Contractors face mixed signals as 2017 comes to a close

Calendar year 2017 is ending with President Donald Trump’s signature on the almost $700 billion defense authorization bill for fiscal 2018 that includes the so-called MGT Act -- a two-year, $500 million central IT modernization fund for agencies.

But it is also ending with another continuing resolution that funds the government to give industry mixed signals going into the next calendar year. And lawmakers still have to adjust spending caps on defense and nondefense agencies.

So what can contractors look forward to as this year turns into next? For one, there “seems to be a consensus that (Defense Department) spending needs to be increased,” Deltek federal market analyst Deniece Peterson said in the firm’s year-end webinar Tuesday.

The Trump administration has also strongly signaled it wants cuts to civilian agency budgets as an offset to its sought-after defense spending increases. Peterson said it remains to be seen how much of those cuts will help pay for the increases to fulfill the White House’s policy priorities.

As the caps currently stand, fiscal 2018 spending limits come out to $549 billion for defense and $516 for civilian, according to the webinar slides. Those caps then rise to $685 billion for defense and $645 billion for civilian through fiscal 2027.

The consensus on defense spending evidently extends to IT modernization as agencies have long wanted funds to upgrade and further secure their legacy systems. Under the MGT Act, agencies have a revolving working capital fund that can apply savings from other projects to future ones.

At the same time, this and other aspects on the administration’s increased emphasis on IT modernization and security pressures agency leaders to be more proactive in helping manage cyber risks.

For contractors, Peterson said they will see increased pressure to “design solutions with security in mind, so security by design is the end game here.” Also expect more contract solicitations to have additional language related to cybersecurity, she added.

Then there is the push by Republican lawmakers to enact the large tax reform package pushed by the Trump administration that would dramatically lower the corporate rate from the high 30-percent range to the low 20-percent range.

Several media reports on Wednesday indicated that House and Senate GOP negotiators have reached an agreement on the final bill.

Government IT and professional services contractors would be among the main beneficiaries of a corporate rate cut, according to analysts at investment bank Drexel Hamilton. A Dec. 4 note to investors indicates that a vast majority of the largest publicly-traded firms in the government space pay an average 37.5 percent tax rate.

That could mean contractors could allocate more resources to research-and-development, hiring, bid-and-proposal and solution development. And some executive leaders have already indicated they plan to do such.

Speaking at the Nov. 29 Credit Suisse Industrials Conference, Booz Allen Hamilton Chief Financial Officer Lloyd Howell said government IT and services firms would be “making a series of choices (in) how to best utilize that windfall.”

Booz Allen will likely be “going back to our historical behavior” of using that added resources toward sourcing and recruitment of more staffers, Howell said. But that windfall could also be allocated to its bottom line, he added.

At that same conference, Leidos CFO James Reagan indicated his company could also put some of that added gain from a tax reduction into R&D, as well as business development and enhanced cash flow. That cash flow could create “more latitude (and) more nimbleness to pursue growth initiatives that are inorganic,” Reagan added