THE NEW CONSOLIDATORS
Hot mergers and acquisitions market spawns a generation of midsized players<@VM>How to star as an M&A player
- By Nick Wakeman
- Jan 23, 2004
From left, Todd Stottlemyer, ITS Services; Michael Solley, NCI Information Systems; Greg Bedner, Perot Systems; Phil Nolan, Stanley Associates; Phillip Foote, STG; and Ernst Volgenau, SRA International.
Phillip Foote sees acquisitions as a way to get STG Inc. into state and local government, one of the hotter homeland security markets.
Ernst Volgenau is on the lookout for deals that will strengthen SRA International Inc.'s reach into the Defense and Homeland Security departments and intelligence agencies.
Greg Bedner is using acquisitions to build Perot Systems Government Services into a unit that can compete with anyone on any contract, no matter what the size.
"Big contracts need big companies," said Bedner, president of Perot Systems Inc.'s government unit.
These executives aren't the only deal-makers around. Their companies are among a new crop of businesses making acquisitions in the government market. Other players include DigitalNet Inc., ITS Services Inc., NCI Information Systems Inc. and Stanley Associates Inc.
These companies and many others like them have joined established acquirers to fuel an intense round of consolidation that has sent the number of mergers and acquisitions from 47 in 2001 to 64 in 2002 to 73 in 2003, according to investment bank Houlihan, Lokey, Howard & Zukin. The aggregate value of the deals grew from $3.8 billion in 2002 to $5.9 billion in 2003.
While companies such as Lockheed Martin Corp. and Northrop Grumman Corp. are still making the biggest deals and garnering the most attention, analysts said these new acquirers are being drawn into the market by conditions ripe for acquisitions at all levels.
"There is significant growth potential in the federal market, and there is an abundance of capital to make deals," said Larry Davis, president of Aronson Capital Partners LLC, a merger and acquisition advisory firm in Rockville, Md.
The conference circuit that serves the government M&A community also has seen a surge. Michael Syracuse, president of the Washington chapter of the Association of Corporate Growth, an organization that promotes mergers and acquisitions, said attendance at the group's annual conference grew from about 150 in 2001 to more than 300 last May. In 2003, the conference added a forum for private equity firms, and 30 signed up. "We were only limited by the space we had," he said.
Los Angeles-based Houlihan Lokey had more than 100 representatives of private equity firms at its M&A conference in October.
"A few years ago, we may have gotten 10," said Robert Kipps, a director in Houlihan Lokey's government technology services practice.
"We just don't see M&A activity letting up," said Richard Knop, co-manager of the investment bank the Windsor Group of Reston, Va.
WHO ARE THESE PEOPLE?
The executives making the deals echo the investment bankers' optimism.
ITS Services of Springfield, Va., is the latest to make a move, with its Jan. 22 agreement to acquire Science & Engineering Associates Inc. Todd Stottlemyer, ITS' chief executive officer, called the deal a merger, saying both companies had about $100 million in 2003 revenue.
Several SEA executives will take senior-level positions in the combined organization, which will have about 900 employees when the deal closes.
The acquisition is the first since Stottlemyer and a group of investors, which included Arlington Capital Partners, acquired ITS Services from its founders last year.
Like many of those at companies making acquisitions, Stottlemyer said his strategy has been to look for companies that have strong national security, homeland security and defense capabilities. The acquisition of New Orleans-based SEA brings with it customers with the Navy and Energy Department. Target acquisitions have a revenue range of $30 million to $100 million.
"Size is not an end in itself," Stottlemyer said. "You want to be larger so you have more past performance to draw on, and that positions you better in the marketplace."
At Perot Systems Government Systems, which had about $220 million in 2002 revenue, Bedner is looking for acquisitions that can help his company compete with the likes of Electronic Data Systems Corp. and Computer Sciences Corp., both of which have multibillion-dollar government businesses.
"We need to get as big and as multitalented as quickly as we can," he said.
Bedner said he also hopes the larger size will raise the government unit's profile within Plano, Texas-based Perot Systems. "We want the government side to be a major player within Perot," he said.
As of Perot Systems' last quarterly report, government business was about 15 percent of total revenue. "I'd like us to be a quarter to a third of the outfit," he said.
Bedner has the support to reach that goal. Perot Systems bought Bedner's company, ADI Technology Corp., in July 2002 to gain entry to the federal market. Last year, Perot Systems acquired Soza & Co. Ltd.
Bedner said his top priority is acquiring a company in the $100 million to $200 million range, one that has capabilities in defense, intelligence, health care and outsourcing. But he also will consider companies in the $10 million to $30 million range if they bring specific skills or customer sets.
"There's nothing that is too small or too large for us," he said.
In contrast to ITS Services and Perot Systems, Reston, Va.-based NCI isn't making deals to add size, said company president Michael Solley. When he was an executive at Nichols Research Corp. and then MTC Technologies Inc., Solley saw those companies often compete successfully against larger companies. Nichols was later sold to CSC.
"You don't have to be a $1 billion company to be competitive," Solley said. What you do need is access to customers, especially when you are targeting defense and intelligence agencies, he said.
"It can take three or four years to break through to some customers, but an acquisition can get you there right away," he said.
NCI's purchase of Scientific & Engineering Solutions Inc. of Annapolis, Md., earlier this month is an example of that strategy, he said. NCI has a strong presence with three intelligence agencies, and SES brought in three more. Solley said the agencies do not want to be identified.
Solley's strategy going forward is to target companies in the $10 million to $30 million range that can add systems engineering to NCI's information technology capabilities.
