Defense contractors report pressure on services businesses

July 28, 2013

Weakened sales in some of the largest contractors’ information technology units suggest that services businesses, many of which are preparing to release results this week, could face a tougher road.

Bethesda-based Lockheed Martin and Falls Church-based Northrop Grumman both saw sales and profits drop in their information technology services units, despite posting gains in profit overall.

At Northrop, profits in the IT unit dropped 30 percent; at Lockheed, sales and profits were down about 7 percent in the information systems and global solutions business.

“You look at where the strength was in these big guys — it’s their platform business. Aerospace, electronics — that’s where the real revenue strength has been,” said William Loomis, managing director at financial services firm Stifel Nicolaus.

The declines in IT services could represent the forward edge of slowdown in federal spending, which tends to hit so-called “shorter cycle” businesses first. It’s far simpler to trim a contract for IT support than for a ship that is booked years in advance.

Longer-cycle contracting “normally provides you with some visibility on where the customer intends to go in the future,” said James F. Palmer, Nor­throp’s chief financial officer, in a call with analysts. “You have a longer period of time to react to what may occur.”

The experiences of the nation’s largest contractors could be a harbinger for others. Services contractors, including Fairfax-based ManTech International, Fairfax-based ICF International, Reston-based NCI and Dynamics Research Corp., which has an office in Arlington, are set to release results this week.

“I don’t think we’re going to hear much of a change in tone in the second quarter versus what we heard in the first quarter” from these companies, Loomis said. “As these pressures build [in the fall and winter], I think it’s a different story then.”

Lockheed’s IT unit recently won two major programs, which it said helped to offset reduced sales elsewhere and the completion of certain programs.

At Northrop’s IT business, the company said part of the 9 percent sales decline was related to an inter-company effort to reshape its portfolio, but also reported seeing lower funding levels.

Wes Bush, Northrop’s chief executive, said in a call with investors that the contractor, like many others, is seeing much of its IT services work come in the form of contract vehicles.

These programs mean “the customer has a lot of flexibility to throttle up or throttle down,” he said. “Given the budget uncertainties, we’re seeing more throttle down than throttle up in that space right now.”

Falls Church-based General Dynamics, which includes some products such as radios in its IT business, saw a slight improvement in sales, but profit dropped about 12 percent.

The company devalued its IT business by $2 billion earlier this year, and said last week that the unit continues cutting costs.

“We’re more than holding our own in a tough environment,” said Phebe Novakovic, the company’s chief executive.

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