The State of M

1
The State of MA in the Federal Market
October 15, 2004Presented by Paul
Serotkin2004 Government Contractors
ConferenceMaryland Association of Certified
Public Accountants, inc.
2
Today..

• MA Environment - Federal
• MA as Strategic Tool
• Creating ValueDeal PricingDeal
  StructureBuyer/Seller Mistakes

3
Minuteman Ventures LLC

• Investment Bank focused entirely on Federal and
  Defense services, solutions and technology market
• Immersed in small-to-mid tier federal MA market
  every day
• Team consists on former owners, CEOs, senior
  executives in small-to-mid tier federal sector
• Investment Banking for Entrepreneurial
  Companies

4

• MA Environment Federal Services

5
Why an Active MA Market in Federal/Defense
Services

• Sector Rotation Defense in vogue today, a
  result of post 9/11 world
• Public Federal IT companies have approximately
  20bn in capital for MA
• Industry awash in capital -2bn raised from IPO
  and debt offerings since 2002 internal cash flow
  very strong
• Private company MA multiples at close to
  historic highs
• Federal government outsourcing - aging of the
  workforce, technology changes, and the need to
  use military personnel for active engagements.
• Substantial outsourced amounts going to under
  100m firms
• Companies valued on 20-25 top-line growth, but
  government outsourcing growth under 10
• Mid-tier buyers able to compete with larger firms
  on price, MA integration, benefits, culture
  mid-tier suing MA to fend off contract bundling,
  set aside programs
• Well-positioned firms (intel, security, C4ISR,
  biodefense, network-centric warfare) yield MA
  premium
• Uncertainty in market GWAC restructuring, small
  business recertification, performance-based
  contracts, Base closure
• Private equity helps to lubricate MA market

6
Seller Transaction Profile Defense/Federal IT

• Mostly smaller companies 8 of 10 with revenue
  under 50m

lt20m
50m 100m
100m 250m
20m - 50m
250m - 500m
500m
7
Buyer Transaction Profile Defense/Federal IT
(By Acquirer Size)

• Major SIs very active
• Smaller companies selectively transacting deals
• Mid-sized buyers using MA to add strategic
  pieces

50m-100m
100m-250m
lt 50m
500m
250m-500m
8
Large Corporate Buyers Tier 1
9
Mid-Tier Buyers Tier 2
10
Mid-Tier Buyers Tier 3
11
Mid-Tier Buyers Tier 4
12

• MA as Strategic Tool

13
Mid-Tier Federal/Defense Services Buyers Two
Tiers

• Profile 150-500m firms
• Publicly traded, several having completed IPO in
  last two years
• Federal Government is largest if only customer
• Valued by capital markets on basis of top line
  20-25 growth
• See path to become 1bn companies
• Typically have primary MA role on staff
• Cash flow strong, considerable debt capacity,
  prospect of secondary offering

14
Mid-Tier Federal/Defense Services Buyers Two
Tiers

• Profile 50-150m firms
• Privately held
• Federal Government is largest if only customer
• Experienced organic growth and may have
  successfully integrated previous acquisitions
• Some backed by private equity
• Serial entrepreneurs reinvesting Lau, Paravant,
  BTG
• PEG interest growing, new players emerging
  e.g., Arlington Capital, Paladin Capital
• See path to become 200m-1bn companies
• Are growing or want to grow faster than
  government technology market
• Deploying outside advisor to support MA
  initiative
• Internal part-time use of senior executive for
  MA

15
Who the Mid-Tier is Acquiring the
Federal/Defense Services Universe

• Closely held, few shareholders, with perhaps an
  ESOP
• Geographically strong in two, possibly three
  locations
• Mainly serving two, perhaps three customers at
  the services branch level, with diversified
  contract base within that customer set
• Broad services System engineering/integration,
  training/ simulation, network services, legacy
  migration, DB maintenance, logistics, modeling,
  application development, PM/acquisition support,
  base ops, facilities management
• Usually at least five years old, many times 15
  years duration
• Founder often involved, at least in ownership, if
  not operations
• May have some SBSA/8a work remaining, or weaning
  themselves from these programs
• Little, if any, outside ownership, or equity
  investment from third parties
• Under 100m in revenue, often under 50m

