DefenseNews.com
By William Matthews
January 10, 2005

Who Wins When Foreign Firms Build Factories? As More Companies Open Facilities on U.S. Soil, Critics and Supporters Face Off

Virginia Gov. Mark Warner couldn't stop flashing his toothy grin. After two years of wrestling with a $3.8 billion state budget deficit, Warner was announcing that the world's largest helicopter company would open its North American headquarters in Reston, Va. It was an agreeable change of pace.

The new North American headquarters of Anglo-Italian helicopter maker AgustaWestland would mean 300 new high-salary jobs for Virginians, Warner said. And that would mean more income tax revenue for the state, more real estate tax dollars for the local government and an influx of the kind of parents who would involve themselves in local schools, Warner said.

"This is an example of how we benefit from globalization," the governor said. "These are the kind of jobs we celebrate."

The Facts:

Foreign Ownership Five of the largest and fastest-growing foreign-owned defense companies in the United States: Foreign owners U.S. workers BAE SYSTEMS 30,000+ Smiths Group 13,000 Rolls-Royce 6,800 EADS 2,000+ Thales 2,000+

The new headquarters is part of AgustaWestland's bid to win the U.S. Navy's $1.6 billion contract to build a new fleet of presidential helicopters, a decision expected this month. The European helicopter maker is just one of several foreign companies building plants and offices on U.S. soil in hopes of making entrée into the world's most lucrative defense market.

Creating jobs for U.S. workers helps overcome lawmakers' resistance to awarding contracts to foreign-owned firms, and helps comply with industry-protection rules that forbid the Pentagon to purchase goods with less than 50 percent U.S.-made parts.

But some observers are not so sure who wins when foreign firms open U.S. plants. They fear that troops will become dependent on foreign suppliers, worry that U.S. firms will suffer, and predict that intellectual capital will flee to foreign shores.

Warner evinced no qualms as he turned to AgustaWestland President Stephen Moss on Nov. 19.

"We're going to be rooting for you," Warner said.

Building American

It's a cry echoed with increasing frequency around the country.

A month before the AgustaWestland event in Virginia, Rep. Charles "Chip" Pickering stood before a similar gathering of businessmen and politicians in Columbus, Miss. Pickering declared Oct. 21 "a great day for all of Mississippi" as the doors opened at a new American Eurocopter assembly and manufacturing plant.

The 85,500-square-foot plant promises 100 new jobs for workers, who will assemble helicopters that now are sold mainly to the U.S. Department of Homeland Security and state and local police departments. But the U.S. Army, with $14 billion left over from its canceled Comanche helicopter program, also is in the market for hundreds of small helicopters.

The Columbus plant "reflects our dedication to building our presence in America," said Ralph Crosby, chief executive of EADS North America, a sibling company of American Eurocopter. The corporate parent, European defense giant EADS, is putting the finishing touches on another expansion plan. The company is preparing to invite U.S. communities to compete this spring to become the site for a $600 million EADS aircraft manufacturing plant that would hire 1,000 workers to build refueling tankers for the U.S. Air Force. To win, a community will have to offer EADS a skilled work force, land, buildings, an airport and economic incentives.

Meanwhile, in Jacksonville, Fla., Brazilian aircraft maker Embraer is building a 71,000-square-foot plant where it expects to hire 200 workers and begin assembling ERJ-145 jets for the Army's Aerial Common Sensor reconnaissance plane.

And in Clarksburg, Md., Thales Communications in the past two years has doubled its work force to 400. Average salaries at the company are more than $75,000 a year. TCI, as it is known locally, is the four-year-old U.S. subsidiary of Thales, a French-based defense electronics company. TCI makes secure military communications equipment, including radios U.S. troops are using in Iraq and Afghanistan.

The Honda Effect

What does this building boom mean for the U.S. economy and the defense industrial base? Some point to a historical parallel: the influx of Japanese automakers that began in the mid-1970s.

U.S. automakers were notorious for building poor-quality gas guzzlers while the Japanese were introducing higher-quality, fuel-efficient vehicles. American consumers were enthusiastic, but U.S. car companies complained bitterly about the competition from abroad. Under industry prodding, the U.S. government imposed tariffs and a "voluntary restraint agreement" to keep the number of Japanese cars available here in check.

Honda Motor Co. countered by building an auto plant in Marysville, Tenn., where American workers began turning out Honda cars in 1982. The tactic neutralized the complaint that foreign imports were eliminating U.S. jobs. Toyota and Nissan followed. So did German automakers BMW and Mercedes-Benz in the 1990s. And South Korean automaker Hyundai is scheduled to open a plant in Alabama in 2005.

