Post-9/11 Mergers Brought Problems

Interrogation services provided by Premier Technology Group propelled its purchaser, Arlington-based CACI International, into the public spotlight. (Joe Skipper -- Reuters)

Even large defense contractors, who have more expertise, sometimes stumbled, because they failed to understand that the small, niche companies they were buying might not be as attentive to federal rules and regulations, said John W. Douglass, president and chief executive of the Aerospace Industries Association in Arlington. Small companies often "have to learn by getting their fingers burned," he said.

Wall Street contributed to the intense merger pressure, said Jerry Grossman, a managing director with Houlihan Lokey. As the commercial economy faltered, many investors began shifting cash to the government contracting sector. That gave companies fresh cash but also more intense demands for stellar growth rates.

Investors wanted publicly traded government contractors to post 10 to 20 percent annual growth rates, Grossman said. But the federal market grows about 3 percent a year, he said. To satisfy Wall Street, companies raced to purchase companies that could get them quickly into intelligence and anti-terrorism work, where growth rates and profit margins seemed more promising.

That pressure may have induced some to take shortcuts in investigating the companies they wanted to acquire, according to some experts. "There could have been some steps that would have been taken in a slower environment that might have been done quickly or overlooked," Grossman said.

ManTech, which was founded in 1968, for years did engineering and information technology work for the government. During the past few years, the company set out to increase its work in the intelligence sector.

In March 2003 it bought MSM, a 100-person firm focused solely on conducting background investigations, for $4.9 million. ManTech and MSM already had joined forces to win a contract for Defense Department background investigations that was expected to be worth $50 million over three years. Just a week earlier, ManTech had purchased for about $57.7 million Integrated Data Systems, a Chantilly company that also had clients in the intelligence world.

At first the MSM venture appeared to be rewarding. The Pentagon asked ManTech to increase the number of investigations it was completing from 35 to 425 per day, and the contract was on track to be worth more than $37 million in the first year alone. ManTech tripled the unit's staff, moved it into a new 40,000-square-foot facility and created a training program for the new employees it was rapidly trying to hire.

But turmoil erupted when the Defense Department agreed to transfer its security clearance caseload to the Office of Personnel Management (OPM). The Pentagon stopped giving ManTech new cases to investigate, and OPM delayed for three months the new contract ManTech had counted on winning in March. Its profit margins under the existing contract turned out to be much smaller than expected because the remaining Defense Department investigations entailed more arduous, time-consuming work than expected.

Last week the company told shareholders problems with the division caused it to lose $5.2 million (16 cents a share) during the three months ended June 30, compared with a profit of $8.9 million (28 cents) in the same period of the previous year.

ManTech executives say they had carefully vetted MSM, including research on the company's financial standing and the stability of the industry. Chief executive George J. Pedersen said the company's problems were caused by policy shifts he never could have foreseen.