With one deal so recently under the belt, Solley said he didn't expect NCI to complete another one during the first half of 2004, but a deal by the end of the year is a strong possibility.
NCI had about $136 million in 2003 revenue. Solley said he wants 20 percent to 30 percent growth each year, with about half coming from acquisitions.
Stanley Associates Inc. of Alexandria, Va., also is pursuing companies to supplement organic growth, company officials said. In January 2000, Stanley began its acquisition strategy by picking up GCI Information Services Inc. of Vienna, Va. In September 2002, the company acquired CCI Inc., another Alexandria company with capabilities in professional, technical and management services.
Just this month, Stanley closed a deal to acquire Fuentez Systems Concepts Inc. of Charleston, S.C., which brought with it customers at the Navy's Space and Naval Warfare Systems Command and the Homeland Security Department as well as information security capabilities.
The company's goal is to grow from its present $143 million level to more than $500 million by 2009, said Phil Nolan, president and CEO.
"We look at the life cycle of needs that our customers have, and then look at where we aren't serving them in that cycle," Nolan said. What the company is missing is what it tries to acquire, he said.
Most targets will have capabilities in information security, command and control, network management, systems engineering and systems integration.
"We like to look at companies with very deep penetration with two or three customers," said Chris Torti, Stanley's vice president for mergers and acquisitions.
SRA International of Fairfax, Va., is checking out companies that are about 10 percent to 30 percent the size of SRA, which hit $450.4 million in 2003, said Ernst Volgenau, chairman and CEO.
SRA's acquisition activity blossomed after the company went public in May 2002. Proceeds from that stock offering and a follow-on offering have given SRA the funds to make deals, he said.
In January 2003, SRA acquired Adroit Systems Inc., a provider of command and control systems. At the end of this month, the company is expected to close a deal to acquire Orion Scientific Systems Inc.
With Adroit, SRA picked up more command and control capabilities, particularly in the surveillance and intelligence areas. Orion will bring more counterintelligence, counterterrorism and law enforcement services and products, he said. Both companies also had strong balance sheets.
"We are not looking for any companies that need to be turned around," Volgenau said.
DigitalNet of Herndon, Va., also is using proceeds from its IPO to fuel acquisitions.
"An IPO really raises your profile. So many more companies want to talk to you," said Ken Bajaj, CEO of DigitalNet.
Bajaj said he wants DigitalNet, which is projecting 2003 revenue of nearly $288 million, to grow organically at more than 20 percent a year, with 5 percent growth from acquisitions. DigitalNet is targeting companies in the $20 million to $100 million range with networking and security capabilities.
"We are talking to lots of companies," said Bajaj, who said he expects to make one or two deals this year.
For STG, the fight for market share helped propel its acquisition strategy, said Foote, the company's executive vice president . The Fairfax, Va., company made three deals in 2002 and has completely integrated them, he said.
"We're looking to diversify and bring in niche capabilities," he said.
The 2002 deals brought in defense and intelligence customers and capabilities in weapon systems, special operations, language services and scientific and engineering services. In 2003, the company had about $170 million in revenue.
"We want to improve our resume, not just bulk up," he said.
A company with homeland defense capabilities is a definite target for STG, and an acquisition in the state and local market is an important part of that strategy, Foote said.
"A lot of homeland security spending is coming down to the state and local level, so our long-term strategy is to get into that market," he said.
Acquisition targets include very small niche players with under $10 million in revenue, but STG also wants to find a like-sized partner to merge with.
"We need to continue to build a presence in the market," he said. "We need to be a half-billion [dollar] company with a vision toward being a $1 billion, publicly traded company."
IN THE LONG TERM
Although these companies focus on growing their businesses and making acquisitions, recent events show that strategies change if the right deal comes along. Case in point: Veridian Corp.
With backing from a pair of private equity groups -- Monitor-Clipper Partners of Cambridge, Mass., and the Texas Growth Fund of Austin -- Veridian began making acquisitions in 1998. From its founding that year, it grew to $1.3 billion in expected 2003 revenue, rising to No. 22 on the Washington Technology
Top 100 list. The company continued to make acquisitions with the capital raised from its public offering of stock in 2002.
But when General Dynamics Corp. offered $35 a share, a 28 percent premium over its share price of $27.35, the deal was too good to pass up. More than 80 percent of Veridian's shareholders voted for the sale. The deal, which closed last August, was valued at $1.5 billion.
As they grow and the market changes, today's consolidators said they realize they could face a similar decision.
"In three or four years? Some of us will be private, some of us will be public, and some of us will be acquired," Stottlemyer said. *
Senior Editor Nick Wakeman can be reached at email@example.com.
Start with a capture plan. Proceed just as you would if you were pursuing a major contract or a new customer.
Get your leadership and your board to agree on the size, customer profile, characteristics and profitability of the companies you'll pursue.
Expand your board of directors. Consider adding more outside board members who have keen strategic sense, M&A experience and knowledge of the market. Keep your board informed.
Involve your business unit and line managers. They know the other companies that customers respect, and they can see smaller firms that may fly under your radar.
Visit your banker. You need to understand the boundaries of deal size and structure before you approach prospective acquisitions.
Get the right lawyers. If your law firm doesn't have M&A experience, retain a firm that does.
Appoint one person to spearhead M&A efforts.
Consider external M&A support. An outside specialist can augment your resources, conduct research, winnow candidates, advise on value and structure and support negotiations.
Source: Paul Serotkin, Minuteman Ventures LLC