No-deal Brexit: threat to European aerospace & defence companies
The verdict is (almost) in – a 'no-deal' Brexit would be credit negative for European aerospace and defence companies, in the short term with smallest companies most affected by the disruption, the U.S. credit rating agency Moody's Investors Service said in a report on October 03, 2018.
Moody's states its central view is that the UK and the European Union (EU) will reach an agreement – one that preserves many of their current trading arrangements, minimizing the impact on European aerospace and defence companies.
However, while Moody's believes it is in the shared interests of the UK and the EU to avert a cliff-edge risk, a 'no-deal' Brexit scenario will remain a threat until the two parties sign a withdrawal agreement with transition arrangements.
"The risk of a 'no-deal' Brexit scenario is increasing and will remain a significant near-term threat to the aerospace and defence industry until a withdrawal agreement with transitional arrangements is signed," said Jeanine Arnold, a Moody's Vice President, Senior Credit Officer and author of the report.
So what are the risks?
Without new trade agreements, the EU and the UK would likely revert to the World Trade Organization (WTO) rules. Moody’s acknowledges that it is hard to estimate the impact of a no-deal Brexit on the aerospace and defence sector, given that the UK, the EU and affected companies would likely take swift steps to limit short-term disruption.
However, trade disruption will pose a significant near-term risk in the event of a 'no deal' Brexit as the European aerospace supply chain is highly integrated, complex and already strained. Meaning that there could be lengthy border checks that could delay deliveries of commercial aircraft, military equipment, their parts and components and there could be greater demands on working capital.
Another point to consider is that although the UK is seeking to remain a member of the European Aviation Safety Agency (EASA), 'a no-deal' Brexit scenario heightens the risk that it may be excluded. This would mean that UK companies would no longer be covered under existing regulatory approvals. Given the substantially negative fallout this would cause the industry in Europe, Moody’s would expect the EU to take measures to limit this risk.
The increased trade barriers and any restrictions on the movement of people could prompt aerospace and defence companies to consider changes to their manufacturing footprint. But any such outlays would likely be made over the longer-term because of the significant costs and planning needed to transfer manufacturing sites.
Cooperation on future cross-border programs appear to be at greater risk than existing programs, though even on future programs Moody’s would expect companies to partner with other companies based on their capabilities rather than where they may be based.
According to the credit ratings agency, smaller aerospace and defence companies would be hardest hit by a no-deal Brexit because they would lack the scale, resources and liquidity to manage abrupt swings in working capital, relocate personnel and manufacturing sites, or invest in IT systems and additional overheads to deal with the added administrative burden of trade barriers.
Of the large companies Moody's rates, Rolls-Royce plc (A3 negative), Airbus SE (A2 stable) and Leonardo S.p.A. (Ba1 positive) would be most affected by a no-deal Brexit due to their UK sales exposure, the location of their manufacturing facilities, or risks to their ability to retain certifications.
A no-deal Brexit could exacerbate current operational challenges and restructuring efforts in the industry following what has been a lengthy period of low defence spending, but also material R&D and ramp up costs associated with material new programs in aerospace.
The full report, "Aerospace and defence -- Europe, Amid supply chain strains, trade disruption would be greatest risk of 'no-deal' Brexit", is available on www.moodys.com.
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