United States General Accounting Office

GAO Report to Congressional Committees

April 1998 DEFENSE INDUSTRY

Consolidation and

Options for Preserving

Competition

GAO/NSIAD-98-141

GAO United States

General Accounting Office

Washington, D.C. 20548

National Security and

International Affairs Division

B-279557 

April 1, 1998

Congressional Committees

Section 804 of the National Defense Authorization Act for Fiscal Year 1998

(P.L. 105-85) directed us to report to the congressional defense

committees information identifying major defense market areas that have

been affected by contractor business combinations since January 1, 1990,

and describing the changes in the numbers of businesses competing in

those market areas. This report responds to that direction and comments

on approaches the Department of Defense (DOD) can take to preserve and

monitor competition in the defense industry. It summarizes our March 4,

1998, testimony on defense industry consolidation before the

Subcommittee on Acquisition and Technology, Senate Committee on

Armed Services, and incorporates DOD’s comments where appropriate.

Background The end of the Cold War dramatically affected the size and structure of the

U.S. defense industry. Decreased defense spending, declining sales, and

excess capacity prompted many defense companies to consolidate to

remain competitive and financially viable. While DOD has encouraged

consolidation, it has also attempted to ensure that capabilities to produce

defense unique products continue to exist and that innovation and

competition do not suffer.

Results in Brief The sharp decline in spending by DOD since 1985 has resulted in a dramatic

consolidation of the defense industry, which is now more concentrated

than at any time in more than half a century. As the single customer for

many products of the defense industry, DOD must have the ability to

identify and address potential harmful effects of mergers and acquisitions.

Questions have been raised about whether the consolidation has gone too

far—adversely affecting competition in the industry. Many defense

industry mergers and acquisitions are recent, so there is little evidence

that the increased consolidation has adversely affected current DOD

programs. Antitrust reviews have identified some problems, and remedies

have been implemented. However, the consolidation could pose future

problems unless DOD improves its ability to identify problem areas and

devises alternative ways to maintain competition in defense acquisition

programs. DOD can take several approaches to maintain competition. For

example, it can design acquisition strategies to compete missions rather

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B-279557 

than products and provide funding to develop alternative suppliers or

technologies. However, DOD cannot know what action to take unless it has

adequate visibility into the industrial base—especially at the lower tiers.

Progress has been slow in gaining that visibility.

Consolidation in the

Defense Industry Has

Occurred in Most

Market Areas

Since 1990, there has been a dramatic reduction in the number of prime

contractors in 10 of the 12 markets DOD identified as important to national

security. The largest number of reductions have been in the tactical

missile, fixed-wing aircraft, and expendable launch vehicle markets. For

example, the number of contractors producing tactical missiles has

dropped from 13 to 4. Only two contractors now compete in such key

defense markets as expendable launch vehicles, tracked combat vehicles,

strategic missiles, and torpedoes. Appendix I shows changes, as of

March 1, 1998, in the number of contractors in defense markets identified

by DOD as important.

This concentration was not unexpected. DOD has encouraged the defense

industry to consolidate facilities and eliminate excess capacity to remain

competitive and financially viable. DOD expects that significant cost

savings will result from the consolidation.

Three large firms—Boeing, Lockheed Martin, and Raytheon—have

emerged from recent mergers and acquisitions. Together, the three firms

receive a substantial portion of what DOD spends annually to acquire its

weapons and other products.

Approaches to

Preserving

Competition During

Defense Industry

Consolidation

DOD can take several approaches, acting alone or in cooperation with the

government’s antitrust enforcement agencies, to ensure competition in

today’s more concentrated defense industry. The government’s antitrust

review process has identified and remedied potentially adverse effects of

several proposed mergers or acquisitions. Responsibility for conducting

antitrust reviews and approving mergers and acquisitions lies with the

Department of Justice and the Federal Trade Commission. In recent years,

DOD has become more involved in antitrust reviews by sharing information

and working more closely with the antitrust enforcement agencies.

Through collective efforts, the Department of Justice, the Federal Trade

Commission, and DOD have identified a number of situations where

Page 2 GAO/NSIAD-98-141 Defense Industry
B-279557 

proposed mergers or acquisitions could adversely affect DOD programs. In

such cases, they used consent decrees1

 to address potential problems.

A major concern addressed by these consent decrees was the potential

compromise of a company’s financial, business, or technical information.

The usual remedy in these situations has been to require “firewalls”2

 to

prevent the disclosure of such information. Consent decrees have also

addressed concerns about exclusive teaming arrangements and

organizational conflicts of interest that could be anticompetitive. In these

cases, the merging or acquiring companies were required to not enforce

the exclusive arrangement or to divest certain assets.

