For government service providers, 2002 was a renaissance year. Information technology played an increasingly large role against the threat of terrorism in collecting and processing intelligence and developing integrated command and control structures to augment more efficient military initiatives and secure the homeland; the Administration’s defense transformation plans called for even broader information sharing across all federal agencies which meant a heavy reliance on outsourcing to the private sector to achieve these goals; and Wall Street finally recognized the sector’s convincing fundamentals, –with public company valuations reaching historical highs. In fact, six new public companies joined the comparable universe in 2002 bringing the total number of pure-play publicly-traded government services companies back near its peak of twelve in 1997.
This influx of new capital in 2002 and investors’ demand for strong growth almost instantly drove up M&A activity and valuations. ManTech International, for example, aggressively capitalized on the attractive public market trends to complete an initial public offering and a follow-on within 10 months and then immediately deployed the proceeds to acquire four pure-play intelligence/defense services companies, adding over $150 million in revenue. This bold move positioned the company as a long-term force within the intelligence sector.
While public valuations have declined from those peaks, fundamentals and growth prospects remain strong and the sector continues to outperform both the broader market and defense manufacturing indices.
Even with the recent surge in deal flow, the normalization of public markets and the depletion of IPO war chests, M&A activity is unlikely to diminish in the foreseeable future for a number of reasons. First, while government contractors have been the most active acquirers, the sector has attracted unprecedented interest from a wide range suitors. The last 18 months have witnessed transactions by the prime defense contractors such as General Dynamics, Lockheed Martin, and BAE; the middle market defense hardware companies such as Engineered Support and EDO; commercial integrators such as Perot; and even financial groups such as Arlington Capital and GTCR – all eager to establish a presence in this $100 billion market opportunity., Second, as history has illustrated, a handful of today’s smaller public companies will likely elect to join forces with larger industry giants to better compete for both investor attention and sizeable procurements. Finally, the government services market remains composed of fragmented universe of hundreds of private, niche-oriented players. Strategic consolidators, while more discerning, will continue to search for acquisition targets, awarding the highest valuations to those companies providing intelligence or other mission critical support, contributing business with the highest barriers to entry to support long-term growth.