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27 Dec 05. Peter Speigel of the FT reported that the controversial £1.1bn ($1.9bn) initial public offering of Qinetiq, the UK defence ministry’s advanced research laboratory, could go ahead as soon as next month after Treasury officials granted approval for the flotation.

Formal ministerial approval is still pending but people involved in the negotiations said the Treasury officials’ sign-off had removed the last major hurdle preventing the deal. Now that the Treasury has signed off, a flotation is expected by February at the latest.

The offering is expected to produce a huge gain for both the MoD, which owns 56 per cent of Qinetiq, and the Carlyle Group, the US private equity group, which gained a 31 per cent stake for an initial equity investment of £42.4m when the defence group was privatised in 2002. An MoD spokesman would not comment on the Treasury clearance, saying only that no final decision had been taken on “the timing or structure” of the transaction. Shareholders had originally hoped to hold the Qinetiq offering last month, but Treasury concerns about political fallout over the expected profits for Carlyle and Qinetiq executives led to months of protracted negotiations.

“[The] Treasury has never been as in favour as the MoD of this transaction, going back to the Carlyle deal,” said one person involved in the public offering talks. “The sums of money are undoubtedly large.

There’s no way of getting around that. It is what it is. On the basis of a £1.1bn equity valuation, Carlyle’s stake would be worth £340m. Including a capital repayment of £28.5m it received last year, Carlyle could generate a more-than-eightfold return. Officials involved in the deal said the flotation had also been delayed by the MoD’s defence industrial strategy, which was released this month and had consumed considerable amounts of the department’s time and energy.

Despite the protracted negotiations, the delay could help the planned offering. Since November, defence stocks in the US and the UK have increased substantially. Deal activity in Qinetiq’s sector – defence groups that specialise in technology evaluation and project management – has also been particularly strong in recent months.

The FT reported that defence companies are awash with cash at the moment and Qinetiq could make an attractive acquisition target, although the MoD will maintain a large blocking stake. US defence groups are looking for opportunities and the trend to set up headquarters in the UK, one of the most open defence markets, will continue.

But, what will any bidder, one of whom has been suggested as L-3, get for their money. However many acquaitions QinetiQ has made vin the past two years to bolster its revenues outside the U.K., the core business and revene stream still relies on UK Government patronage for some time to come. (See: BATTLESPACE UPDATE Vol.7 ISSUE 50, December 21st 2005, QinetiQ floatation delayed until February 06?)

The City is not known for backing companies with a reducing revenue stream. The Defence Industrial Strategy outlined two threats to QinetiQ, one, reduced revenues from the Government from 90% of applied and corporate research going to QinetiQ in 2002/3 to 2009/10 to the Government competing 60% of research. At the moment QinetiQ is feather bedded by its UK Government parent and also receiving significant work form Dstl. Once quoted other companies such as BAE can bid for the work, so why should anyone want to buy QinetiQ, with the possibility of it losing work to more commercially savvy and streamlined companies such as Lockheed Martin UK and BAE? People businesses are known to be difficult to value with the outflow of personnel and key workers a continuing problem.

Can QinetiQ hold on to its workforce and is the salaries paid there equivalent to the outside market? Morgan Stanley is arranging the float with QinetiQ and Carlyle, the truth will be in the forecasts and whether they stand up to

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