BAE-EADS Talks under German Pressure

on Oct 8, 2012
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With the 10 October deadline to agree the deal approaching, hurdles seem to be piling up for BAE Systems Plc (LON:BA, PINK:BAESY) and the European Aeronautic Defence and Space Company (EPA:EAD). On October 5, Germany came up with a surprise demand about the headquarters of the merged company, whereas a few days later Invesco (NYSE:IVZ), BAE’s largest shareholder, signalled it had “significant reservations” about the deal.

On October 7, The Sunday Times reported that the 20-minute video conference call meant to facilitate an agreement between the UK, Germany and France on the BAE-EADS deal, ended with an unexpected German requirement that the headquarters of a combined company be located in Munich. In addition, the Germans also demanded written assurance from France that it would not increase its stake above nine percent. And while the combined efforts of the British and the French dissuaded Germany from announcing that the deal was off, the new condition is yet another issue which needs to be resolved before the upcoming Takeover Panel’s deadline.

The planned merger which would create the world’s largest defence and aerospace group faces various political obstacles, with the UK, France and Germany all demanding guarantees on national security and jobs. In addition, BAE recently made it clear that it would not go through with the merger if the Pentagon revoked its special trusted supplier status the company currently enjoys if it were to become part of the merged entity.

At the Friday tripartite call, the UK was represented by Bernard Gray, the chief of defence materiel and David Cameron’s most trusted defence business adviser. Lars-Hendrik Röller, chief economic adviser to Angela Merkel spoke for Germany, whereas France was represented by François Hollande’s adviser Emmanuel Macron. The Sunday Times reports that both Mr Gray and Mr Macron told Mr Röller that they were happy with Germany holding a nine percent stake, and while Mr Macron did not commit to any French formal assurance, he said that France would indicate that it would not go higher than nine percent.

Yet, the German representative surprisingly asked that the headquarters be in Ottobrunn, the Munich suburb where EADS’ defence business is located. The Sunday Times quotes a source close to the talks as qualifying the demand as “bizarre”. “The British and French were united, and gave the Germans what they wanted on the 9 percent. And then they came out with this [ultimatum].”

!m[](/uploads/story/539/thumbs/pic1_inline.png)The German “ultimatum” however is hardly the only impediment to the deal, with the Financial Times reporting on October 8, that Invesco Perpetual, which holds more than 13 percent of BAE Systems, was going to outline its concerns about the structure of the transaction and its potential impact on shareholder value. In a statement, the fund manager noted that it did “not understand the strategic logic for the proposed combination.” One of Invesco’s concerns is that the deal would “materially jeopardise BAE’s unique and privileged position” in the US defence market.
In addition, the British defence secretary Philip Hammond signalled that the UK government would not back the deal unless France and Germany reduced their stakes in the venture. “If we are going to keep this thing in play we need a clear signal back from the French in particular that they are willing to reduce their shareholding, where they are effectively an investor in the company, not a state party trying to run the company,” he said, as quoted by Bloomberg. Mr Hammond also added that the UK would retain its “golden share” in the merged company giving it veto power over transactions affecting national security.
Given the various unresolved issues surrounding the merger, it is not surprising that BAE and EADS are expected to seek a deadline extension to agree the merger. The Sunday Times quotes a source close to the negotiations as saying that BAE would be asking the panel for extra time rather than announcing the deal was off. “They will find a way of getting back to the table.”

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