​Massive Navy expansion may be easier said than done for U.S. shipbuilders

Courtesy of Jacksonville Business Journal

The shipyards of General Dynamics Corp. (NYSE: GD) and Huntington Ingalls Industries Inc. (NYSE: HII) are going to be busy if President Donald Trump follows through on his repeated pledges to massively increase the size of the Navy— but that won’t come without its challenges.

Increasing the fleet from 274 ships to 350, as Trump plans to do, might provide a revenue boost to the likes of General Dynamics. But it also entails some “operational risk,” according to a Thursday report from credit analyst firm Moody’s Investors Service Inc. The reason? “A build-up (let alone of such magnitude) has not occurred for many decades.”

I spoke with Bruce Herskovics, a senior analyst at Moody’s, about the big challenges the nation’s two shipbuilders will face in meeting Trump’s quota, and he said it largely comes down to the labor force.

Naval shipbuilding has slowed down so much in recent years that it even prompted Huntington Ingalls to close its shipyard in Avondale, Louisiana, in October 2014. That lends fewer resources to a larger job.

“It’s a big industrial manpower effort when you’re going to build a large number of ships coming off of a low base level,” Herskovics said. “You need to have a whole supply chain of labor that extends from high schools all the way to trained tradespeople willing to step up the volume.”

Navy ships are massive undertakings involving a lot of skilled labor. In the time it takes to build a single project, big chunks of the workforce can move on, and shipbuilders didn’t need to replace them given they were working on increasingly fewer ships. Now shipbuilders must ask themselves, “How do we get the supply chain of our labor force back to a level it needs to be at so we can meet this uptick in work?” Herskovics said.

Couple that with Trump’s plans to aggressively cut costs on the actual ships — and higher labor costs at a lower product price could be a tough calculus for shipbuilders.

Navel Ship

“We’ve gotta get a good deal,” Trump told workers at Huntington Ingalls’ Newport News shipyards during a visit Thursday. “If we don’t make a good deal we’re not doing our job. The same boat for less money. The same ship for less money. The same airplanes for less money. … It means we’re going to get more of them and we can use them.”

Herskovics agreed any increase in shipbuilding is likely going to involve multiyear, fixed-price contracts that lock in contractors.

“An administration that’s new that’s seeking to ramp up the build rate is likely looking to buy the ships at a price that is reasonable, so the Navy is going to be smart about what it pays for,” he said. “For the contractor, they have to be careful when they’re ramping up the workforce that they can make sure that they meet the cost that they baked into the bids that they put forward.”

Shipbuilders are already preparing for potentially lower margins. Huntington Ingalls, for example, plans to invest $1.5 billion in the next five years to help contain costs.

“We are focused on reducing costs in all of our shipbuilding programs,” Huntington Ingalls spokeswoman Beci Brenton wrote to me in an email. “We see the most progress in reducing costs in those programs that are mature and where we are have stable requirements, can leverage the economic advantages of block buys, and are in serial production.”

The good news? Navy officials have indicated that the major shipyards have the capacity to up their production.

“These yards have the ability, even in their existing facility and footprint, to dial up the production rate,” General Dynamics CFO Jason Aiken told investors last month at Barclays Industrial Select Conference in Miami.

James Bach covers federal contracting.

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