February 1, 2010

Will Taiwan Arms Sale Ground Boeing? 

By Jason Simpkins, Managing Editor, Money Morning

Roughly $400 billion in revenue would be a heavy price to pay for selling 12 missiles to Taiwan, but that potentially is what The Boeing Co. (NYSE: BA) is facing as China continues to fume over U.S. arms sales to the renegade island.

The Obama administration last week approved a $6.4 billion weapons deal with Taiwan. The deal, which was brokered by the administration of George W. Bush in 2001, included UH-60 Black Hawk military helicopters and additional Patriot PAC-3 missile defenses, but not additional F-16 jets, which the government deemed "too provocative."

The sale infuriated China, which considers Taiwan its territory. Beijing has vowed to unify the region peacefully if possible and forcefully if necessary, but the 1979 Taiwan Relations Act obligates the United States to "provide Taiwan with arms of a defensive character." That makes Taiwan the most sensitive issue in bilateral relations between the two nations.

The United States has a history of following through on that promise, but this deal in particular agitated Beijing, which in the past few years has attempted to assert itself as a true global superpower. For the first time ever, China's government has publicly threatened U.S. companies that took part in such an arms deal with economic sanctions.

"Due to the serious damage the U.S. arms sale to Taiwan has inflicted upon Sino-U.S. relations," announced the Chinese Foreign Ministry, "China has decided to postpone part of the Sino-U.S. military exchange programs, as also vice-ministerial level consultation on strategic security, arms control and non-proliferation, etc.; China will also impose related sanctions on those U.S. companies which participate in the arms sales to Taiwan," read an article in the People's Daily Online, the official mouthpiece for the Communist Party of China.

The companies involved in the arms sale include The Boeing Co., Lockheed Martin Corp. (NYSE: LMT), United Technologies Corp. (NYSE: UTX), and Raytheon Co. (NYSE: RTN).

The least affected of that group would be Lockheed Martin, which hasn't done business with China since 2002. The sum of Lockheed's Beijing operations consists of one part-time receptionist. However, Boeing and United Technologies stand to lose much more.

United Technologies, through its Sikorsky Aircraft subsidiary, sells Otis elevators and Carrier brand heating and air-conditioning systems in China. There are 160 Boeing employees in China, and more than 5,800 employees at Boeing subsidiaries and joint ventures, while UTC employs about 16,000 people in China.

In September 2009, Boeing forecast China would need 3,770 new airplanes valued at $400 billion over the next 20 years. Over the past three years, Boeing has derived about 4% of its total revenue from China. Worse, the launch of the company's vaunted 787 Dreamliner has been obscured by repeated delays.

"If there is an embargo, it would hit Boeing very, very badly," Tom Ballantyne, chief correspondent for Orient Aviation Magazine, told the BBC. "It could be horrifying news for Boeing."

Of course, there is still a chance that Boeing and others will be able to emerge from the row relatively unscathed. Companies like Boeing are protected under the rules of the World Trade Organization (WTO), which prohibit open discrimination against foreign suppliers of civilian equipment. The United States would no doubt challenge in international court any measures taken by China to penalize its aerospace juggernaut.

Additionally, China needs Boeing's technology and support to build its own global aerospace competitor.

It's more likely that China will simply reallocate its aircraft purchases to favor Boeing's European rival Airbus SAS.

"I don't think they'd discard Boeing completely because they want to have something to wield over the Europeans," Peter K.N. Lok, Hong Kong's former director of civil aviation and a former board member of Air China and China Eastern, told The Financial Times. "What could happen is what they've done before - tilting the sales of aircraft slightly more in favor of Airbus."

Airbus has won slightly more orders from China than Boeing in recent years, but its aircraft make up just 36% of China's total commercial fleet, compared with 53% for Boeing.

As of today (Monday) Boeing had not been notified of any sanctions by the Chinese government.