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" This clause highlights the business the company is in, at the risk of stating the obvious, but it also highlights the close relationship that the company has with respect to national defense. While a word like "best" often means next to nothing, in this case when coupled with the national defense angle, it actually highlights that HII plays a role in differentiating the American military from others around the world.
The lack of vision statement is not necessarily a major blow to the strategy of the company. As a company that has one major industry, few competitors, and basically one major customer, there is an implicit clarity and sense of purpose for the organization. Mission and vision statements serve to define the organization and provide a sense of focus, but that already exists by virtue of the company's business. What it does, why it does it and how it does it are unequivocally understood. Indeed, many of the firm's workers are either ex-military or multigenerational workers whose families have been with the company for decades, so there is little need to create an artificial sense of purpose for many members of the organization.
Over the past four years, HII and the unit that would become HII have seen relatively stable revenues, ranging from $6.189 billion to $6.723 billion. The company's cash flow from operations has been relatively stable during that time as well. Thus, HII's financial situation can be characterized as stable in general. Total equity has diminished somewhat in the past couple of years, a function of writedowns. Otherwise, however, there has been stability on the company's balance sheet as well. HII has not taken out any new long-term debt in the past four years, for example, preferring to finance itself from ongoing operations. The company has also been able to maintain a healthy liquidity situation, a healthy amount of cash on the balance sheet, has not purchased any major new assets and has maintained relative stability in its sales, general and administrative expenses. Given the company's stability, it is reasonable to expect that it will continue to enjoy the same performance in the coming four years that it has in the past four years.
The company's strengths include its expertise, its relationships with key external stakeholders, its employees and its physical infrastructure. Each of these strengths plays an important role in HII being able to meet its strategic objectives. The expertise allows it to compete at a differentiated player, something it can only do because it has the best shipbuilders on its team and is capable of exceptional innovation. Knowing how to work with the customer in order to ensure that the ships are built to spec is another asset of the company's expertise, one that comes from the employees. The employees contribute to strong organizational culture, high loyalty and high standards of performance. Again, all of these factors contribute to the ability of the company to produce the best warships on the planet. The physical infrastructure, having been used to build dozens of ships before, is also a valuable asset. The cost of setting up facilities of the size and nature of HII is exception, and combined with the expertise within the company provides a tremendous barrier to entry for any firm seeking to take some of the business away from HII.
That said, there are some inherent weaknesses within the company that are creating a drag on profits. The first is that the cost structure is high. The company recognizes this as a weakness and wants to take steps to address the problem. Another weakness is with cost control, as the company has struggled to remain just above the point of profitability, and as a result has taken losses in the twice in the past four years when unusual expenses (writedowns) have arisen. Another weakness is the reliance on the U.S. Navy as basically the sole customer. As pointed out, there may be something legal that prohibits this company from pursuing business from other friendly nations such as Canada or the UK, but it also does not pursue much business from the U.S. Coast Guard either. As a result, HII is entirely dependent on the Navy for its success. This in turn makes it dependent on the federal government, and its needs shift with the current geopolitical situation. Right now, aircraft carriers and naval warships are valuable in a number of instances, but addressing budget deficits will require cutting even the defense budget, and that could result in delayed or cancelled contracts for HII, and the company will not have other markets to turn to in order to make up for those losses.
Thus, the primary opportunity that the company faces is to expand its markets, even if just to the Coast Guard, but preferably it should have access to bidding on projects for other friendly nations as well, something other military contractors frequently have the ability to do. This would allow HII to diversify its business and have less reliance on the whims on Congress or dramatic changes in global geopolitics. The other major opportunity to improve profits comes in cost reduction, something that the company is already working on. This can be difficult when there is also a mandate to innovate, but it is something that HII must pursue in order to improve its ability to turn profits every year.
As noted with one customer the major threat to HII's business comes from any reduction in demand from that customer. Over the past four years, that demand has been steady, but any change in demand will leave the company with more costs than it will have revenues to cover. This is especially a problem for HII because the company's projects are huge, often over a billion dollars, so any project cancellations will cause a tremendous loss until the cost structure can be adjusted.
The stability of HII's business is both a blessing and a curse. The company has clearly been able to execute on its strategy, but the strategy also leaves little room for error. The company is one budget crunch away from suffering major losses. Even without a reduction in defense spending, a shift in priorities could see money funneled to other military branches, something that again would cause substantial harm to HII's business. The company not only needs to ensure that its current level of stability is maintained, but that it has a means of adjusting to changing circumstances should it need to. At present, it does not appear to have excess capacity, and the careful balance of its operations may make it difficult to approach potential new customers. However, the company is neither going to grow nor be insulated from potential problems with its current strategy -- the current state of HII's business is pretty much as good as it is going to get without some changes.
For managers of the company, it may be sufficient to continue working on existing government and Navy relations, while focusing on eking out incremental profits on the basis of cost reductions. For investors, however, this is a less than enticing proposition. Surely, spinning this company off was intended to spur some sort of growth or innovation. The company does not pay dividends, so in the absence of growth there is no conceivable reason for an investor to buy shares in HII. This alone implies that some sort of growth strategy must be brewing. This may simply involve enhancing business with the Navy, but it might also involve pursuing more Coast Guard business or selling to other friendly nations. Whichever approach is chosen, some growth strategy needs to be developed, but preferably one that results in some diversification away from the single customer model that is responsible for most of the risk that the company currently faces.
HII Fact Sheet. (2012). In possession of the author.
HII 2011 Annual Report. In possession of the author.
HII Q4 2011 Earnings Presentation. In possession…[continue]
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