L3's growth strategy guided by credit rating risk

FILE PHOTO: James Stillwell of L3 Communications holds a SVIVR Cockpit Voice and Flight Data Recorder at a display stand at the Farnborough Airshow in Farnborough July 23, 2010. REUTERS/Toby Melville/File Photo

By Mike Stone WASHINGTON (Reuters) - For L3 Technologies Inc, it's not a case of if but when the maker of everything from airport scanners to night vision equipment for the military will get bigger through acquisitions. The path that recently minted Chairman and CEO Chris Kubasik takes to deliver that growth to investors, however, is the big question. Bankers and industry executives are watching closely to see if L3 risks its investment grade credit rating with a major deal that could dwarf its acquisitions in the past. Kubasik, who took the helm at the sensor and communications company in January was named chairman earlier this month, is not shy about being on the prowl. He told Reuters in an interview that he has looked at several deals recently, but has taken a pass "because we haven't found anything that makes sense to us." Kubasik said the firm could buy a company as large as $3 billion dollars using a mix of cash and debt. Wall Street power brokers familiar with Kubasik's plan told Reuters he would love to bulk up the company quickly. However, acquisitions of technologically sophisticated, high-profit margin companies remain either too small to be significant or too large for the $15.6 billion market-cap company to afford. The bankers said infrared camera maker FLIR Systems Inc, which has a $7.4 billion market capitalization, or Textron Inc with its $17.1 billion market capitalization, are examples of the deals Kubasik is interested in but are not within reach because of credit risk and cost. The investment bankers and a credit analyst who spoke on condition of anonymity said even a $3 billion deal could endanger L3's investment grade credit which hovers one notch above junk. One way L3 could preserve its credit rating with such a deal is if L3 promised to aggressively pay down debt in conjunction with a big deal announcement, the debt analyst said. Kubasik told Reuters it was important to preserve the company's investment grade credit rating "for now." FLIR and Textron declined to comment. A representative for L3 did not comment. LET'S MAKE A DEAL Dealmaking is part of the culture at L3. Since going public in 1997, the company has made over 130 acquisitions in building a business that now gets 70 percent of its revenue from the Pentagon and the remaining 30 from commercial and international customers. Last year, while Kubasik was chief operating officer at L3, he told investors that he was eyeing 28 potential deals. Since then, he said half were ruled out and Heidi Wood - the head of L3's internal mergers and acquisitions team - added four to L3's current target list of 18 companies. In early May, Kubasik boosted L3's acquisition war chest to more than $1 billion of cash by selling Vertex, a division that provided services for aviation to American Industrial Partners, a private equity firm for $540 million. Kubasik told Reuters there is nothing big in the market tempting him now, and added that if he could not find $1 or $2 billion dollar deals, he aims to double the size of L3 over five years organically and through tuck-in - or smaller - acquisitions. The goal for Kubasik is to ultimately be "the 6th prime," meaning L3 will compete with the largest defense companies which have cultivated prized relationships with generals and admirals at the Department of Defense. Bigger competitors like Northrop Grumman Corp, or General Dynamics Corp enjoy many of these direct contact relationships and Kubasik wants to increase L3's share. To achieve this, Kubasik wants more government contracts that name L3 as the "prime" contractor, putting the company in direct contact the main customer, the Pentagon. He said L3 would never make jets or planes, but unmanned under water systems and other smaller format defense equipment like night vision equipment and protected communications can provide the access Kubasik thinks will pay off. Kubasik is confident that the company would increase its dividend as it has over the last 13 years, but his priority is to make a deal. "One at $3 billion doesn't bother me, three at $1 billion doesn't bother me. But right now, we've been doing $100, $200 million because that's what's available," he said. (Reporting by Mike Stone; Editing by Chris Sanders and Edward Tobin)