In the long term, DOD’s ability to address the potential adverse effects of

consolidation will depend upon its ability to identify problem areas and

devise alternative ways to maintain competitive pressures in its acquisition

programs. DOD can do so in several ways. For example, DOD can encourage

new companies to enter the defense market through the use of science and

technology investment funds. DOD can also

• fund alternative technologies to meet the warfighters’ needs;

• devise strategies to compete various approaches and missions, for

example, using a missile rather than an aircraft;

• require major defense contractors to use open-system architectures3 in

designing weapon programs;

• make subtier competition a specific source-selection criterion and

contract requirement; and

• explore opportunities to meet military needs through greater cooperative

efforts with international partners.

Initiatives to Monitor

Competition

In May 1996, DOD tasked the Defense Science Board to determine whether

problems were being created as a result of vertical integration, that is,

mergers or acquisitions that add supplier product lines to a firm that also

makes products at a higher tier. The Board reported that it could not

measure the extent of vertical integration because industry analysts and

1

Consent decrees are agreements by the parties to a proposed transaction to take specific steps to

alleviate antitrust concerns.

2

The term “firewalls” refers to arrangements created by a company to limit or prevent the exchange of

competition-sensitive information among parts of the company.

3

Open-system architecture refers to a design approach where the contractor defines system interfaces

to a set of standards that a number of suppliers agree to meet. This makes supplier products more

interchangeable in the design and allows a wider range of suppliers to participate in producing defense

systems.

Page 3 GAO/NSIAD-98-141 Defense Industry
B-279557 

antitrust agencies neither measured it nor had a mechanism for measuring

it. The Board concluded, however, that DOD was not in a position to

recognize emerging problems because it lacked visibility at the lower

levels of the industry. Consequently, the Board made a number of

recommendations to improve DOD’s visibility over the industrial base.

DOD agreed with the Board’s recommendations and initiated plans to

(1) increase acquisition program managers’ scrutiny of prime contractor

teaming and supplier choices, (2) devise acquisition strategies to promote

alternative concepts and new supplier entry, (3) improve the amount and

quality of industry knowledge and experience of DOD acquisition managers,

and (4) monitor a select group of technological areas to determine the

impact of vertical integration. DOD also agreed with a Board

recommendation that it continue to carefully scrutinize ongoing antitrust

reviews for potential harm from vertical integration. Most of the

recommendations have not been fully implemented because of the need to

review several recent and complex mergers and acquisitions.

Agency Comments We asked DOD to review and comment on a draft of this report. In oral

comments, DOD concurred with this report’s findings and contents. DOD

provided separate technical comments, which we have incorporated into

the report, as appropriate.

Scope and

Methodology

To identify major market areas affected by business combinations of

defense contractors, we interviewed DOD and antitrust agency officials and

reviewed pertinent agency and corporate documents. To understand the

broad antitrust review process and the various agencies’ perspectives, we

interviewed officials from the Federal Trade Commission, the Department

of Justice, and DOD, including the Offices of Industrial Affairs and

Installations and General Counsel. We also interviewed various acquisition

and weapon system program officials and reviewed documents from the

Departments of the Army, the Navy, and the Air Force, as well as from

legal counsels for firms involved in the several mergers and acquisitions.

In addition, to understand DOD’s role in the antitrust review process, we

examined documents provided to DOD by companies involved in several

mergers and acquisitions and DOD’s support for advice it provided to the

antitrust agencies. We also examined consent decrees related to defense

industry mergers and acquisitions.

Page 4 GAO/NSIAD-98-141 Defense Industry
B-279557 

We conducted our work between August 1997 and March 1998 in

accordance with generally accepted government auditing standards. We

had limited access to the information related to the mergers and

acquisitions selected for this review. We excluded from our review

ongoing transactions.

We are sending copies of this report to the Director, Office of Management

and Budget; the Attorney General; the Secretaries of Defense, the Army,

the Navy, and the Air Force; the Chairman of the Federal Trade

Commission; and to others upon request.

If you or your staff have any questions, please contact me at

(202) 512-4841. Major contributors to this report are listed in appendix II.

