New Is It Time To Play Offense or Defense with Defense Stocks?9-16-06).pdf · 2015. 2. 5. · Is It Time To Play Offense or Defense with Defense Stocks? American Association of Individual

Is It Time To Play Offense or

Defense with Defense Stocks? American Association of

Individual Investors (DC Chapter)

Los Angeles San Francisco Chicago New York Washington D.C. Minneapolis Dallas Atlanta London

Kevin P. DeSanto, Vice President Houlihan Lokey Investment Banking Services Aerospace •Defense • Government Group 1800 Tysons Blvd., 3rd Floor McLean, Virginia 22102 703.847.5225 Paris Frankfurt

September 16, 2006

Houlihan Lokey 2

AAII Washington DC Metro Chapter

Table of Contents

Introduct ion ............................................................ 1

Budget Perspect ives ................................................ 2

Industry Perspect ives.............................................. 3

M arket D ynamics

Aerospace ........................................................... 4

D efense .............................................................. 5

Government ....................................................... 6

H omeland Security ........................................... 7

Summary................................................................. 8

Houlihan Lokey 3


Disclaimer

Houlihan Lokey Howard & Zukin and Houlihan Lokey are trade names for Houlihan, Lokey, Howard & Zukin, Inc. and its subsidiaries and affiliates which include: Houlihan Lokey Howard & Zukin Financial Advisors, Inc., a California corporation, a

registered investment advisor, which provides investment advisory, fairness opinion, solvency opinion, valuation opinion, restructuring advisory and portfolio management services; Houlihan Lokey Howard & Zukin Capital, Inc., a California

corporation, a registered broker-dealer and SIPC member firm, which provides investment banking, private placement, merger, acquisition and divestiture services; and Houlihan Lokey Howard & Zukin (Europe) Limited, a company incorporated in England

which is authorized and regulated by the U.K. Financial Services Authority, which provides investment banking, restructuring advisory, merger, acquisition and divestiture services, valuation opinion and private placement services.

Houlihan Lokey gathers its data from sources it considers reliable; however, it does not guarantee the accuracy or completeness of the information provided within this publication. The material presented reflects information known to the

authors at the time this presentation was written, and this information is subject to change. Houlihan Lokey makes no warranties, expressed or implied, regarding the accuracy of this material. The views expressed in this material accurately reflect the personal views of the author regarding the subject securities and issuers. Officers, directors and partners in the

Houlihan Lokey group of companies may have positions in the securities of the companies discussed. This presentation does not constitute a recommendation with respect to the securities of any company discussed herein, is not intended to provide

information upon which to base an investment decision, and should not be construed as such. Houlihan Lokey or its affiliates may from time to time provide investment banking or related services to these companies. Like all Houlihan Lokey employees,

the author of this presentation receives compensation that is affected by overall firm profitability.

Any public companies included in the Houlihan Lokey indices are companies commonly used for industry information to show performance within a sector. They do not include all public companies that could be categorized within the sector and were not

created as benchmarks; they do not imply benchmarking and do not constitute recommendations for a particular security and/or sector. The charts and graphs used in this report have been compiled by Houlihan Lokey solely for purposes of

illustration.

This presentation mentions a number of companies; however, none of these companies is the subject of this presentation. The companies mentioned include Houlihan Lokey financial restructuring and other financial advisory clients, as

well as companies involved in transactions where Houlihan Lokey has provided these services to other participants in the transactions.

This material may not be reproduced in any format by any means or redistributed without the prior written consent of Houlihan Lokey.

Introduction

Houlihan Lokey 5


Houlihan Lokey Overview

Premier Middle Market Investment Bank

# 1 Advisor on Middle Market M&A Transactions

# 1 Provider of Fairness Opinions

# 1 Financial Restructuring Practice

700+ people, in 11 offices worldwide, allow Houlihan Lokey to provide

clients in-depth global exposure and end-to-end advisory solutions

Senior officers in the US and Europe have strong Wall Street credentials and

serve more than 1,000 clients annually, ranging from closely-held companies

to Fortune 500 Corporations

Partnered with ORIX Corporation (NYSE: IX, TSE: 8591), a leading

integrated financial services group headquartered in Tokyo

Introduction

Houlihan Lokey 6


Background of Kevin P. DeSanto

Mr. DeSanto is a Vice President in the Aerospace•Defense•Government (“ADG”) investment banking group in the Washington, DC office of Houlihan Lokey. His responsibilities include overall engagement management and execution for corporate finance assignments, primarily mergers and acquisitions. In addition, Mr. DeSanto coordinates the ADG Group’s defense and government services industry coverage efforts and has been quoted in publications including Washington Technology, Government Corporate News and Fortune Magazine.

