How tech investments spur M&A activity across the federal market

Today’s evolving global security environment is headlined by crises like Russia’s invasion of Ukraine, the war between Israel and Hamas and the pacing threat posed by China that are all reshaping geopolitics.

The U.S. is responding by increasingly pouring resources into defense technology.

The focus on advanced technologies and next-generation capabilities persists, with the merger-and-acquisition landscape increasingly favoring providers with greater exposure to the defense sector as geopolitical tensions drive increases in defense budgets.

Recent Deals Highlight the Appetite of Companies Expanding Technology Capabilities

Companies across the defense and government technology sectors are using add-ons to expand their capabilities to help drive long-term growth and further diversify revenue streams. Several recent acquisitions support this trend.

Honeywell is positioning itself to capture more aerospace market share through its agreement to acquire CAES Systems from private equity firm Advent International for approximately $1.9 billion.

The acquisition will enhance Honeywell’s defense technology solutions across its current portfolio in land, sea, air, and space. Ultimately, the combined company will upgrade Honeywell’s position on critical platforms from an advanced technology standpoint.

Earlier in June, Tyto Athene expanded its presence across the federal market’s civilian segment by acquiring the MindPoint Group, a provider of cybersecurity services to government organizations.

DZYNE Technologies, a leading developer and manufacturer of autonomous technologies, is increasing its portfolio of high-tech counter-autonomous system capabilities by combining with High Point Aerotechnologies.

How AI’s Role Will Revolutionize Military & Space Operations

The Defense Department approaches new technologies like artificial intelligence cautiously. But DOD has still seen the power of AI, particularly in combat situations, give them a strategic advantage, so I think they will begin pursuing investment in AI more aggressively.

In its fiscal year 2024 budget, the DOD requested $1.8 billion for AI/ML but didn’t provide specifics. Numerous DOD programs do include the use of embedded AI, such as Marine Corps Communications Systems, Advanced Battle Management Systems and Technology Maturation Initiatives.

Doing more with less is something that the DOD is absolutely looking at right now. Manpower is tight, so to the extent that you can have technology such as AI being the lion's share of the work, you’re less dependent on manpower. Additionally, it removes the potential risk of putting someone in harm’s way.

A good case example is the U.S. military’s recent announcement to award an estimated $3 billion multi-year contract for commercial data and analytics services to monitor potential threats across the Indo-Pacific region, a focal point of global geopolitics and a priority for the DOD.

Private equity-owned businesses in the space are looking to continue making acquisitions and from a technology standpoint, for a couple of reasons. One is to continue scaling, the second is to fill the void in their solutions portfolio, and the third is to follow the money like everybody else.

The Top Segments Likely to Drive Growth in the Global Space Sector

Space capabilities are considered vital for national security, with more and more funding going toward maintaining space dominance in an era of increasing competition and sophisticated threats. Systems provide critical functions such as intelligence gathering, surveillance, reconnaissance, communication, and missile warning.

Among some of the emerging space technologies receiving significant investments are small satellites, CubeSats, reusable launch vehicles, and satellite constellations.

Companies operating in this arena could unlock growth by focusing on a number of key areas that have the potential for disruptive growth. Those include robotics in space, additive manufacturing, in-space manufacturing (using the unique environment of outer space for industrial production), space data-as-a-service and national security space.

How Technology Investment is Impacting M&A

The large industrial industry players are looking to come up the value chain because they’re following the budgets, the money, and the path where they see growth, so they are looking to acquire capabilities, IP, and solution set via acquisition.

Federal agencies are embracing big data cloud solutions, big data, network modernization, and mobility/5G.

In late July, CGI Federal acquired Aeyon, a provider of data management, analytics and intelligent automation technologies for the U.S. federal government. That acquisition expanded CGI’s footprint with national security clients such as the Office of Secretary of Defense, multiple branches of the U.S. military, the Federal Aviation Administration, and NASA.

The government services sector remains highly fragmented, with private equity and specialized contractors like CGI Federal leading the consolidation and seeking acquisitions that tap into high-growth markets and advanced technological capabilities. 

Secular tailwinds are supporting M&A activity as investors look to capitalize on technology innovation underpinned by intellectual property as global threats continue to escalate.

M&A activity stabilized in 2023, supported by a 24% year-over-year uptick in the fourth quarter with both defense and government services registering strong deal volume. This momentum has continued into 2024 evidenced by a 33% year-over-year increase in transaction volume in the first quarter of 2024.

The growing focus on emerging technologies will likely influence future deal activity with a leaning toward smaller transactions which can be accelerated through acquisitions by larger, more dominant players.

Mid-size enterprise value transactions will be the focus for corporations and financial investors against a backdrop of geopolitical challenges, supply chain headwinds and competition for talent.  

Looking ahead towards later in the year and at the beginning of 2025, we don’t see a slowdown in M&A like we’ve seen in previous election years. Continued supply chain issues and global conflicts will continue to create tailwinds for the defense sector.

William (Bill) Farmer is a managing director at Brown Gibbons Lang & Company and leads the firm’s investment banking activities within the aerospace, defense and government services sector.