"The American public wanted cheaper, better, more innovative cars," and they got them, first from the Japanese, then from the U.S. firms that were forced to compete with them, said Frank Cevasco, president of Cevasco International, a Virginia-based defense consulting firm. "We have a much healthier auto industry today, and in large part we have to thank the Japanese."

Others disagree, pointing to industry statistics that show that the U.S. automakers' share of the domestic market has declined steadily from about 70 percent in 1995. During the first eight months of 2004, America's Big Three automakers - Ford, General Motors and Chrysler - combined to sell just 59 percent of cars sold in the United States, an all-time low.

"Ford is fighting for its life," while GM is struggling and Chrysler was purchased in 1998 by German automaker Daimler, said management consultant Shiela Ronis, president of The University Group of Birmingham, Mich. While the U.S. automakers weaken, Ronis said, "Toyota is so rich it could buy Ford, GM and Chrysler and still have money left over."

Who Wins?

But is the success for foreign auto companies bad, especially if Toyotas and Hondas are built by Americans in American plants using mostly American-made parts?

Hardly, says Dartmouth College business professor Matthew Slaughter.

Not only does competition drive U.S. firms to efficient processes and quality products, Slaughter argues that foreign-owned companies that operate plants here contribute substantially to U.S. economic growth and the rising standard of living.

He cites these statistics:

o Foreign-owned companies - defense and nondefense - employ more than 5.4 million U.S. workers, about 5 percent of the U.S. total.

o They spent $29.5 billion on research and development in 2002.

o They invested $112 billion in the United States in 2002.

o They account for 20 percent, or $137 billion, in U.S. exports.

o Workers' salaries averaged $56,667 in 2002, about a third more than pay at U.S.-owned companies.

Moreover, at a time when Americans are worried about the outsourcing of U.S. jobs, Slaughter contends that foreign-owned industries operating in the United States amount to "insourcing."

But Ronis and others counter that corporate profits, and more importantly, intellectual property are flowing overseas.

"When we lose intellectual capital, we are in trouble," said Ronis, who advises the auto industry as well as the Defense Department. Ultimately, that means losing the ability to engineer, design and manufacture things, she said.

Defense Implications

That's bad enough in the auto industry, but Ronis and others worry that encroachment on U.S. soil, especially from European firms, could do to the U.S. defense industry what the Japanese did to America's Big Three automakers.

Technological advances that result from defense research may be lost to the United States as more defense production is controlled by foreign companies, said William Hawkins, an economist and defense specialist for the U.S. Business and Industry Council.

That, plus the closing of U.S.-owned plants, could ultimately mean that key weapons or parts are produced mostly or solely by foreign-controlled firms - a risky situation, Hawkins argues.

"Who knows what the political situation will be in 25 years?" he said.

Today's foreign suppliers might not be so friendly two decades from now, and could cut off access in time of crisis. He argues that certain U.S. defense industry capabilities must be preserved, so that the Pentagon does not become dependent on foreign suppliers.

"If we plan to remain the pre-eminent world power, we have to keep the capability to arm our own military," he said. Dartmouth College's Slaughter disagrees. "Is there a plausible scenario in which foreign-based companies won't supply the federal government? I'm hard-pressed to find examples. And if it is being made on U.S. soil, it would be easy for the federal government to expropriate" the plant and oversee production, Slaughter said.

Pierre Chao, director of defense industrial initiatives at the Center for Strategic and International Studies, concurs.

"It is hard to see how having foreign companies invest in America, create jobs, create businesses and insert technology into U.S. industry is a bad thing. In many ways, it probably should be encouraged," he said. "In fact, if you go through history, one of the reasons the United States has had some of the leading technologies and developed such a strong military has been precisely because foreigners have been willing to come here."

Chao cites Russian Igor Sikorsky, who came to the United States and invented the helicopter, and John Holland, who immigrated from Ireland and invented the submarine. "You can't say that is a bad thing."

Hurting or Helping?

Nevertheless, Ronis and others want the U.S. government to more actively manage the U.S. defense industrial base. They fear, for example, that if AgustaWestland wins the presidential helicopter contract, U.S. helicopter maker Sikorsky Aircraft will suffer the fate of Ford and GM.

Cevasco countered that Sikorsky could use a jolt of competition.