Regarding mergers and acquisitions experience, Mr. DeSanto provides clients both sell-side and buy-side transaction support. Select clients have included bd Systems, L-3 Communications, Development Alternatives, Manufacturing Technology, Impact Innovations Group, OAO Technology Solutions, Eagan, McAllister & Associates, Quality Research and Radian. In addition, he participates in a variety of financial advisory engagements including transaction fairness, solvency analysis and recapitalization strategies.

Mr. DeSanto earned a B.S. in business administration with a concentration in finance from Georgetown University’s McDonough School of Business. He is licensed with the NASD as a General Securities Representative (Series 7, 63).

Kevin P. DeSanto

Vice President

[email protected]

T: (703) 714 – 1710

F: (703) 760 – 4864

1800 Tysons Boulevard, Suite 300

McLean, Virginia 22102

Introduction

Houlihan Lokey 7


Discussion Summary

Develop Framework for Analyzing the Publicly-traded Defense Companies

Perspectives on Key Trends in the DoD Budget

Overview of Critical Industry and Company-specific Factors

Assess Current Pricing on a Relative Basis

Identify the Multiple Avenues Available to Invest in “Defense”

Answer Your Questions (When I Know the Answer)

Introduction

Houlihan Lokey 8


Defense Industry Pyramid

$30 Billion

$1 Billion

$300 Million

Primes & major subs

Few remaining

mid-tier Suppliers

Military technology

industrial base remains

fragmented among

thousands of small

suppliersDiversification

Pure-Play Niche

Diversification

of customers and

technology more

common in >$50

million companies

$30 Billion

$1 Billion

$300 Million

Primes & major subs

Few remaining

mid-tier Suppliers

Military technology

industrial base remains

fragmented among

thousands of small

suppliersDiversification

Diversification

Pure-Play Niche

Diversification

of customers and

technology more

common in >$50

million companies

$200 Million

Introduction

Houlihan Lokey 9


How to Play in Defense

Aerospace

Homeland Security

Defense

Opportunities to Benefit From Diversified Business

Models in a Recovering Market that has

Meaningful Defense Exposure?

A Bevy of Options for Capitalizing on Key DoD

Themes and Strategies – Where Will the $ Flow?

Where is the Value - Smaller Pure-plays,

Traditional Defense/Government Contractors or

Diversified Industrials?

Government Services Companies Supporting High Priority

Initiatives Within the DoD – How Low Can They

Go?

Introduction

Houlihan Lokey 10


Other Ways to Play in Defense

State and Local (e.g., Maximus, Affiliated Computer Services, Tyler Technologies)

Engineering & Construction (e.g., Jacobs Engineering, Fluor, Tetra Tech, URS)

Diversified IT (e.g., CSC, EDS, Perot, Unisys, Wireless Facilities)

Foreign (e.g., VT Group, Serco Group)

SPACs (e.g, Good Harbor, Federal Services Acquisition Corp.)

Introduction

Houlihan Lokey 11


ADG

Why Investors Play in Defense

$500 Billion Market

(Revenue and EV)

Strong Investment Returns

Revenue & Margin Visibility

Leverageable Assets

Identifiable Long-Term

Growth Drivers

Supports National Priorities

$70 Billion Unused Debt Capacity

Liquid Private Market

(1,500 transactions since 2000)

