Q4 2016 Government Contractor Market Update

The ongoing need for portfolio-enhancing acquisitions continues to drive M&A deal flow in the government contracting arena well into the second half of 2016.

As we saw in 2015 and early 2016, companies with strong capabilities in the service areas of cybersecurity, big data, health IT, and cloud computing remain in high demand with the federal government. As a result, buyers are still willing to pay premium valuations for companies offering differentiated solutions in these specialized industry niches.

Other reasons for higher deal activity and valuations include the increasing demand for access to unrestricted prime contract vehicles and new end customers given the overall trend toward contract consolidation and the preponderance of restricted contracts for small businesses. Industry players who hold large, full and open contracts in key agencies offer their acquirers access to new customer bases with the assurance that their existing contracts and associated revenues will reliably continue post acquisition. As the government continues to consolidate new contract awards and increase funding for restricted work, buyers will be more willing to pay higher valuations for strategic targets with the right customer and unrestricted contract mixes.

Even though M&A deal flow remains positive for now, government contractors still face a tight federal funding climate creating a highly competitive LPTA award environment due to the government’s increasing reliance on large IDIQ contracts. This combined with concerns about the 2016 presidential election and Federal Reserve activity regarding interest rates, will continue to pressure profit margins in the industry.

Despite these challenges, SC&H Capital anticipates that the appetite for deals will remain strong through the remainder of 2016. We will continue to see high valuations and healthy buyer appetites for targets with tenure on key contracts and deep customer relationships.

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