerospace industry?

TOP 20 AEROSPACE COMPANIES, 2007

MILITARY SPENDING: TOP 10MILITARY SPENDING

(US$ billion & % of US$1,367 billion, 2006)

1.622.3INDIA10.

1.723.7SOUTH KOREA9.

2.635.7GERMANY7.

22.6307US Alliances*

9.0122CHINA2.

4.459.1RUSSIA3.

4.155.1UK4.

3.345.3FRANCE5.

3.041.1JAPAN6.

1.925.4SAUDI ARABIA8.

47.5%

% GLOBAL

MILITARY

SPENDING

644

MILITARY

BUDGET(US$ billion)

USA1.

COUNTRYRANK

Note: *Multilateral (NATO) and bilateral (Australia, Japan, S. Korea) alliances.

Sources: International Institute for Strategic Studies, 2006; US Department of Defense, 2007.

WEALTH & MILITARY SPENDING, 2007

Source: IMF & World Bank, April 2008; US Department of Defense, 2007.

22INDIA10. 1.8ITALY10.

24SOUTH KOREA9. 1.8BRAZIL9.

8.

7.

6.

5.

4.

3.

2.

1.

25SAUDI ARABIA 2.0FRANCE8.

36GERMANY 2.1RUSSIA7.

41JAPAN 2.1UK6.

45FRANCE 2.8GERMANY5.

55UK 2.8INDIA4.

59RUSSIA 4.3JAPAN3.

122CHINA 7.0CHINA2.

644USA13.8USA1.

307US ALLIANCES14.7EU

1,367WORLD64.9WORLD

2007 GDP AT PPP FX RATES(US$ trillion)

2006-07 MILITARY BUDGETS(US$ billion)

The Geographic Concentration Of Wealth & Of Military Spendingis Highly Correlated--8 Of The Top 10 Are The Same--

Suggesting that Military Security is Essential for Economic Growth

MANUFACTURING

Aerospace

Topics:

1. Two Views of Globalization, Revisited

a. A “Flat” World:

The Rise of Asia-Based Companies &

Asia-Based Operations

b. A “Mountainous” World:

Continued Trans-Atlantic Dominance

2. Aerospace Value Chain

a. Downsteam: Sales & After-Market

b. Midstream: Manufacturing & Systems

Integration

c. Upstream: R&D, Design, Engineering

3. Multi-Tiered Supply Chainsa. Primes: A World of ‘Coopetition’

b. Tier 1: ‘Coopetition’ vs. Specialization

c. Below Tier 1: Asia outside Japan

AEROSPACE VALUE CHAIN

Where do Asian & BRIC-based companies play in thisvalue chain?

Where do they hope to play in the future?

DOWNSTREAM: ASIAN PROMINENCE

Most aerospace products are sold commercially, where the Asia-Pacific region is emerging as the largest geographic market

MIDSTREAM: MANUFACTURING

In marked contrast to the electronics industry, very littleaerospace manufacturing has moved to low-cost countries in

Asia and elsewhere.

MIDSTREAM: SYSTEMS INTEGRATION

Value-Added outside the United States is limited, but growing….

BOEING: GEOGRAPHY OF CONTROL & LOCATION

OFF-SHORE

OU

T-S

OU

RC

EIN

-HO

US

E

ON-SHORE

GEOGRAPHY OF LOCATION

distance

GE

OG

RA

PH

Y O

F C

ON

TR

OL

inte

gra

tio

n

Boeing Commercial &

Defense Products:

Systems Integration

& Final Assembly

Boeing Commercial & Defense

Products before 787:

Subassemblies, Parts & Components

Boeing: 787 Subassemblies,

Parts & Components

UPSTREAM: INDIA AS A CASE STUDY

India hopes to leverage its large market downstream for more work upstream, especially in R&D, Engineering, IT, and Manufacturing

Source: Dennis J. Encarnation & Associates, LLC, 2009.

MANUFACTURING

Aerospace

Topics:

1. Two Views of Globalization, Revisited

a. A “Flat” World:

The Rise of Asia-Based Companies &

Asia-Based Operations

b. A “Mountainous” World:

Continued Trans-Atlantic Dominance

2. Aerospace Value Chain

a. Downsteam: Sales & After-Market

b. Midstream: Manufacturing & Systems

Integration

c. Upstream: R&D, Design, Engineering

3. Multi-Tiered Supply Chainsa. Primes: A World of ‘Coopetition’

b. Tier 1: ‘Coopetition’ vs. Specialization

c. Below Tier 1: Asia outside Japan

A MULTI-TIERED SUPPLY CHAIN

Where do Asian & BRIC-based companies play in thisvalue chain?

Where do they hope to play in the future?

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AEROSPACE: TRANS-ATLANTIC SUPPLY CHAIN

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*Revenues for defense & space, government information services &

commercial aircraft (including financing), components & subsystems.

2007

Sales, $B*

Source: Annual Reports; Dennis J. Encarnation & Associates, 2008.