David E. Cooper

Associate Director, Defense Acquisitions Issues

Page 5 GAO/NSIAD-98-141 Defense Industry
B-279557 

List of Congressional Committees

The Honorable Strom Thurmond

Chairman

The Honorable Carl Levin

Ranking Minority Member

Committee on Armed Services

United States Senate

The Honorable Ted Stevens

Chairman

The Honorable Daniel K. Inouye

Ranking Minority Member

Subcommittee on Defense

Committee on Appropriations

United States Senate

The Honorable Floyd D. Spence

Chairman

The Honorable Ike Skelton

Ranking Minority Member

Committee on National Security

House of Representatives

The Honorable C.W. Bill Young

Chairman

The Honorable John P. Murtha

Ranking Minority Member

Subcommittee on National Security

Committee on Appropriations

House of Representatives

Page 6 GAO/NSIAD-98-141 Defense Industry
Page 7 GAO/NSIAD-98-141 Defense Industry
Contents

Letter 1

Appendix I 

Defense Market

Sectors

10

Appendix II 

Major Contributors to

This Report

12

Table Table I.1: Prime Contractors in Defense Market Sectors 10

Abbreviations

DOD Department of Defense

Page 8 GAO/NSIAD-98-141 Defense Industry
Page 9 GAO/NSIAD-98-141 Defense Industry
Appendix I 

Defense Market Sectors

As part of its effort to ensure that certain capabilities to produce defense

unique products continue to exist, the Department of Defense (DOD) has

identified industrial market sectors comprised of types of products or

weapon systems important to U.S. national security interests. These

products or weapon systems range from tactical missiles to tracked

combat vehicles. Table I.1 lists the defense sectors that have experienced

reductions in the number of companies competing or under contract

between 1990 and 1998. Submarines and ammunition are not included

since these sectors did not experience any changes.

Table I.1: Prime Contractors in

Defense Market Sectors (1990-98) 

Sector

Reduction

in

contractors 1990 contractors 1998 contractors

Tactical missiles 13 to 4 Boeing

Ford Aerospace

General Dynamics

Hughes

Lockheed

Loral

LTV

Martin Marietta

McDonnell Douglas

Northrop

Raytheon

Rockwell

Texas Instruments

Boeing

Lockheed Martin

Northrop Grumman

Raytheon

Fixed-wing aircraft 8 to 3 Boeing

General Dynamics

Grumman

Lockheed

LTV-Aircraft 

McDonnell Douglas

Northrop

Rockwell

Boeing

Lockheed Martin

Northrop Grumman

Expendable launch

vehicles

6 to 2 Boeing

General Dynamics

Lockheed

Martin Marietta

McDonnell Douglas

Rockwell

Boeing

Lockheed Martin

Satellites 8 to 5 Boeing 

General Electric

Hughes

Lockheed

Loral

Martin Marietta

TRW

Rockwell

Boeing

Lockheed Martin

Hughes

Loral Space Systems

TRW

(continued)

Page 10 GAO/NSIAD-98-141 Defense Industry
Appendix I 

Defense Market Sectors

Sector

Reduction

in

contractors 1990 contractors 1998 contractors

Surface ships 8 to 5 Avondale Industries

Bath Iron Works

Bethlehem Steel 

Ingalls Shipbuilding

NASSCO

Newport News

 Shipbuilding

Tacoma

Tampa

Avondale Industries

General Dynamics

 (Bath Iron Works)

Ingalls Shipbuilding

NASSCO

Newport News

 Shipbuilding

Tactical wheeled

vehicles

6 to 4 AM General

Harsco (BMY)

GM Canada

Oskosh

Stewart & Stevenson

Teledyne Cont. Motors

AM General

GM Canada

Oskosh

Stewart & Stevenson

Tracked combat

vehicles

3 to 2 FMC

General Dynamics

Harsco (BMY)

General Dynamics

United Defense LP

Strategic missiles 3 to 2 Boeing

Lockheed

Martin Marietta

Boeing

Lockheed Martin

Torpedoes 3 to 2 Alliant Tech Systems

Hughes

Westinghouse

Northrop Grumman

Raytheon

Rotary wing aircraft 4 to 3 Bell Helicopters

Boeing

McDonnell Douglas

Sikorsky

Bell Helicopters

Boeing

Sikorsky

Notes: In July 1997, Lockheed Martin announced that it planned to combine with Northrop

Grumman. On March 23, 1998, the Department of Justice filed suit to block the acquisition of

Northrop Grumman by Lockheed Martin.

Defense electronics is not included as a market sector.

Source: Our analysis of DOD data.

Page 11 GAO/NSIAD-98-141 Defense Industry
Appendix II 

Major Contributors to This Report

National Security and

International Affairs

Division, Washington,

D.C.

John K. Harper

Rosa M. Johnson

Jose A. Ramos, Jr.

John P. Swain

Office of the General

Counsel

William T. Woods

Raymond J. Wyrsch

(707341) Page 12 GAO/NSIAD-98-141 Defense Industry
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