Market Watch: Top 10's common thread ? tech services

Jerry Grossman

2005 was another record year for government services mergers and acquisitions, with 100 transactions closed. These reflect the breadth and depth of the market and the fundamental rationale that drives M&A activity. A panel of industry advisers, convened by Washington Technology, sifted through the deals and chose the top 10 transactions of 2005.

The emergence of federal IT and defense services as a target for buyers is evident from the 2005 activity. Strategic buyers and investors see that services, software and systems integration will be in great demand. Most large and midsize companies believe services is a strategic imperative.

For General Dynamics Corp., Lockheed Martin Corp. and Northrop Grumman Corp., acquisitions in the services and software sectors have dominated their purchases since 2001.

M&A activity responds to several factors, including procurement policy, technology evolution, security threats and defense budgets. The top 10 reflects many traits of the government services environment.

The aggregate value of the top 10 deals was nearly $5 billion with a median transaction of $200 million, at least five times the median for all government services transactions.

The largest of the Top 10 deals was L-3 Communications Inc.'s purchase of Titan Corp., worth $2.6 billion. For L-3, Titan adds more than $2 billion in services revenue, reflective of the criticality of services businesses to product companies in the sector.

Veritas Capital Fund LLC's purchase from Computer Sciences Corp. of the non-IT elements of DynCorp underlines private equity investors' interest in the government and defense services market. This $880 million deal recovered for CSC a major piece of its original purchase price for DynCorp, while divesting a non-core component of its portfolio.

Other transactions with private equity involvement include QinetiQ Ltd.'s purchase of Apogen Technologies Inc. and the acquisition of Seta Corp. by Apptis Inc. Carlyle Group has a large equity stake in QinetiQ, while Arlington Capital Partners LP offered the equity to create Apogen. As QinetiQ is U.K.-based, this reflects the continuing cross-border component of M&A activity.

Big investment in Apptis by New Mountain Capital LLC adds another private equity investor to the industry. The purchase of Seta adds high-end services and technology capabilities to a large product reselling business.

Serco Group plc, a U.K. company, found a U.S. platform in RCI Holdings Corp., a diversified government services business owned by CM Equity Partners LP. The purchase of PEC Solutions Inc. by Nortel Networks Corp. exemplifies the aggressive pursuit of federal IT companies by non-U.S. buyers, particularly those with roots in communications products.

Science Applications International Corp. strengthened its homeland security capabilities by buying Geo-Centers Inc., one of the larger transactions in this sector. Employee-owned Alion Science and Technology Corp. finished its largest deal with the purchase of John J. McMullen Associates Inc., a marine engineering company.

SRA International Inc. bought Galaxy Scientific Corp., continuing to diversify its capabilities and customer base. Indus Corp., a federal IT company, added to its organic growth with two purchases: a network division of Halifax Corp. and IT services provider Aaron B. Floyd Enterprises Inc.

The geography, size, product and service mix, ownership structure and customer base of these deals reflect a broad, solid foundation for more activity in the federal IT sector.

Jerry Grossman is managing director at Houlihan Lokey Howard & Zukin, McLean, Va. He can be reached at jgrossman@hlhz.com.

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