Coins DIG

KKR & Co. and General Atlantic LLC agreed to pay $1.65 billion for a government-consulting unit that Northrop Grumman Corp. is selling to comply with new conflict-of-interest regulations.

The sale will generate about $1.1 billion in cash after taxes, which Northrop will use to repurchase shares, the Los Angeles-based company said yesterday in a statement.

The transaction represents a return of buyout firms to the acquisitions market after a two-year dearth of purchases during the credit crisis. The purchase gives the buyers an opportunity to benefit from U.S. defense spending, which will reach $680 billion in budget year 2010.

“As a fully independent entity, TASC will expand its ability to solve the U.S. government’s most pressing technical challenges,” Wood Parker, who is set to be the new company’s chief executive officer, said in a statement. Parker currently serves as TASC’s general manager. “We will now have more flexibility to invest in research and development as well as in retaining and attracting the finest talent in the nation.”

Northrop put TASC up for sale to address concerns among lawmakers that some defense contractors were both advising government agencies on weapons systems and bidding for contracts to build them.

Northrop rose $1.68, or 3.2 percent, to $54.05 at 9:39 a.m. in New York Stock Exchange composite trading. The shares climbed 16 percent this year before today, surpassing the 14 percent average gain of the 12 stocks in the S&P 500 Aerospace & Defense Index.

Moving ‘Aggressively’

“Northrop seems to be moving out aggressively to reshape its portfolio to meet the characteristics of the Obama era,” Loren Thompson, an analyst at Lexington Institute in Arlington, Virginia, said in an interview. Northrop concluded “that they didn’t want to endanger their military satellite business with business that appears to be incompatible” with the new rules.

After the share buyback, the transaction will be neutral to earnings per share this year and earnings per share from continuing operations in 2010, Northrop said.

“We would not have expected Northrop Grumman to gain much broader strategic value from the unit, particularly given the nature of new conflict-of-interest regulations,” Douglas Harned, an analyst at Sanford C. Bernstein & Co. in New York, wrote in a note to clients today. “We see this deal as positive.” He rates the shares “outperform.”

Congress in May passed a law that requires the Defense Department to strengthen rules on TASC and other providers of such advisory services, known as systems engineering and technical assistance.

Pentagon Regulations

In June, President Barack Obama signed the Weapons Systems Acquisition Reform Act, which allows the Pentagon 270 days to propose rules that will govern how contractors providing advisory services and also developing weapons should deal with such conflicts. The Pentagon rules are due by March.

Northrop has “a very extensive business with the National Reconnaissance Office and the agency is taking a very strict approach to conflict-of-interest rules,” Thompson said. The agency based in Chantilly, Virginia, manages the U.S. spy satellite fleet.

Northrop acquired the TASC unit as part of its $5 billion takeover of Litton Industries Inc. in 2001. The unit, formerly called The Analytic Sciences Corp., was founded in 1966 by engineers from the Massachusetts Institute of Technology and now has almost 5,000 employees.

TASC Sales

Northrop said the unit is expected to post sales this year of about $1.6 billion. The business is part of Northrop’s information systems division, which had sales of $5.08 billion in the first half, or 29 percent of Northrop’s total of $17.3 billion for the period.

The deal requires regulatory approval, and Northrop said it may be completed by year-end.

The sale is one of Northrop CEO Ronald Sugar’s biggest divestitures. Sugar, who has sold a dozen businesses since 2003, has announced plans to step down in December. He will be replaced by Wes Bush, now president and chief operating officer.

KKR, founded in 1976 by Henry Kravis and George Roberts, is among the buyout firms that have been shopping for units sold off by larger companies. New York-based KKR earlier this year bought Oriental Brewery Co. for $1.8 billion from Anheuser-Busch InBev.

General Atlantic, based in Greenwich, Connecticut, was created in 1980 and manages about $14 billion in capital. The firm, focused on so-called growth equity investments, last month was part of a group that agreed to buy First Republic Bank from Bank of America Corp.

Private-Equity Buyouts

After only two buyouts of more than $1.5 billion globally in the first half of the year, private-equity firms have agreed to at least five since July 1, led by IMS Health Inc., which agreed on Nov. 5 to sell itself to investment funds managed by TPG and the CPP Investment Board for $5.2 billion.

Barclays Capital, Deutsche Bank AG and RBC Capital Markets were financial advisers to General Atlantic and KKR. Those three banks along with CPPIB Credit Investments Inc. will provide financing for the deal. KKR Capital Markets, a division of KKR, arranged the senior subordinated debt, with Highbridge Mezzanine Partners as the lead investor.

Legal advisers to the investment group were Paul, Weiss, Rifkind, Wharton & Garrison LLP, Simpson Thacher & Bartlett LLP, Arnold & Porter LLP and Arent Fox LLP.

Renaissance Strategic Advisors also advised the investors.

Goldman Sachs Group Inc. and Credit Suisse advised Northrop Grumman in the deal, and Fried, Frank, Harris, Shriver & Jacobson LLP served as legal adviser.

Source: bloomberg.com