Aerospace & Defense Update
On Thursday, Deputy Secretary of Defense Patrick Shanahan told reporters that the Pentagon expects the GFY2019 budget request to be delivered to Congress on schedule, but the budget request will likely not contain an anticipated large-scale military buildup. While there will be a defense spending increase in the 2019 budget request, the GFY2020 budget is the one expected to contain a major increase for defense spending. With the release of the National Defense Strategy, Ballistic Missile Defense Review, and Nuclear Posture Review scheduled for 2018, there simply will not be enough time to incorporate the strategic decisions into the GFY2019 budget, per Shanahan.
The Pentagon is set to overhaul its acquisition structure in February by dividing the role of Undersecretary of Defense for Acquisition, Technology, and Logistics (“AT&L”) into two independent roles of Undersecretary of Defense for Research and Engineering (“USDR&E”) and Undersecretary of Defense for Acquisition and Sustainment (“USDA&S”). The rationale for devolving the AT&L role is to better focus the efforts of each role to ensure that the DoD will be able to better drive innovation and increase warfighter readiness. The USDR&E will help increase modernization efforts within the DoD. The USDA&S role will help ensure that the U.S. does not lose ground in its advanced warfighting capability relative to other nations. The current undersecretary of the AT&L, Ellen Lord, will become the new USDA&S.
Government Technology Solutions
The GOP tax bill, set to take effect starting January 1st, 2018, will have a meaningful impact on federal contractors, especially large, publicly traded government IT and professional service firms. The most important change for federal contractors is the reduction in the corporate tax rate from 35% to 21%. Nearly all government services companies with annual revenue above $1 billion pay the highest tax rates at 37.5% as most of their revenue comes from sales to U.S. federal agencies. Comparatively, most large defense primes derive substantial portions of their revenue from overseas operations, bringing down their effective tax rates. For example, Lockheed Martin had an effective tax rate of 23.2% last year and General Dynamics reported 27.6%. While the cash savings may fall directly to the bottom line, companies will have the opportunity to explore more investments, including mergers and acquisitions, given their new financial flexibility.
Several protesters have brought law suits to court in hopes to win a spot on the General Service Administration’s (“GSA”) $50 billion Alliant 2 IT product and services contract. Five protests were filed with the Government Accountability Office (“GAO”) in late November after the GSA awarded 61 positions on the vehicle. The GAO subsequently dismissed all outstanding protests against Alliant 2 on December 20th. Centech and OBXTek have taken their objections to the U.S. Court of Federal Claims, filing their lawsuits on December 26th and November 29th, respectively. OBXTek and Centech have different objections but their cases will be decided together. The GSA is scheduled to make its filing for the case by January 19th, 2018.
Vectrus, Inc. (down 5.1%) – Share prices were down this week after analysts reported the company is expected to miss sales estimates for the current fiscal quarter.
Bombardier (up 2.0%) – Share prices were up this week as the company received an order worth over $300 million from the French state railway.