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Trench Dealfare

Strategic players in the aerospace and defense sector look to offset losses by remaining on the hunt for targets

Now that the conflicts in Iraq and Afghanistan are slowing down, strategic players in the aerospace and defense sector are faced with inevitable budget cuts from the federal government. To offset those losses, they're likely to remain on the hunt for targets as a way to boost profits, according to CIT Group's Chris Cantwell.

"Either they'll want to add a technology that they don't have yet or they'll want to pick up market share," he says.

Indeed, defense companies have been preparing for sequestration, or budget cuts, for several years, says Cantwell, group head and managing director for CIT Transportation Lending, a unit that focuses on the aerospace, defense, homeland security and rail markets. At the same time, strategic buyers have more cash on their balance sheets, and the sector appears to be fertile for dealmaking. New areas of defense such as unmanned aerial vehicles (UAVs) and cyber security are more likely to catch the most attention.

TeledyneTechnologies Inc. (NYSE: TDY) has been acquisitive in the UAV space, especially in March when it completed its acquisition of Reson A/S, a Slangerup, Denmark-based company that specializes in imaging sonar and other marine instrumentation. In 2012, Thousand Oaks, Calif.-based Teledyne completed its acquisition of Seattle-based BlueView Technologies Inc., a developer of mission-critical instruments for underwater navigation, monitoring, survey and detection. Terms of each deal were not disclosed.

Private equity firms have been just as diligent, especially when shopping for cyber-security firms, which tend to reside in the middle market.

Behrman Capital, for example, purchased cyber-security provider Tresys Technology for an undisclosed amount in January. Columbus, Md.-based Tresys provides products to government intelligence agencies, including the U.S. Department of Defense. There's also J.F. Lehman & Co., which purchased Imeco Inc., a developer of electric steering, propulsion and fire suppression systems for government and commercial vessels in January. The New York private equity firm also picked up Alexander/Ryan Marine & Safety and Sea Technology as an add-on for portfolio company Drew Marine in February.

But since financial sponsors generally require more debt to complete transactions, "strategic buyers are in a position to take advantage," Cantwell explains.

Strategic players that are especially acquisitive include Boeing Co. (NYSE: BA), Northrop Grumman Corp. (NYSE: NOC) and Lockheed Martin Corp. (NYSE: LMT).

They are also expected to pay a hefty price. With so much attention being focused on defense assets, namely when it comes to UAVs and cyber security, "private equity firms will struggle to compete price-wise," predicts Houlihan Lokey senior associate Eric Hill. This allows players like Raytheon Co. (NYSE: RTN) to be more likely to scoop up add-ons in the space, he adds.

"UAVs and cyber-security are emerging technologies that are going to help us fight the next generation of warfare," Hill says. "Those targets happen to be smaller- or earlier-stage companies."

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