"If Sikorsky does not survive, is that a problem? Perhaps," said Cevasco, who is not involved with the presidential helicopter program. On the other hand, "Sikorsky made a complete debacle of the Comanche program. They spent $7 billion" over 21 years before the program was scrapped by the Army last year, "an outrageous amount of money to fail," he said.

A Sikorsky spokesman said the stealthy helicopter "was performing as it was supposed to be performing" when the program was canceled. Sikorsky defenders note that the Army changed its requirements dramatically during development before ultimately concluding that the money could be better spent on other aircraft.

Ronis warned that foreign competition also is threatening U.S. aerospace giant Boeing, whose commercial aircraft sales have slipped behind those of European plane-maker Airbus in recent years. Boeing provides dozens of goods and services to the U.S. military, from satellite launches and cruise missiles to C-17 cargo planes and Navy F/A-18 fighters. It is a "national asset," she said.

Ronis blames Boeing, in part, for its slide. The U.S. company grew complacent while its rival remained innovative, she said. But she also faults the U.S. government for Boeing's predicament.

"We're not managing anything; we're letting the market dictate the national security strategy. That's not the right thing to do," she said. "It's not just Republicans; it was the Democrats, too. The whole approach is 'free market above all.' But when it comes to the national security of the United States, we can't permit market forces to run the national defense."

More Protection

A good first step would be enforcing existing industrial-protection regulations, said Rep. Donald Manzullo, R-Ill., chairman of the House Committee on Small Business. "So many people have authority to sign waivers" for the 50-percent content rule and others, he said. "We need to tighten that up."

But that's not enough. The United States must take definitive steps to preserve companies like Boeing and hundreds of smaller U.S. defense firms that depend on its subcontracts, Ronis said. She said she would favor policies similar to the "buy-American" legislation proposed in 2003 by Rep. Duncan Hunter, R-Calif., chairman of the House Armed Services Committee.

Hunter's legislation would have boosted the required domestic content of U.S. military purchases from half to 65 percent. It also would have given greater preference to American suppliers of products deemed critical to the U.S. military, would have set aside money to reconstitute defunct U.S. defense industries, and would have required use of U.S.-made machine tools, among other provisions. The bill passed the House, but was rejected by the Senate and President George W. Bush.

"Strategically, Hunter is right, no question," Ronis said. "The problem is, people are not thinking strategically about these issues."

Countries like Japan, China and the Europeans have long-term industrial strategies, she said, while the United States does not.

Manzullo agrees. His northern Illinois district includes more than 2,000 manufacturing plants, from machine tool makers to a chewing gum producer. Many have been struggling and some have been saved by foreign buyers - Italian, Chinese and Israeli among them.

"In the American model, everything is bottom line," Manzullo said. A long-range plan extends three months - until the next quarterly profit statement, he said.

"Foreigners have much longer-range planning. They buy companies for the long run. The Europeans place much more emphasis on long-term growth," he said.

The Defense Department does no better than the U.S. defense industry does, Manzullo said.

"I don't think the Pentagon is monitoring critical industries. They're looking at Wall Street and the big guys," he said.

Manzullo recalled that he alerted Suzanne Patrick, deputy undersecretary of defense for industrial policy, when "the last cold-forming machine tool company in the country was going into Chapter 11. She was unaware of it."

The machines made by National Machinery of Tifton, Ohio, shape metal at room temperature - a key technique in producing bullets.

"I asked, 'Did you have any indication, in your inventory of strategic companies, that the only machine tool company in America that could make bullets, was about to go under?' She said no," he recalled. "I asked, 'How do you determine the health of the state of industry of our strategic defense?' And she said, 'Well, I looked at the stock market to see how they're doing.'"

The Challenge

Airbus, an EADS subsidiary, has announced plans to seek an American partner to challenge Boeing for a contract to build aerial refueling tankers for the U.S. Air Force. The loss of the job would be a blow to Boeing, whose $23.5 billion deal to build 100 refueling tankers collapsed in 2003 amid corporate scandal.

In what is becoming a familiar strategy, EADS executives have vowed to do much of the tanker work in the United States.

"We will team with a major American partner, expand our industrial footprint in the United States, employ American workers and pledge to offer the finest military capability for the United States Air Force at the best value to our taxpayers," said Crosby, EADS North America's chief executive.

It's a message that is soothing to many in the Pentagon and on Capitol Hill, but Ronis doesn't buy it.

"What we are unaware of is that we're in an economic war, and we don't know how to fight an economic war," she said.