Jose J. Yglesias carries his brewing cup of tea into the empty boardroom at Syscon Corp.'s principal offices in Georgetown and settles at the head of a long table. He appears to be sitting comfortably as the founder, chairman and chief executive officer of Syscon, a defense contractor with annual revenue that exceeded $100 million for the first time in fiscal 1984.
But he's restless. He pulls at his salt-and-pepper goatee. He squeezes the tea bag until the liquid turns mud brown.
Syscon, a Washington-based systems engineering and computer firm, long has been considered a low-key company. For almost two decades, it has depended almost entirely on the Pentagon for its contracts, primarily for computer systems. Now it is taking a few wobbly steps into the commercial realm. And that has made its very competitive chairman very nervous.
As a defense contractor, Syscon is on a roll. The company just completed its 18th consecutive year of escalating sales and earnings.
But Yglesias says that he is starting to feel the heat of the General Dynamics fiasco.
General Dynamics, the nation's third-largest defense firm with $6 billion in defense contracts last year, is under investigation by a handful of federal agencies for various alleged improprieties. And nearly half of the nation's top 100 defense contractors are facing criminal investigation for suspected charges ranging from bribery to bid-rigging.
Those charges of wrongdoing have triggered much soul-searching -- and other types of close examination -- on Capitol Hill. Reforms in annual defense authorization and appropriation bills mean that the fat times of the past may be over for the defense industry.
"I had a very interesting question asked me recently," Yglesias says slowly. "Would I, in today's environment, establish or start a new company in the defense business? And I would have to say: Not today."
Syscon's defense business -- 200 government contracts that support 1,150 professionals in 34 offices throughout 16 states -- appears to insulate it well against the current congressional storm. But to protect itself further, it is taking shelter under an umbrella of "civilian" clients; its customer list has grown to include utility firms and companies such as Procter & Gamble, Pharmasol Corp., Miles Pharmaceuticals, Chesebrough-Pond's Inc. and Avon Products Inc.
Syscon knew when to seize the opportunity. It parlayed the technology gleaned from a U.S. Navy contract awarded 10 years ago for the development of a hand-held data-entry device into the VersaTerm, a lightweight microprocessor that seems destined to force utility-meter readers, and all the forms they carry, into obscurity. VersaTerm is now used by many utility companies, including the Washington Sanitary Suburban Commission, for meter reading and automatic billing of customers.
Syscon also has developed a microprocessor-based weighing and recording system that checks the weight of products before they're packaged, and commercial software products for use with Digital, Prime, IBM and Hewlett-Packard computers. These and other products have put almost 5 percent of the company's sales into the nondefense arena.
But Yglesias says that Syscon's first steps into the free marketplace have been shaky, and the going still is tentative. He adds that the financial rewards so far have not been great.
"The principal difference that we've found in the commercial world is that you have to have something that works. Very few of them will buy just an idea. To the government you can sell ideas. For the commercial world, you really have to have a workable, demonstrating unit." The Defense Dilemma
It's a dilemma that other companies spawned by the Pentagon are facing. Many middle-sized defense contractors -- such as Flow General Inc. of McLean and VSE Corp. in Alexandria -- are looking to the commercial world as a place to invest the talent, capital and technology that they've accumulated during the Reagan bonanza years. Not only might the open market insulate them against the inevitable down cycle of defense spending and a possible backlash if they're named in any congressional investigation, it could provide them with an opportunity for seemingly limitless growth.
But the commercial world requires a huge investment of time and resources, and offers no guarantee of success, analysts say.
One skeptic who has observed this trend of defense contractors stepping into the private realm is analyst Thomas T. Taylor of the Baltimore brokerage, Offutt & Taylor Inc.
"My own view is that all the companies that grew up as DOD contractors have tremendous difficulties being effective in the commercial/industrial world," he says.
It's a two-edged sword, Taylor says, because diversification into commercial products "may be the only strategy that is available to them.
"The commercial world offers leverage opportunities that they would all like to get into. Why not? These defense contractors employ some of the great minds." But, he adds: "I look toward those efforts with a jaundiced eye."
Diversification for these defense contractors is "prudent," counters Leon Taub, vice president of Chase Econometrics, an economic consulting and forecasting subsidiary to Chase Manhattan Bank. Taub is strongly advising Fortune 500 companies against entering the defense industry right now, telling them that Congress is very serious about cutbacks.
"Wall Street has never been comfortable about Congress paying for the future of an industry," says Wolfgang Demisch, vice president of First Boston Bank in Manhattan. There is evidence that "Wall Street is even less confident than usual right now."
Joseph F. Campbell, an aerospace analyst with Paine Webber in Washington, mentions Cerberonics Inc., a Bailey's Crossroads company specializing in defense engineering services, as an example of what can go wrong. He said that the company was struck hard last December when it didn't receive an expected follow-up to a key Navy contract to manage spare parts for the C9 aircraft. The firm also lost a contract to provide support to the TC4C aircraft. The two cancellations cost Cerberonics more than 60 percent of its business.
