Market Share: CACI finds good match with AMS defense unit

Bill Loomis

Industry and investors sat up and took notice of CGI Group Inc.'s proposed purchase of American Management Systems Inc. and the sale of AMS' defense and intelligence group to CACI International Inc.

The sale was no surprise. AMS has been struggling for several years, even under its new chief executive officer

However, after looking like a takeover candidate for some time, a transaction may finally occur at an attractive price to shareholders. CACI announced it would acquire the defense and intelligence federal business unit in conjunction with CGI's acquisition of the rest of AMS.

CACI will pay $415 million in cash for the unit after CGI's purchase closes, which is expected in May.

The defense and intelligence unit is a good match with CACI. The unit's revenue mix last year was 43 percent with the Navy, 15 percent with the Army and Air Force, 21 percent with other defense agencies and 21 percent with intelligence agencies.

Following the purchase, CACI will have 71 percent of its overall revenue from defense clients, 23 percent from civilian agencies, 4 percent from commercial business and 2 percent from state and local clients.

The AMS defense unit generated $250 million in revenue in 2003, and CACI expects it to generate revenue of $275 million to $285 million in fiscal 2005, which seems reasonable given industry growth rates. The valuation and accretion calculations can vary widely depending on the assumptions used.

CACI indicated it will receive a tax benefit with a $60 million present value based on how it structured this deal. This tax benefit will generate about $7 million to $9 million in deferred taxes annually for 15 years.

CACI also indicated that it expects the EBITDA margin of this unit to be 15 percent to 17 percent in fiscal 2005 vs. our EBITDA estimate of 10.1 percent and the current group average of 10.8 percent. EBITDA is earnings before interest, taxes, depreciation and amortization.

CACI's EBITDA estimate seems high to me, given the industry -- and CACI's -- margins, the size of this unit and AMS' low overall margins.

However, CACI seems confident in its ability to meet these margin goals through synergies.

Using CACI's guidance, the valuation appears attractive at 7.9 times fiscal 2005 EBITDA, net of tax benefit, and 9.2 times, excluding tax benefit.

Most acquisitions of companies with several hundred million dollars in revenue are valued at 10 times run-rate EBITDA, or more

Using an industry average 11 percent EBITDA margin, the deal seems expensive at 13.5 times, excluding tax benefit, or 11.5 times with the benefit. The real valuation probably lies somewhere in between.

With this acquisition, CACI is expected to have a revenue run rate of $1.4 billion, well above the $140 million in revenue the company had when I started to follow it in the early 1990s.

While many other federal IT firms have gone public and then been bought out -- and in BDM's case, gone public twice and then bought out twice -- CACI has been a stable, consistent grower since Jack London assumed leadership in 1990. The company's new goal of $2 billion in revenue certainly looks achievable.

Bill Loomis is a managing director of the Technology Research Group at Legg Mason Wood Walker Inc. He can be reached at wrloomis@leggmason.com. Opinions expressed are subject to change without notice and do not take into account the particular investment objectives, financial situation or needs of individual investors. For additional information and current disclosures for the companies discussed herein, please write to: Legg Mason Wood Walker, Inc., 100 Light St., P.O. Box 1476, Baltimore, MD 21203, Attn: Research Department.

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