The incredible shrinking defense industry
By: Austin Wright and Leigh Munsil
August 25, 2014 04:30 PM EDT
Major defense contractors are shrinking — big time.
The number of employees at the five largest U.S. defense firms has dropped 14 percent from a peak in 2008 — and 10 percent over the past decade, according to a POLITICO analysis of employment figures filed with the Securities and Exchange Commission.
Lockheed Martin, the world’s largest defense company, has shed close to a quarter of its employees since 2008. Raytheon, Boeing’s defense unit and Northrop Grumman have also shed thousands of workers over the past five years, seeking to maintain profits even as defense spending contracts.
The job losses make clear just how rapidly the defense industry has seen its fortunes change. After years of growth starting with the Sept. 11, 2001, terrorist attacks on New York and Washington and continuing with the wars in Afghanistan and Iraq, companies have been making massive cuts to adjust to the budget declines they’ve seen so far — and further anticipated reductions.
POLITICO’s analysis included Lockheed, Boeing’s defense unit, Raytheon, General Dynamics and Northrop, with Northrop’s numbers adjusted to account for its 2011 spinoff of its shipbuilding business (now called Huntington Ingalls).
The five defense firms have in total eliminated 70,000 jobs since 2008, largely through layoffs, buyouts, attrition or, in the case of Boeing, moving employees to the commercial side of the business. Some companies have also made significant divestitures; the most prominent is Northrop’s spinoff of Huntington Ingalls, but it also sold TASC in 2009.
As the defense industry prepares for the future, the picture looks far less rosy. There’s little momentum in Congress to undo the current caps on discretionary federal spending, and, facing a war-weary public, U.S. officials are pledging to avoid sending combat troops to today’s hotspots, including Iraq, Syria and Ukraine.
“As the prospects for growth have decreased in the defense industry, the way that defense companies can attract investors is by showing that they can increase profit margins,” said Philip Finnegan, director of corporate analysis at the Teal Group, an aerospace and defense market research firm. “There’s been a drive in the defense industry to increase profit margins and return more to shareholders.”
Simply put, the only way for defense companies to make money as Pentagon spending declines is to cut costs — mostly by getting smaller.
But companies have cut employees even faster than necessary, some analysts argue. While sales have begun to decline, they have not kept pace with the surge of workforce reductions. And many firms have seen their stock prices rise, even as their headcounts have shrunk.
So far, the technique has worked. Lockheed’s share price, for instance, has more than doubled since 2010 — even as it shed 19,000 employees.
“A great deal of the profitability that you see among some companies in our industry was unfortunately delivered on the backs of thousands of workers who lost their jobs,” said Chip Sheller, a spokesman for the trade group Aerospace Industries Association.
But some analysts say this strategy will eventually have consequences. Roman Schweizer, an aerospace and defense policy analyst at the investment firm Guggenheim Securities, said the cuts mean losing skilled workers and risking deterioration of engineering and research capabilities.
“One of the things that people appreciate is they’re maintaining their profitability, but that is at the expense of not only employees but also infrastructure,” he said. “There’s always a question of how much you can do without having a negative impact.”
The moves reflect industry’s pessimism over whether Washington is capable of striking a long-term fiscal deal to avert sequestration, which could return in fiscal 2016.
While the employment losses have sparked fierce battles in Congress to save specific programs, they so far haven’t altered the big-picture dynamic: Republicans and Democrats remain at an impasse.
“Companies have a pretty realistic expectation of what the Congress can and can’t do here,” said David Berteau, an analyst at the Center for Strategic and International Studies. “The amount of defense spending is unlikely to be increased — absent a larger agreement with Congress — and I have trouble seeing that larger agreement take place anytime soon.”
Company officials and industry analysts say the cuts have been a necessary part of preparing for tougher times. In previous downturns, many have reacted similarly; following the end of the Cold War build-up, the industry made significant consolidations and job cuts.
“After 9/11, you certainly saw a significant increase in spending toward defense programs,” said Boeing spokesman Daniel Beck. “We knew that it was inevitable that there would be a downturn as the wars in Iraq and Afghanistan began winding down.”
New technologies have also made it possible for fewer employees to get just as much work done as a larger cadre did in the past, some analysts said.
“Defense companies are replacing labor with automation, just like the automobile industry,” said Tom Captain, an aerospace and defense expert at the consulting firm Deloitte.
Northrop Grumman’s headcount has shrunk 10 percent since the 2011 spinoff of its shipbuilding business, continuing a steady decline in the size of its workforce over the past decade.
Explaining that 86 percent of Northrop’s revenue comes from the U.S. government, spokesman Randy Belote said federal budget cuts necessitated “lower employee levels.”
“For the past several years, we have focused on various cost reduction strategies,” he said, adding that Northrop has also trimmed its facilities and restructured its employee benefits plans.
Raytheon’s workforce has declined 14 percent since 2008 and 20 percent over the past decade. The company declined to comment on the issue.
Still, some companies — particularly those that have commercial businesses alongside their government work — have been able to avoid downsizing. General Dynamics, for instance, has steadily increased the size of its workforce over the past decade, from 70,200 employees in 2004 to 96,000 in 2013.
Even so, the growth hasn’t been evenly spread across the company. Last year, chief executive Phebe Novakovic said the contractor had added employees in its commercial Gulfstream Aerospace unit, which makes business jets, as well as its information technology business and its marine systems division, which builds submarines and surface ships for the Navy.
In other groups, “we’re down 50 percent of our force,” she said in a call with analysts earlier this year. “I’m very mindful of the human impact of all of this, and it’s camouflaged by that gross number.”
Some analysts say there are signs that some of the most significant cost-cutting might be over.
“The big drop in defense spending has happened, and going forward it doesn’t look like we’re going to see much more reduction in the base budget,” said industry consultant Loren Thompson, who counts some of the biggest defense firms as clients. “That may mean that the workforce is now stabilizing.”
At Lockheed, which has shrunk its workforce from 146,000 in 2008 to 113,000 today, Chris Gregoire, the company’s controller, said the decline could be leveling out.
“Right now, we’re pretty well-sized for the business base we expect to see in the future,” he said. But, he added, the return of sequestration could bring additional uncertainty.
“We’re not out of the woods yet,” Gregoire said.
The workforce decline at major defense firms has also led to criticisms of the industry, especially as profits at many defense firms continue to rise.
Ben Freeman, a senior policy adviser at the centrist think tank Third Way who has closely studied the issue, found that from 2006 to 2011 — before sequestration took effect — top defense firms shrunk their workforces even as their revenues increased. He contended private companies are always trying to streamline their workforces — and that fact, more than sequestration, was driving the job losses.
“I think technology is a huge part of this,” he said. “You can have fewer people do more.”