Confluence of government actors likely to place Lockheed, Aerojet merger under greater US scrutiny

US antitrust enforcers are still only partway through an investigation of the Lockheed Martin-Aerojet Rocketdyne combination, MLex has learned, so it's likely a decision is still months away, and several factors suggest approval may not be as easily obtained as in other defense deals.

Factors leading to the delay in the agency’s review include the late confirmation of US Federal Trade Commission Chair Lina Khan; Mike Brown’s request that US President Joe Biden withdraw his nomination as the Pentagon’s head of acquisition and sustainment, a key position in the US Department of Defense’s parallel antitrust review; a deluge of merger filings that have overwhelmed both antitrust agencies; and Democratic concerns about the potential harm of vertical mergers.

Five months after the government made a second request for additional information about the Lockheed-Aerojet combination, FTC staff are still asking broad questions about factual issues across multiple product lines, questioning Lockheed’s ability and incentive to foreclose on competitors and continuing to gather data from third parties, it's understood.

A shift, however, is taking place within the US government that could negatively impact the deal.

The US Department of Defense and FTC each perform an antitrust analysis of defense-related mergers. But since the Pentagon is usually the sole customer of US defense contractors, if it supports a merger, the FTC will be hard-pressed to convince a court that the merger is harmful. So when the DOD finds that a deal benefits national security, the FTC tends to defer even if it regards a deal as anticompetitive.

The FTC’s concerns about the DOD’s outsized influence have been illustrated by comments and analysis from past FTC executives and commissioners.

Will the administration of President Joe Biden continue to let the DOD have its way, or will it prioritize competition? Biden issued an executive order July 9 calling for a government-wide effort to improve competition in all sectors of the economy, suggesting a change might be coming.

“The Congress frequently has created overlapping agency jurisdiction in the policing of anticompetitive conduct and the oversight of mergers,” the executive order says. “Where there is overlapping jurisdiction over particular cases, conduct, transactions, or industries, agencies are encouraged to coordinate their efforts, as appropriate and consistent with applicable law … in the case of major transactions, soliciting and giving significant consideration to the views of the Attorney General or the Chair of the FTC, as applicable.”

The president also ordered the Secretary of Defense to submit a review of the state of competition within the defense industrial base, including areas where a lack of competition may be of concern.

This would seem to signal where the administration will land in conflicts between the FTC and DOD, though for now, how much weight these words will carry isn’t clear.

Even National Security Advisor Jake Sullivan, speaking at a tech conference July 13, pointed to competition and innovation as an important part of national security.

“It’s not just from a domestic policy perspective; it’s not just about economic fairness, as important as that is. But from a national security perspective, too, America needs vibrant competition and innovation,” Sullivan said. “[T]his Executive Order and the thrust behind it will help bring that about. This means greater scrutiny of mergers, rules on surveillance and accumulation of data, and a fair shake for America’s small businesses. Because America’s technology leadership was — and again has to be — built on competition, not on concentration.”

There are also changes coming within the DOD that could change how competition is viewed within the defense industry.

Former Pentagon acquisitions chief Frank Kendall was confirmed as secretary of the US Air Force on July 26.

Kendall has expressed concerns about consolidation in the defense industry and has advocated for working with Congress to explore legal tools and policies that would preserve diversity and innovation among defense companies.

The lawyer and former vice president of engineering at Raytheon addressed the need for greater competition six years ago when Lockheed Martin, the US’s biggest defense contractor, bought Sikorsky, a maker of helicopters, for $9 billion. The deal was a vertical merger — one where a company buys another company in its supply chain — similar to the Lockheed-Aerojet deal.

The Lockheed-Sikorsky* merger was quickly approved by the US Department of Justice. Kendall, who was then a Defense Department undersecretary for acquisitions, technology and logistics, agreed with the DOJ’s decision, but said the Defense Department also believed that those types of transactions give rise to “significant policy concerns.”

“Over the past few decades, there has been a dramatic reduction in the number of weapon system prime contractors producing major defense programs for the DoD,” Kendall said at the time. “This transaction is the most significant change at the weapon system prime level since the large-scale consolidation that followed the end of the Cold War. This acquisition moves a high percentage of the market share for an entire line of products — military helicopters — into the largest defense prime contractor, a contractor that already holds a dominant position in high-performance aircraft due to the F-35 winner-take-all approach adopted over a decade ago.”

Lockheed’s proposed acquisition of Aerojet would combine one of the nation’s most important defense contractors with a key US supplier of propulsion systems.

The merger raises concerns from the government and competitors that Lockheed could harm competition by refusing to sell propulsion systems to rivals, by raising prices on competitors, by allowing Lockheed to advantage itself with knowledge of its rival’s products gained through those Aerojet employees embedded at competitors’ plants, and that it could reduce innovation.

Vertical combinations that have historically been credited for improving efficiencies may now be subject to increased scrutiny under Khan’s stewardship.

Northrop, Orbital remedy

Northrop Grumman’s vertical acquisition of Orbital ATK was resolved with a behavioral remedy that required Northrop to continue selling its solid rocket motors to rivals and to separate its SRM business from the rest of the company with a firewall. But an investigation into whether Northrop worked to undermine the remedy has led one US senator to ask Khan about the outcome of the investigation and whether behavioral remedies in vertical deals can be trusted to resolve the government’s antitrust concerns.

Massachusetts Senator Elizabeth Warren sent a letter to the FTC July 16 suggesting to Khan that when the FTC investigation is complete, the agency should “release those findings to the public. If the investigation is ongoing, then I urge the FTC and the DoD to complete that investigation and consider its findings when deciding whether to approve any similar vertical transactions, including Lockheed Martin’s proposed acquisition of Aerojet Rocketdyne.

“This vertical transaction, if permitted to proceed, would result in the acquisition of the last remaining independent domestic propulsion supplier by the largest tactical missile prime competitor,” Warren said. “Studies have noted that behavioral remedies are ‘difficult to craft’ and ‘eas[y] … to circumvent,’ and they also require ‘courts to expend resources on monitoring and enforcement,’ in large part because behavioral remedies are designed to ‘require a merged firm to operate in a manner inconsistent with its own profit-maximizing incentives.’ ”

The findings requested by Warren would be highly relevant to the question of whether a remedy could be successfully applied to the Lockheed-Aerojet merger.

Warren named two previous verticals deals — Ticketmaster-Live Nation and Comcast-NBCU — in which she claims the DOJ’s behavioral remedies failed to protect consumers.

“Absent a favorable finding from the FTC’s investigation of Northrop Grumman, and a clear understanding of whether any kind of behavioral remedy can sufficiently address competition concerns for the complex systems in our missile defense industry, the FTC and the DoD should be particularly careful before imposing yet another behavioral remedy in the defense industry in response to vertical mergers and acquisitions,” Warren said.

While the executive order and comments from government executives in Congress and the Pentagon signal that Lockheed-Aerojet is likely in for considerable scrutiny, how they will affect the merger remains uncertain.

While the review continues at the FTC, the agency is preparing to go to court to block another vertical deal between Illumina, a manufacturer of gene-sequencing machines, and Grail, a biomedical company that has developed a blood test that can identify early-stage cancers. The FTC’s administrative trial is set to begin Aug. 24 in Washington, DC. The European Commission is also reviewing the deal, and recently announced it was beginning an in-depth review of the deal, which extends the decision deadline until November 29.

With such a confluence of events — Biden’s executive order, comments from government executives and members of Congress, Khan’s arrival at the FTC, questions about potential harms of vertical mergers — approval of the deal is looking less certain than it did when the merger was announced in the waning days of the Trump administration in December.