Uncertainty stalks defense and IT services sectors

Investors are feeling more upbeat after seeing indications that the economy might be stabilizing, or at least that the pace of the decline might be slowing. The broader stock market began to rally in March as a result of this shift, with financial services stocks showing particular strength. Since federal information technology and professional services firms generally do not benefit directly from an improving economy, investors tend to be less enthusiastic about owning government services when the economy is improving and seek more cyclical investments.

As a result, the S&P 500 is down 8 percent so far this year, while federal IT and professional services stocks are down 11 percent, under-performing the broader market after two years of out-performance.

The federal services stocks also have been hurt by uncertainty around President Barack Obama’s executive orders issued earlier this year, a potential strengthening of union representation among contractors, and potential insourcing trends. Defense Secretary Robert Gates’ plan to move 30,000 contractor positions to government positions could be the first significant step toward less outsourcing. At this point, however, Obama’s focus appears to be on acquisition-related positions and not areas such as IT services. Although the government seems to be stepping up its hiring in the acquisition area, a broader move to insource various areas would likely prove difficult as the government would be competing even more with the private sector for top talent.

Despite those uncertainties, the outlook for federal IT and professional services companies is good during the next couple of years given the contract opportunities generated by the strong budget increases in fiscal 2009 and 2010, based on Obama’s fiscal 2010 request, coupled with spending on stimulus-related programs. Areas of particular growth in IT and program support include cybersecurity; intelligence, surveillance and reconnaissance; and logistics and modernization efforts. Other opportunities will involve civilian-agency programs designed to address the administration’s policy initiatives in areas such as energy, environmental protection, health care and government transparency.

Contract award activity was relatively light in the first quarter for publicly traded federal IT and professional services companies. I expect awards to pick up through fiscal 2009 and be particularly strong in the September quarter.

Although none of the midtier federal IT services firms has reported first quarter results at press time, I estimate that internal revenue growth — growth without the impact of recent acquisitions — for the group was about 7 percent in the first quarter, down from 9 percent in the fourth quarter and 16 percent a year ago as some companies compare against large wins in 2007 — such as ManTech International Corp., NCI Information Systems Inc. and Stanley Inc. — or lost a large contract last year, as did SRA International Inc. I do estimate that revenue growth will improve for the companies through the year as the improving contract awards convert into revenues. As earnings and revenue growth improve and contract awards pick up in the second half of the year, we will probably see a pickup in investor interest in the group even in an improving economy. With the federal IT services firms trading at 14 times our 2009 earnings estimates, the group’s valuation is now where it was in the mid-to-late 1990s, a multiple similar to our expected earnings growth in the group.

Reader Comments

Please post your comments here. Comments are moderated, so they may not appear immediately after submitting. We will not post comments that we consider abusive or off-topic.

Please type the letters/numbers you see above

What is your e-mail address?

My e-mail address is:

Do you have a password?

Forgot your password? Click here
close
SEARCH
contracts DB

Trending

  • Dive into our Contract Award database

    In an exclusive for WT Insider members, we are collecting all of the contract awards we cover into a database that you can sort by contractor, agency, value and other parameters. You can also download it into a spreadsheet. Read More

  • Is SBA MIA on contractor fraud? Nick Wakeman

    Editor Nick Wakeman explores the puzzle of why SBA has been so silent on the latest contractor fraud scandal when it has been so quick to act in other cases. Read More

Webcasts

  • How Do You Support the Project Lifecycle?

    How do best-in-class project-based companies create and actively mature successful organizations? They find the right mix of people, processes and tools that enable them to effectively manage the project lifecycle. REGISTER for this webinar to hear how properly managing the cycle of capture, bid, accounting, execution, IPM and analysis will allow you to better manage your programs to stay on scope, schedule and budget. Learn More!

  • Sequestration, LPTA and the Top 100

    Join Washington Technology’s Editor-in-Chief Nick Wakeman as he analyzes the annual Top 100 list and reveals critical insights into how market trends have impacted its composition. You'll learn what movements of individual companies means and how the market overall is being impacted by the current budget environment, how the Top 100 rankings reflect the major trends in the market today and how the biggest companies in the market are adapting to today’s competitive environment. Learn More!