Only 1 Asian company and only 1 BRIC-based company figures prominently in the global supply chain

TOP 20 AEROSPACE COMPANIES, 2007

GLOBALIZATION THRU LOCAL CONTENT: MHI

Aerospace

Systems

FY2006 Financial Results (FY Ending 3/31/06)

Sales - $26.0B

Operating Profit - $627M

Executive Management

Kazuo Tsukuda, President

Hideaki Omiya, President

Machinery &

Steel

Structures

Ship-Building

& Ocean

Development

Power

Systems

• Defense Aircraft & Aeroengines

• Tactical Fighters

• Helicopters

• Commercial Aircraft Components

• Aircraft Engines

• Guided Weapon Systems

• Space Systems

• Launch Vehicles

• International Space StationOther

2006 Sales – $3.9B

Mass &

Medium-lot

Machinery

2006 Sales – $6.3B 2006 Sales – $2.0B

2006 Sales – $4.8B

2006 Sales – $608M

2006 Sales – $7.1B

Mitsubishi Heavy Industries

Japan’s largest defense contractor for a half century

2006 Preliminary Financial Results

Sales = $15.7B

Op. Profit = $1.1B

Executive Management

Pier F. Guarguaglini, Chairman and CEO

Giorgio Zappa, COO

Chairman & CEO, AleniaCOO, Finmeccanica

2005 Sales = $2.5B

2005 Sales = $1.5B2005 Sales = $961M

2005 Sales = $4.1B

• Agusta Westland (50%)

• Bell Agusta Aerospace Co. (50%)

• GIE ATR (50%)

• Civil Aerostructures

• Modifications

• Military Transport,Training & Combat A/C

• Telecommunications

• Components &subsystems

• Satellites & Services

• Space Mission Mgmt

Aeronautics

TransportationEnergy

• Avionics

• UAVs

• Land & Naval C2

• Radar Systems

Defence

Electronics

GLOBALIZATION THRU LOCAL CONTENT: ALENIA

2005 Sales = $917M

Space

2005 Sales = $3.1B

Helicopters

• Missiles

• Land, Air & NavalWeapons Systems

• Underwater weapons& sonar

2005 Sales = $1.5B

Defence

Systems

Protecting the Home Market

Finmeccanica

GLOBALIZATION THRU LOCAL CONTENT: NORTHROP

Electronic

Systems

2006 Sales=$6.6B2006 Margin=11.3%

2006 Financial Results

Sales - $30.1B

Operating Profit - $2.5B

Executive Management

Ronald Sugar - Chairman & CEO

Aerospace

2006 Sales=$5.6B2006 Margin=9.1%

2006 Sales=$11.3B2006 Margin=8.7%

• Aerospace Sys.

• C4ISR & Naval

Sys.

• Defensive Sys.

• Navigation Sys.

• Gov’t Systems

• Space Sys.

• Air Combat Systems

• Airborne Early

Warning/Electronic

Warfare

• Airborne Ground

Surveillance/Battle

Management

• Civil Space

• Missile & Space

Defense

• Satellite Comm.

• ISR

• Radio Systems

• Technology

Information

Technology

& Services

• Government IT

• Enterprise IT

• Technical Services

• Commercial IT

• C2 & Intelligence

• Missile Systems

• Technical & Mgmt

Svcs

2006 Sales=$5.3B2006 Margin=7.4%

Ships

• Aircraft Carriers

• Surface Combatants

• Amphibious &

Auxiliary

• Submarines

• Commercial & Int’l

• Services

Northrop Grumman

Joint Bid with EADS forUS Tankers,

Trading Market Accessfor Product Offering

• Astrium

• Arianespace (22.9%)

• Satellite Systems

• Ground Stations

• Space Transportation

• Eurofighter (43%)

• Dassault (45.7%)

• Defense Electronics

• MBDA (50%)

• Support, Services,Training

• SecureCommunications

Executive Management

Louis Gallois, Co-CEO

Thomas Enders, Co-CEO To Airbus CEO

• ATR (50%)

• EFW

• SOCATA

• SOGERMA

2006 Sales = $1.6B

2006 Sales = $4.0B2006 Sales = $7.4B

• Military Helicopters

• Civil Helicopters

2006 Sales = $4.8B

2006 Sales = $2.8B

GLOBALIZATION AS REGIONALIZATION: EADS

2006 Financial Results

Sales = $49.6B

Earnings = US$501M (vs. US$3.6B in 2005)

• CASA MilitaryTransports

• Airbus MilitaryCompany (A400M)

Other

Astrium

Defense &

Security

Systems

Military

Transport

Aircraft

Eurocopter

A microcosm of the macro dynamics of EU integration

EADS

Airbus

2006 Sales = $31.6B

Airbus Integrated

Company (80%)

• Commercial Aircraft

2006 Financial Results

Sales = $26.8B

Operating Profit = $2.1B

Executive Management

Dick Olver, Chairman

Mike Turner, CEO

Ian King, CEO

2006 Sales = $5.7B

2006 Sales = $6.2B

Airbus (20%)