16
Acquisitions by Federal Mid-Tier Buyers Increasing
of deals by mid-tier buyers
Jan-July 03 (49 deals)
Jan-July 04 (39 deals)
17
How Mid-tier Acquirers Compete in MA with Tier 1
Primes

• High cultural appeal of the Mid-tier
• Entrepreneurship
• Ready access to the acquirer CEO, senior execs
• Acquirer CEO likely to have experienced many
  growth company situations
• Seller owners, employees retain sense of
  criticality in acquiring company
• Benefits can be just as strong as Tier 1
• Lenders educated on government MA, very
  comfortable with mid-tier
• Cost of debt capital still low
• Not as needed to finance internal growth, bankers
  eager to finance MA
• Mid-tier companies gain immediate cleared
  employees, market share, customer
  penetration/extension, key technical/managerial
  personnel
• As Tier 1 firms grow, less likely to find
  smaller, truly strategic MA fits, leaving more
  opportunity for the mid-tier
• Private equity gravitates to mid-tier firms as a
  platform in the federal sector
• Strong case for buy v. make

18
Representative Mid-Tier Buyers
19

• Creating and Defining Value
• Deal Pricing
• Deal Structure
• Buyer/Seller Mistakes

20
MA Valuation Size/Specialty Matters
21
The Value Table 10 Leading Factors in
Determining Defense Company Value

• Contract Alignment with the Mission de Jour
• Cleared Employees
• Recaptured Business
• Prime Contract Awards
• Small Business Set Aside (SBSA) Awards

• Weak Alignment - 1Strong Alignment - 10
• 0-20 Employees Cleared - 120-60 Cleared 60
  or Over Cleared - 10
• 0-20 Recompete Revenue - 120-50 Recompete 50
  or Over Recompete - 10
• 0-20 Prime Contract Revenue - 120-70
  Prime 70 or Over Prime - 10
• 70-100 SBSA Revenue - 130-70 SBSA 30 or
  Under SBSA - 10

22
The Value Table 10 Leading Factors in
Determining Defense Company Value (contd)

• 1-3 years - 14-6 years 7-10 years - 10
• 60 revenue from 1 contract - 125-60 less
  than 25 - 10
• 50-100 rev. from 8(a) - 115-50 from 8(a) Less
  than 15 from 8(a) - 10
• Lightly regarded management - 1Highly regarded
  management - 10
• 0-7 compounded ann rev. growth - 18-15
  growth 15 growth - 10

• Time in Business
• Contract Concentration
• 8a Revenue
• Competent Management
• Sustained Revenue Growth

23
Common Deal Feature Earn-Outs

• Single-event Based
• Contract award or renewal (including migration to
  FO)
• Successful claim, litigation, or collection
• Performance Based
• Most frequently used metrics include revenues,
  gross profits, and net profits
• Occasional factors include employee retention
  rates, contract awards, and backlog
• Agreement Provision Implications
• Maintain entity as separate subsidiary or
  division
• Limits and control over overhead and parent
  charges

24
Common Mistakes for Acquirers

• Paying too much
• Going after deals that are too big
• Lack of correct priorities and balance in the
  process
• Typical Process
• 20 searching, 20 due diligence, 50
  negotiations, 10 integration
• Recommended Process
• 10 searching, 30 due diligence, 20
  negotiations, 40 integration
• (Courtesy Michael Solley, President, NCI
  Information Systems)

25
Common Mistakes by Sellers

• Owners believe their company is better than all
  the others and expect a better-than-market value
• Sellers think they deserve public company
  valuations without preparing the company to meet
  the same standards
• Sellers are not exactly sure what they want to do
• Seeking advice too late and then getting in a
  hurry
• Management has cut investments to increase EBIT,
  but still argues that their growth rates are
  going to increase

26
Recap

• Federal/Defense MA Market remains robust for
  under 100m defense companies
• Buyers come from all size firms Mid-tier firms
  stepping up
• Market factors favor consolidation continuing for
  some period

27
Contact Data

• Paul Serotkin
• President
• Minuteman Ventures LLC
• 781 750 8065
• 703 894 1270
• 781 254 7267 mobile
• paulserotkin_at_minutemanventures.com
• www.minutemanventures.com