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By Julian Nettlefold, Editor, BATTLESPACE

15 Dec 06. The announcement in the FT that Babcock International, the support services company, is considering a bid for the DML Devonport naval yard in Plymouth should come as no surprise to BATTLESPACE readers. Since the initial joint VT/BAE bid for Babcock was pulled (See: BATTLESPACE UPDATE Vol.8 ISSUE 18 04 May 2006, HAS BABCOCK DEAL BEEN AFFECTED BY THE ‘BROWN EFFECT’?), a deal that would pave the way for a deeper restructuring of Britain’s submarine-building industry. Is there a smell of stale Bulls in the market, and has City pressure precipitated this move??

The future of Devonport, which maintains, upgrades and refuels the Royal Navy’s nuclear submarine fleet, has been in question for several weeks following a row between KBR, the US infrastructure group that owns 51 per cent of the yard, and the Ministry of Defence. Quite clearly there were a number of City Institutions with strong positions in Babcock in May who saw the VT/BAE deal as done. An offer to buy DML would cement Babcock into the final solution demanded by Lord Drayson for both Shipco and Subco, it would also extract the best value for KBR for DML and almost certainly result in Babcock Chairman, Sir John Parker, the master deal maker, taking pole position in the new U.K. Naval shipbuilding industry. There is also a clear desire to see a Babcock deal cemented before the Scottish elections in May where Babcock holds a key position for some key seats and any delay in CVF post-election and anti-Trident issues will certainly affect the Babcock share price.

The MoD is eager to consolidate the UK’s submarine industry to drive down costs after the recent decision to replace Britain’s Trident nuclear deterrent, which is carried aboard four submarines. However, it is worried that the recent flotation of KBR by its US parent company, Halliburton, has left it poorly placed to play a part in industry consolidation because of capital and management constraints.

BAE Systems, Britain’s biggest weapons maker and owner of the country’s only submarine-building facility in Barrow-in-Furness, could make a rival bid for the Devonport yard. Carlyle, the US private equity group, is watching the situation.

Senior industry executives said Babcock had emerged as an early favourite among MoD officials to secure the deal, though this could change. BAE’s exit from shipbuilding as part of BAE would pave the way for European restructuring and allow BAE to pave the way for its much-expected U.S. listing.

Babcock owns a shipbuilding and refitting yard in Rosyth on the Firth of Forth and also runs the Royal Navy’s submarine base at Faslane on the Clyde. One executive confirmed that “high level” talks between Babcock and KBR had taken place. Babcock is also talking to Weir Group and Balfour Beatty, which own the rest of Devonport.

Carlyle is well regarded at the MoD after taking a stake in Qinetiq, the former MoD research laboratory that floated this year. Lord Drayson, the minister in charge of Britain’s £16bn yearly defence budget, has said he would welcome private equity involvement in defence industry restructuring. Carlyle has considered a bid for Devonport before, when its value was about £400m. The value is believed to have fallen to £100m-£200m because of concerns over the yard’s future workload.

Devonport is also an important site for surface ship support for the Royal Navy, another area the government is looking to restructure. BAE and VT Group, a support services and shipbuilding group, are in talks to create a joint venture that would include BAE’s shipbuilding yards on the Clyde and VT’s Portsmouth site. As part of the deal, BAE could pick up sole ownership of the ship support business in Portsmouth and would have the option to buy VT out of the joint shipbuilding venture in three years. Portsmouth, Plymouth and Rosyth all provide warship support and maintenance but one

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