March 21, 2014

Cash-Strapped Malaysia Looks To Lease Fighters

Defense companies from Europe and the US are offering leasing options to Malaysia, which is looking to replace its MiG-29 fighter jets. (AFP/Getty Images)
Malaysia’s proposed purchase of fighter jets has switched from a procurement competition to a leasing competition due to affordability issues, according to industry executives.The Malaysian government put its multirole combat aircraft program in the freezer last year for fiscal and political reasons. Now Boeing, BAE Systems and Saab have, or are about to, submit leasing proposals in the hope of making a deal palatable.It’s possible Dassault Aviation and Sukhoi, which were also on the original procurement shortlist, are in a similar position, according to executives on the sidelines of the Singapore Airshow last week.

“The Malaysian government are mindful of the need for an affordable solution, so we understand that all the competitors are putting offers on the table for leasing. The program has become very much about affordability,” said Alan Garwood, BAE’s group business development director.Until recently, the Royal Malaysian Air Force had been looking for a straight purchase of a new jet to replace 18 aging MiG-29 fighters, due to leave service next year.

But Malaysian budgets are under pressure to be cut, making it politically difficult to approve a multibillion-dollar deal for a fighter while the administration is cutting subsidies on items such as food and fuel while hiking taxes.An industry executive asked whether Malaysia has the political will to make any kind of selection at this time, leasing or otherwise.“The political debate is more about the cost of living, so you wonder whether it is the best time to be looking for investment in defense equipment. So timing is very difficult,” he said. “Higher up in government, do they care about the problem? The MiG-29s are due to go out of service, but they could hang on for a couple more years. That’s an Air Force problem, but they won’t be driving the replacement timelines on this.”

The new jets, if they arrive, will complement the Boeing F/A-18D and Sukhoi Su-30 fleets in service with the Royal Malaysian Air Force.“Saab has put an offer on the table for the Gripen. Boeing is about to with the F/A-18 and BAE with the [Eurofighter] Typhoon won’t be far behind. I imagine the French and probably the Russians are doing the same. We hope it’s about leasing and a purchase later on,” an executive said.

“Everybody thinks that whatever Malaysia leases will eventually become the long-term solution because the Air Force will have already invested in infrastructure items like bases, spares and training,” Garwood said.Leasing civil airliners like the Boeing 737 is big business, but in the fighter world, it’s a rare event. Sweden’s Saab is the only top-line combat jet supplier involved in leasing, with existing deals with the Czech Republic and Hungary for the Gripen for several years.Teal Group analyst Richard Aboulafia reckons that Saab’s experience in fighter leasing could give it the edge in Malaysia.“They have planes to spare, they know how to structure this kind of deal and have a good presence in the region,” he said.Neighboring Thailand is operating the Gripen, having purchased 12 of the single-engine combat jets.

The current leasing arrangements involve Saab upgrading spare Swedish Air Force Gripen C and D models. It’s likely that a similar formula is being offered to Malaysia.The Swedish company submitted its leasing option as long ago as 2012. Rival bidders were dismissive of the move at the time, but now, everybody is following Saab’s initiative.Even Garwood admits to being surprised at the turn of events.

“I wouldn’t have thought we would be talking leasing, but it’s changed over the last year,” he said at the air show on Feb. 11.Garwood’s not saying what the British offering will be, but analysts say it will most likely involve secondhand Royal Air Force Tranche 1 aircraft.The BAE executive said that whatever Typhoon model is offered, it will be equipped with a new anti-ship capability — a key Malaysian requirement.The UK’s diplomatic relations with Malaysia have improved since the Conservative-led coalition government of Prime Minster David Cameron came to power in 2010.BAE opened a cyber center in Malaysia recently in a move that buoyed the relationship.Boeing’s product offering isn’t clear. It has a choice of spare F/A-18D Hornets or, more likely, new Super Hornets similar to the aircraft operated by the US Navy.Jim Armington, Boeing’s vice president for business development in the region, wouldn’t discuss the product strategy when asked the question at the show.

He did say, though, that Boeing prefers a straight purchase arrangement, but would respond to what the customer needs and can afford.Not everybody agrees with Aboulafia over who has the edge in the competition. Some believe it is Boeing.“I assume Boeing has an advantage from being in country already. They have a maintenance operation, a local partner and the Air Force is familiar with the F/A-18,” a second executive said.“There is, though, the political dimension,” the second executive said. “Will the US be the right choice politically? President Obama is going to Malaysia next month. That could be a turning point in either direction.”Speaking to reporters at the show, Boeing’s Armington declined to voice an opinion on the timing of a possible deal, beyond saying, “Hopefully within the course of the year, we will see some decision.”Like other executives here, Armington concedes that the timing of any decision will likely not be paced by Royal Malaysian Air Force requirements.“The fighters do need to be replaced from the point of view of the Air Force,” he said. “But it’s a national decision. It’s domestic politics and economics. Despite the concerns and urgency from the Air Force, there are other factors at play.”

Whoever comes out on top, Aboulafia says he believes that for some fighter markets with “pressing recapitalization needs and limited financial resources, leasing might catch on.”Financial tightening in the region is causing some people to wonder whether other programs will feel the pinch in a similar fashion to the Malaysian fighter.Garwood said the squeeze on financial resources in Southeast Asia means “growth is not at the levels people have been predicting. … there is, though, a massive amount going on in Japan, South Korea and Taiwan.”

Dan Darling, the Asian and Pacific Rim market analyst at Forecast International, a US consulting firm, said that with the exception of Indonesia and Singapore, defense spending in Southeast Asia “remains largely restrained.“Because of the conflux of geopolitical pressures bearing down on the region, any slowdown in the local, regional or global economy is unlikely to result in an abrupt downturn in defense investment,” the analyst said.Darling said, though, that spending is already slowing.“According to our estimates from 2010 to 2011, defense spending in the Asia-Pacific region grew by $31 billion, [a] 16 percent year-on-year increase, while from 2012 to 2013, the level of growth totaled $14.4 billion,” or 6.2 percent, he said.“Our tentative estimates for regional defense spending from 2013 into 2014 reflect another slower rise in overall growth, with military investment increasing by $16 billion overall, with a little over half of that attributable to China, or 6.5 percent,” Darling said.

The analyst said he anticipates relatively consistent — but steadily upward — year-on-year defense spending for the region, largely driven by China, but to a lesser extent also by Indonesia.“As China increases its military might and reach, neighbors as diverse as Japan, India, the Philippines and Vietnam are mapping out fresh modernization plans to achieve satisfactory levels of deterrence,” he said. “Even countries such as Malaysia, which maintains healthy relations with Beijing, have recognized the need to upgrade their hardware in light of China’s growing strength and increasingly assertive territorial claims in the East and South China seas.”

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