Defense budget overhaul could give local Rolls-Royce plant a boost

While military contractors scramble to protect big projects from Defense Secretary Robert Gates’ budgetary ax, Indianapolis
engine-maker Rolls-Royce is sitting pretty.

Rolls-Royce, which employs 4,300 in Indianapolis, is developing a key component for the Marine Corps’ version of the F-35
Joint Strike Fighter, potentially a big winner under a sweeping overhaul of priorities Gates unveiled this month.

The defense secretary proposed a $534 billion budget, up 4 percent from last year. But the details are dramatically different,
as Gates shifts the military’s focus toward winning unconventional conflicts, such as the war in Afghanistan, rather than
battling superpowers.

The new emphasis could stoke demand for two other Rolls-Royce engines used in special operations and in unmanned vehicles—areas
that will fare well under the new priorities.

Defense industry analyst William Storey said Rolls may be able to sell more engines for the RQ-4 Global Hawk, a reconnaissance
drone, and for the Air Force’s C-130J, a transport plane used in special operations, such as hunting down insurgents.

"Rolls just happens to be involved in solid programs," said Storey, president of Teal Group Corp. in Fairfax, Va.

The company, part of London-based Rolls-Royce Group PLC, already is the region’s second-largest manufacturer, behind Eli Lilly
and Co.

Additional work for Rolls would give Indiana’s battered manufacturing sector a badly needed boost. Manufacturers in the state
have shed more than 80,000 jobs since the beginning of 2008, with those in auto-related fields taking the hardest hit.

Rolls officials would not comment on how the company might fare, saying doing so would be premature. Gates won’t issue a line-item
budget until next month, and the plan is sure to face intense scrutiny in Congress.

The biggest battles likely will be over programs targeted for elimination because Gates deemed them too expensive, or ineffective.
That includes Lockheed-Martin Corp.’s F-22, which would be capped at 187 planes, and the missile defense budget, which would
be trimmed by $1.5 billion.

Instead, Gates favors speeding up the purchase of Lockheed’s F-35, which is supposed to save money by covering the needs of
the Air Force, Marines and Navy.

He also is calling for big changes to the procurement process, which critics say is overly influenced by powerful contractors.
And he favors big investments in special ops and unmanned aircraft to better prepare the military for the kind of warfare
it likely will face in the future.




Crane well-positioned

Those new priorities also could boost the Naval Surface Warfare Center Crane in southern Indiana. The base does tests and
engineering in missile systems, weapons and equipment for special forces, and battleship electronics.

The Crane division has 2,700 employees, and officials think that figure could grow to 2,900 in 2010.

"There has not been any consternation whatsoever over the new proposed plan," said Doug Crowe, deputy department head of Mission
Support Services at the base.

The base received authorization to add more than 300 positions for 2009 and expects to add another 140 in 2010.

Crowe said Gates’ emphasis on procurement oversight is fueling the growth.

"Most people here are classified somewhere in acquisitions," Crowe said. "I think there’ll be solid support behind that."

Not all of Gates’ priorities are sure to benefit workers in the state, however. For example, the defense secretary has called
attention to the Predator Drone, which can fire missiles, not the Air Force’s Global Hawk reconnaissance drone, which uses
Rolls’ AE 3007H engine.

The Global Hawk business is still relatively small, with Rolls delivering 46 engines for the drone so far.

It still may have a bright future. It’s not clear how many types of drones—there are dozens in existence—the military will
end up using in large numbers. And Storey thinks the Global Hawk is off to a good start.

Teal Group is projecting $500 million in Global Hawk-related engine sales for Rolls-Royce through 2018.

"The numbers can only improve for that," he said.

While the Teal Group is optimistic about how Rolls-Royce will fare under Gates’ plan, the financial benefits won’t be immediate.

The company’s work on the F-35 focuses on a version that’s still in development for the Marine Corps. The craft eventually
would replace Boeing Co.’s Harrier.

Rolls-Royce makes a fan and other components that allow the Marines’ F-35 to make short takeoffs and vertical landings. In
December 2008, Rolls announced a $131 million development and demonstration contract with engine-maker Pratt & Whitney for
six of its LiftSystems.

The company hasn’t put a price tag on the LiftSystem. Storey guesses the Marines eventually would acquire 400 F-35s, and the
United Kingdom, another current user of the Harrier, could take 100 of the new aircraft.

"That’s a nice bit of work for Rolls," he said.

The company’s biggest military moneymaker is the AE 2100 series, which is most heavily used in the Air Force’s C-130J Hercules,
an all-purpose transport plane that can carry soldiers or vehicles.

"One of the missions of the C-130J is to support special operations, and that is sort of a buzzword these days coming out
of the Pentagon," Storey said. "That will bode well for the C-130J."

Each C-130J requires four of the company’s AE 2100 engines. Rolls has delivered 857 engines since Lockheed launched the plane
in 2001.

Teal Group projects the AE 2100 series could generate $3.2 billion in sales between now and 2018.

Crane also hopes to benefit from Gates’ attention to special ops.

One of the base’s three main roles is to figure out how to upgrade weapons, night vision, vehicles and communications devices
for special forces.

"That’s an area you would definitely call a gaining program," Crowe said.

But it’s too early for any potential beneficiary of the Gates plan to celebrate. Programs Gates wants to cut or scale back
employ thousands of people, and members of Congress are sure to fight to preserve jobs in their home states.

The battles could go on for years, said Phil Coyle, senior adviser at the Center for Defense Information in Washington, D.C.

He offered Lockheed’s F-22—which is built in Marietta, Ga.—as a prime example.

"The last four aircraft won’t be finished until the end of 2011," Coyle said. "So that means that members of Congress have
got two years to fight the Obama administration on this."

Gates might also encounter resistance from branches of the military, Coyle said. The secretary wants to pull the plug, for
example, on the Army’s development of an armored vehicle under its Future Combat Systems program. Coyle said Army officers
are already giving Gates heat about that idea.

The most frequently noted survivor of military budgets is the Marine Corps’ V-22 Osprey, which happens to use a Rolls-Royce
engine. Dick Cheney, defense secretary under the first President Bush, tried to kill the Osprey four times.

Coyle cited the Osprey as an example of congressional blocking power.

"It wouldn’t be the first time they overturned a secretary of defense," he said.

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F-35 Joint Strike Fighter

Three versions for Air Force, Marines and Navy. Rolls-Royce is a
subcontractor to engine supplier Pratt & Whitney on the Marines’
version, which will replace the Harrier.

Rolls-Royce engineers in Bristol, England, and Indianapolis developed a
lift fan and other components that enable short takeoffs and vertical
landings. The company is working on its LiftSystem under a $131 million
development and demonstration contract with Pratt & Whitney.

C-130J

Air Force transport plane. Each uses four of Rolls-Royce’s AE2100 turbo
propeller engines. Air Force uses C-130J in a variety of missions,
including special operations.

One industry analyst estimates that sales of the AE2100 could total $3.2 billion between now and 2018.

RQ-4 Global Hawk

A large Air Force drone, or unmanned aircraft, that uses the
Rolls-Royce AE3007 engine. Sales could total $500 million between now
and 2018.

Sources: Teal Group, Rolls-Royce