• A380 development

• Wing design andtransport

• Wingtips, leadingedges, ailerons,airbrakes production

2006 Sales = $3.4B

2006 Sales = $532

2005 Sales = $5.9B 2006 Sales = $7.8B

• InformationSystems

• Controls

• TechnologyServices

• Information andElectronicSystemsIntegration

• C41SR

Air Systems

• Eurofighter

• JSF

• Nimrod

• Hawk

Sea Systems

• Type 45

• Astute

• UnderwaterWeapons

• Future Carrier

ProgrammesCommercial

Aerospace

Electronics,

Intelligence

& Support

International

Systems &

Partnerships

Customer

Support &

Solutions

HQ & Other

Business

GLOBALIZATION THRU INVESTMENT & JOINT PROGRAMS: BAE

Structure is the servant of strategy

BAE Systems

Land &

Armaments

2006 Sales = $4.1B

• InformationSystems

• Armoredcombatvehicles

• Naval gyros

• Missilelaunchers

• Artillerysystems

• Intelligentmunitions

SOLD

2004 Financial Results

Sales = $24.7B

Operating Profit = $1.9B

Executive Management

Dick Olver, Chairman

Mike Turner, CEO

Chris Geoghegan, COO

Steve Mogford, COO

Mark Ronald, COO

2004 Sales = $5.3B

2004 Sales = $4.1B

Airbus (20%)

• A380 development

• Wing design andtransport

• Wingtips, leadingedges, ailerons,airbrakes production

2004 Sales = $3.5B

2004 Sales = $2.0B

2004 Sales = $5.3B 2004 Sales = $5.0B

• InformationSystems

• Controls

• TechnologyServices

• Information andElectronicSystemsIntegration

Air Systems

• Eurofighter

• JSF

• Nimrod

• Hawk

Sea Systems

• Type 45

• Astute

• UnderwaterWeapons

C4ISR

ProgrammesCommercial

Aerospace

North

America International

Partnerships

Customer

Support &

Solutions

Avionics

GLOBALIZATION AT BAE: US ACQUISITIONS

Structure is the servant of strategy

BAe Systems

REVERSE TREND, GLOBAL TO LOCAL: LOCKHEED

Aeronautics

2005 Sales = $11.7B2005 Margin = 8.5%

2005 Financial Results

Sales = $37.2B

Operating Profit = $3.0B

Executive Management

Robert J. Stevens, Chairman,President & CEO

Space

Systems

2005 Sales = $6.8B2005 Margin = 8.9%

2005 Sales = $10.6B2005 Margin = 10.5%

Information&

TechnologyServices

2005 Sales = $4.0B2005 Margin = 8.8%

• Combat Aircraft

• Air Mobility

• Aeronautical R&D

• Launch Services

• Commercial

Satellites

• Government

Satellites

• Strategic Missiles

• Ground Systems

• Missiles & Fire Control

• Maritime Systems &

Sensors

• Simulation, Training &

Support

• Systems Integration -

Owego

• Transportation &

Security Solutions

• LM Canada

• Federal

Technology Svcs

• Department of

Energy

• Gov’t &

Commercial IT

• Aerospace Svcs

Integrated

Systems

Solutions

2005 Sales = $4.1B2005 Margin = 8.8%

• Management &

Data Systems

• Mission Systems

Electronic

Systems

LockheedMartin

•US Government, 51%

•US Classified, 20%

•Foreign Governments, 19%

•US Commercial, 7%•Foreign Commercial, 3%

Geographic Sales, 2005 (%)Not seeking to become a “global enterprise for aerospace leadership”

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*Revenues for defense & space, government

information services & commercial aircraft

(including financing), components & subsystems.

2003

Sales, $B*

SPECIALIZED TIER 1 SUPPLIERS: GE

A GE-Honeywell merger would have furtherconsolidated the aerospace industry, creating a

new #4 with aspirations for being #1 or #2

GE + Honeywell

RESTRUCTURING TODAY: A FEW TRENDS

Tata no prior defense or aero-

space experience except in IT

By 2011: sole supplier of787 floor beams, & potentialJV partner for Boeing

Mahindra Indian defense contractor,

mainly for combat & supplyvehicles to the Army

partner of choice for BAeSystems as it expandsplatforms into India

Larsen & Toubro Indian defense contractor,

mainly for ships and weaponsto the Navy

potential supplier to Boeing

Entry ofAdjacent Players

Case Study: India

Sovereign funds &state banks

Middle East oil exporters:Mubadala, SAGIA, etc.

Russia: Vneshtorgbank’s5% equity stake in EADS

State-ownedenterprises

Russia: Consolidation ofseveral enterprises in UnitedAviation Corporation (UAC)

India: HAL’s resurgencethru offsets

State Aid, Revisited Exim financing or not to

buyers: airlines

For R&D: GE-GlobalResearch Centre-Munich

The NewNationalism

Case Study: Global

Servicing a largeinstalled base

Commercial: GE-Ae serviceshops

Military: Boeing’s ISS, fromCanada to the Netherlands(to Korea)

New products innew geographiesacross regions

BAe’s acquisition of Sandersin the US defined the futureof aerospace M&A

Finmeccanica’s acquisitionof DRS Technologies in theUS is the largest to date

GE’s acquisition of SmithAerospace in the UKillustrates the reverse trend

Expansion intoAdjacencies

Case: Trans-Atlantic