"There are great perils to being in the defense business," Campbell says. "Cerberonics was a business that grew rapidly on basically one contract."
Campbell believes that defense contractors more broadly based than Cerberonics also might face difficulties.
"These companies are going to find that the talents they have are good only for defense," he says. "Chasing quality without regard to cost is all right for the Pentagon. But that's a prescription for disaster in the commercial world."
Demisch cites many "painful examples" of military firms attempting to make the transition into civilian work, such as when New York-based Grumman Aerospace Corp. produced a line of buses that turned out to have design flaws.
"Boeing's shift from military to commercial production of aircraft in the 1950s is as good an example as you can find" of a company successfully diversifying into commercial work, Demisch says.
Taylor does credit Syscon, unlike some defense firms, for moving cautiously into the private sector. The company hasn't sunk a lot of money into commercial ventures, he says, nor have diversification efforts been a drain on top management. "But has it had an appreciable impact on their earnings? No," Taylor says. "They got their feet wet."
The company reported a $4.1 million profit last year, a 16 percent rise over 1983 earnings. Commercial products accounted for less than 10 percent of those earnings.
But John Metzger, an aide to Sen. Mark Andrews (R-N.D.), a member of the Congressional Military Reform Caucus, scoffs at theories that legislative reforms and intense scrutiny are pushing some defense firms into other areas. "There's so much money available to them. These companies are bursting at the belts. That's why they can go into the commercial world," he says. Tackling a 'Fickle' Market
One reason that Syscon made its first public stock offering in October 1981, according to Yglesias, was to raise capital to expand into other areas besides defense. Part of the $12 million raised through two public offerings, in 1981 and again in July 1983, was used to finance inventory for the new products and to develop Syscon's commercial business.
Yglesias sums up Syscon's commercial endeavors so far as "somewhat successful." One hard lesson he's learned: No product -- no matter how good -- is worth very much without salespeople or a way to present it to the marketplace.
More frustrating to Yglesias than setting up a viable sales network -- which he believes Syscon has done -- is what he calls "fickle market conditions."
He explains: "You might have the money people who want to do the project, but they still might not deliver because they're waiting for external factors to turn up or change. They'll put a halt on the project. Then for some reason unknown to us, our customers call up and say: 'Now we need to talk.' "
According to forms on file with the Securities and Exchange Commission, Syscon spent slightly more than half a million dollars for commercial product research and development during each of the last three years. Yglesias says the return has been minimal, and concedes that a company couldn't consider this type of investment unless it was on firm financial footing.
He says that he's noticed a lot of his competitors try to enter the free-enterprise sector and then stop. "The business community not only wants to see something that works, they want an evaluation on its return," he adds. "This is all very different than dealing with the government. The government is a budgetary process; it's not a profit process. The commercial world is . . . all economic. The Pentagon can't be. There's no dollars to be returned for a battleship. But sometimes you'll be damned glad that you have one."
Speaking of battleships, Yglesias reminds a visitor that 80 percent of Syscon's defense work is still for the U.S. Navy. The company's showpiece is NAVTAG (Naval Tactical Game Training System), a portable video game that simulates war. "Want to play?" Yglesias asks.
While Yglesias is setting up the war game, the Syscon empire is carrying out its real-world defense operations. There is a $28.5 million contract to support the Navy Personnel Command through 1995. A California division just won a $4 million contract to provide engineering support to McClellan Air Force Base in Sacramento. Syscon also will be providing support in the operation and maintenance of land-based facilities at the Trident site in Middletown, R.I.
The company continues to compete directly for medium-sized defense projects as the prime contractor, and is teaming up with major aerospace companies for large multiyear procurements. In fact, a company spokesperson said that Syscon intends to join one of the major defense companies, possibly Martin Marietta Corp., in going after the big bucks offered by the president's Strategic Defense Initiative program, also known as "Star Wars."
Yglesias is absorbed in the NAVTAG game. He enters codes and waits for signals. "I see two missiles coming. They're unknown. Coming from 334 toward me. They're 10 miles away," he says before he fires.
Yglesias is embarrassed, humiliated, when he realizes that he's sunk the unsinkable U.S. battleship New Jersey. According to the computer analysis, the damage to his own ship is tremendous: 76 casualties, and the massive warship spends 228 days in the shipyard.
But for the highly competitive Yglesias -- the same manager determined to make his company successful in the commercial arena despite the odds -- the game isn't over. He pushes buttons and contemplates codes well into late afternoon. At last he relaxes and points to the terminal, where one tiny speck has disappeared from the screen. The Russian battleship Nanuchta III is destroyed.