Pentagon Budget 'a Great Surprise'
Friday, February 10, 2006
Richard Bernstein, like many other defense contractors, was anxious as the Pentagon spending blueprint for fiscal 2007 was being developed in recent months. "There were a lot of rumors that the defense budget would get cut back, and there was some concern," recalled Bernstein, president of BAI Aerosystems Inc, a small dronemaker in Maryland.
When that Defense Department budget was unveiled Monday, however, Bernstein and most other defense executives were relieved. The $439 billion proposal would increase spending on weapons to $84.2 billion, $8 billion more than this year, and includes $1.7 billion for unmanned aerial vehicles, an increase of about 3 percent, to begin buying 322 of the pilotless planes over the next five years. "It was a great surprise," said Bernstein, who read the budget proposal on the Internet from Australia, where he was attending an industry trade show.
The proposed 7 percent increase in the budget for weapons procurement and research and development is twice that expected by Troy Lahr, a defense analyst at investment bank Stifel, Nicolaus & Co. "And we were among the more bullish," said Lahr, noting that most of his counterparts were expecting the budget to remain flat or increase 1 percent to 2 percent.
The Pentagon probably reasoned that members of Congress would be reluctant to make significant cuts that could cost jobs in their districts with midterm elections near, analysts said. Last year, Congress rejected cuts to retire an aircraft carrier and scale back production of the C-130J cargo jet.
"It might be easier to close bases in Germany than tackle the U.S. industrial complex," said Michael E. O'Hanlon, a senior fellow at the Brookings Institution.
One negative surprise was slower growth than expected in the Pentagon's information technology budget. It would increase less than 1 percent, to $30.54 billion, in the fiscal year starting Oct. 1. Overall, government information technology spending would increase 2.8 percent, to $64.29 billion. That is significantly slower than the 5 percent to 6 percent increases the IT industry has been used to receiving since the Sept. 11, 2001, terrorist attacks.
Dendy Young, chairman and chief executive of Chantilly-based GTSI Corp., which develops and maintains computer systems for the government, said, "I am concerned that the priority for IT investment seems to be declining."
To be sure, the budget proposal includes some cuts. Despite the objections of British Prime Minister Tony Blair, it would cancel an engine being developed by London-based Rolls-Royce PLC and General Electric Co. of Connecticut for the F-35 Joint Strike Fighter. "We were surprised that the DoD has decided they no longer need the engine," said Mike Ryan, Rolls-Royce's executive vice president of government business. Ryan estimates that the government spent $1.2 billion through 2005 on the engine.
And the Air Force would limit to 180 the total number of Boeing C-17 cargo jets being built, despite lobbying by officials from Long Beach, Calif., where the plane is made, to keep the production line open. "We're a little disappointed," said Robert M. Swayze, economic development bureau manager for the city. City officials will probably join companies that supply parts for the plane in a District rally being planned by Boeing to oppose the decision, he said.
The overall defense-funding proposal is a relief for Wall Street. After being sluggish for months, for example, shares of Lockheed Martin Corp. closed at $70.62 yesterday, compared with $68.92 last Friday and a 52-week low of $58.28.
But many industry experts remain convinced that defense spending will inevitably fall because of the budget deficit and the cost of fighting the wars in Iraq and Afghanistan. In a conference call with analysts last week, Boeing Chairman Jim McNerney warned that the company expected "defense growth to moderate due to a tightening budget environment." The 2007 budget proposal does not change that outlook, said company spokesman Todd Blecher.
The administration spending plan just postpones the inevitable, some industry analysts said, noting the mismatch between the projected budget level over the next few years and the costs of the programs. Manufacturers have defended spending on Cold War-era legacy programs by modifying them. The F-22 fighter, designed to shoot down Soviet MiGs, is now the F/A-22, adding a ground support role. Four giant Ohio-class submarines, built to carry nuclear missiles targeted at the Soviet Union, are being converted to carry shorter-range cruise missiles and Navy SEALs and other special operations troops.
As the Pentagon spends more on initiatives to transform the military to combat insurgents and other nontraditional threats, supporting expensive traditional weapons will become more difficult, some analysts predict.
"Here is the problem: People like me have been talking about the coming train wreck for so long now that people are tired of hearing it," said Christopher Hellman, director of the project on military spending oversight at the Center for Arms Control and Non-Proliferation. "But the truth of the matter is that it will happen; we're not making it up."