Flotation completes cold war research body's emergence from the shadows

By Peter Spiegel, defence correspondent, Financial Times
Published: Jan 13, 2006

For Carlyle Group, the US private equity group, next month's flotation of Qinetiq will be the first step on its way out of its investment.

For the UK defence ministry, it will be the final move in a nearly decade-long effort to commercialise its defence research laboratories.

But for Graham Love, chief executive of Qinetiq since September, the float will be, above all, a way of ensuring a once investment-starved, hidebound government agency can recruit and retain the best scientists and engineers in the world.

"We are a company that is based wholly upon the intellectual capacity of our people and the commitment of our people," Mr Love says in an interview in his London office, one of four he has around the globe.

"But to attract and retain the best, particularly in the US where we now have close to 3,000 people, it is absolutely crucial we're able to offer long-term equity incentives."

If all goes to plan, Mr Love, a 51-year-old Cambridge graduate, will have those publicly traded shares by the end of next month.

It will have been a long and difficult road for Qinetiq and for Mr Love, a former finance director of the public relations firm Shandwick, who joined Qinetiq in 1992 as its finance director. It was then still a government agency - the Defence Evaluation and Research Agency.

The company has since approached a flotation twice, only to back off because of adverse market conditions. After the first failed attempt, the MoD brought in Carlyle as an investor to help shape the company commercially, a move that Mr Love says has been key to making the latest attempt more viable.

"Carlyle clearly brought an additional financial focus to the business," he says. "These things don't just happen . . . Just having a Carlyle director on the board has brought a new focus on shareholder value, which it was difficult do with purely a government shareholder."

Critics have argued that Carlyle, which stands to make a big profit on its initial £42.4m equity investment, was allowed to buy in too cheaply, but Mr Love disagrees. He notes that it emerged as the highest bidder two years ago when the government put the stake up for auction.

"It's not like they just cosied up to Carlyle and said: 'Here you are'," says Mr Love. "Quite the reverse: there was a full competition with something like 40 original bidders that were whittled down, and Carlyle put in the top bid."

For Mr Love, the company's future clearly lies in the US, the world's most lucrative defence and security market. He says Qinetiq's proceeds from the sale, which will be about £150m, will be used to pay down debt so that it can keep up its pace of acquisitions. Since the middle of 2004, it has bought four US defence technology groups for a total of $620m (£350m).

Before becoming CEO, Mr Love headed the company's North American operations, which included running the vetting process for US acquisitions. He says Qinetiq started with a list of more than 1,000 targets, 40 of which he personally visited. Of the four companies already acquired, three originally told Mr Love that they had no interest in selling.

Mr Love says he won over the reluctant targets by convincing them that Qinetiq was different - a company made up of inventors rather than manufacturers, which is the case for most other big defence groups on the prowl.

"We're a company made up of scientists and engineers doing clever things," Mr Love argued. "It's very different from being a prime contractor or a manufacturer, it's a different ethos."

Such success will be important for the future, since such US defence technology groups, which provide upgrades and evaluation of existing systems rather than bashing metal into new tanks and aircraft, are suddenly finding themselves better positioned than the more traditional prime contractors as the Pentagon moves money away from building new kit to upgrading its existing weapons.

In many ways, unlike their more traditional competitors, it is a sector where Qinetiq is already is a leading operator. That has raised speculation that Qinetiq itself could be acquired once it goes public.

Mr Love plays down those chances, noting that the MoD, which will maintain a golden share in the company, is unlikely to want to sell to a large defence contractor since it relies on Qinetiq to be an independent evaluator of kit being sold by the big manufacturers.

"The difficulty with any defence manufacturer, like BAE Systems, turning up as a potential acquirer is you'd immediately have a conflict of interest," he says. "In practice, it's hard to imagine who might be an acceptable buyer."

Indeed, Mr Love adds, the float itself should raise the company's profile to such an extent that it, too, will be considered one of the big boys in the defence world.

That improved profile, Mr Love believes, will not only help Qinetiq when it goesin to acquire additional companies - potential targets will have a better idea of just what Qinetiq is - but will also enable them to compete for bigger programmes.

"The Qinetiq brand has become much better known than it used to be, but we still have a relatively low profile," he said. "From a profile prospective, it's important to us. We're bidding on some pretty major contracts now, we're competing with the large public companies both in the UK and the US."

And for once, a group that was once known as a place where cold war gadgets were developed behind tightly sealed doors will come into the light. "We are a company that has emerged, as it were, from the shadows," Mr Love says.