The struggling British defense manufacturer, BAE Systems plc (LON:BA), badly needs the merger with EADS to succeed, otherwise it is vulnerable to falling apart, or to a US bid. The British defense group has no clear strategy, or Plan B, other than the $45 billion planned merger with the Airbus maker. It has become extremely difficult for BAE Systems to squeeze growth from the shrinking defense business.

 Eads and Bae system

The merger with EADS has to go through many hurdles. Debates are still going on about the proposed 60:40 ratio for EADS and BAE. How the defense giants will fence their top secret projects, and how the EADS operations in Germany and France are to be safeguarded, remains to be seen. BAE Systems plc (LON:BA) revenues are declining. Now they have to get into bed with EADS NV (EPA:EAD) or some other U.S. company. BAE, which has an independent arm in the United States, is one of the biggest supplier of arms to Pentagon.

Six years ago BAE Systems plc (LON:BA) sold its 20 percent holding in Airbus for $3.5 billion, to focus completely on the defense industry, which was on cloud nine back then. It established deep roots in the US and UK defense, but now both countries are in deep trouble. The United States has already planned to cut the defense budget by $487 billion over the next decade, and another $500 billion cut in military spending is under review.

In recent years, BAE has tried to reduce its dependence on defense by diversifying into the cyber security business. BAE Systems acquired Detica, a cyber security firm, in 2008. Detica currently handles national security information and data from governments, and it is now expanding into media, telecom, and financial services.

BAE has fired about 50 percent of employees in its land and armaments unit since 2009. The company further plans to cut 2,000 jobs amid low Typhoon orders.

The UK government has a “golden share” in BAE, which allows it the right to block or approve any deal. Though David Cameron is going gaga over the EADS merger, he is unlikely to block a deal if a US suitor makes a bid for BAE. That will strengthen the “special relationship” between the UK and the US.

Ed Stacey, an analyst at Espirito Santo, says that BAE’s chief executive, Ian King, will find it difficult to remain the CEO if the EADS NV (EPA:EAD) deal fails. King has already soured his relationship with key BAE shareholders.

BAE shares are currently trading at 321.30 pence. They jumped when the merger was announced, but fell back due to concerns about regulatory and political hurdles.