Introduction

Houlihan Lokey 12


Signs of the Times

Industry Trends

M&A Markets

Public Markets

Companies Remain Enthusiastic About Growth

Opportunities…But Investors are Becoming More Cautious

Support of IPOs, Secondaries and Acquisition

Strategies…But Investors are Becoming More Cautious

Broadened Buyer Universe, Stable Activity and

Pricing…But Increased Regulatory Scrutiny

Financing Widely Available Sources of Capital at All Levels

of the Capital Structure…At Increased Cost

Introduction

Budget Perspectives

Houlihan Lokey 14


Overall DoD Budget “Temperature”

On-going Federal Budget Deficits

Slower Baseline Budget Growth

Administration – Democrat vs. Republican

DoD vs. Civilian vs. Homeland Security

“War Tax”

QDR/BRAC

Investment Accounts vs. O&M Spending

Budget Perspectives

Houlihan Lokey 15


DoD Budget Relative to Federal Deficit

8% CAGR 6% CAGR

Budget Perspectives

DoD Spending and Federal Budget Scenario

-$225

-$175

-$125

-$75

-$25

$25

$75

$125

1998 1999 2000 2001 2002 2003 2004 2005P 2006P 2007P 2008P 2009P

($ in

bill

ions

)

(5.0% )

(4.0% )

(3.0% )

(2.0% )

(1.0% )

0.0%

1.0%

2.0%

3.0%

Surplus (D

eficit) as a % of G

DP

Procurement RDT&E Surplus (Deficit) as a % of GDP

Houlihan Lokey 16


Healthy Defense Budget

“Better than expected…”

President’s Nearly $440 Billion FY2007 Defense Budget Request was Approximately 5% Greater Than FY2006

Investment Accounts (Total Procurement and RDT&E) Expected to Grow at 4.6% CAGR from FY2007 to FY2011

Mismatch Between Outlays and Actual Expected Costs of Conflicts Raise Concerns About Viability of Major Programs (e.g., JSF, F-22)

Supplemental Budgets Unlikely to Continue

Budget Perspectives

Houlihan Lokey 17


Projected Declines in Overall DoD Budget Budget Perspectives

$0

$100 ,000

$200 ,000

$300 ,000

$400 ,000

$500 ,000

$600 ,000

2004 2005 2006E 2007E 2008E 2009E 2010E 2011E

$M

M

0 .0%

0.5%

1.0%

1.5%

2.0%

2.5%

3.0%

3.5%

4.0%

4.5%

SupplementalDoD Spending less Supplemental% of GDPSource: DoD

Houlihan Lokey 18


FY2007 Appropriations Breakdown Budget Perspectives

FY 2007 Budget by Service

Defense W ide

16%

USMC

4%

Army

25%

Navy

25%

USAF

30%

FY 2007 Appropriations Breakdown

Other

4%

RDT& E

17%

O& M

35%

Military

Personnel

25%

Procurement

19%

Source: DoD

Houlihan Lokey 19


Congressional Impact on Procurement

$0

$10 ,000

$20 ,000

$30 ,000

$40 ,000

$50 ,000

$60 ,000

$70 ,000

$80 ,000

$90 ,000

1996 1997 1998 1999 2000 2001 2002 2003 2004 2005

$M

M

-1 .0%

1.0%

3.0%

5.0%

7.0%

9.0%

11.0%

13.0%

15.0%

Presiden t ial Request Actual Net ChangeSource: DoD

Budget Perspectives

Houlihan Lokey 20


QDR Perspectives

QDR Linked to FY2007 Defense Budget Request as They Were Submitted to Congress Simultaneously

Evolutionary QDR Focus Areas

Defending the Homeland

Defeating Terrorist Extremism

Helping Shape the Choices of Countries at Strategic Crossroads

Countering Weapons of Mass Destruction (“WMD”)

Budget Perspectives

Houlihan Lokey 21


QDR Perspectives (Cont.)

Transformational Communications Architecture Enhances Land-based Network and Satellite Communication and High-bandwidth, Survivable Internet protocol

Long-term Programs Maintained – FCS, F-22 and JSF

Doubling of UAV Capacity and Development of New Long Range Bomber by FY2018

Investment in Joint Mobility, Intelligence, Surveillance and Reconnaissance

Increase in Special Operations Forces

Acquisition Reform

Budget Perspectives

Houlihan Lokey 22


QDR Perspectives (Cont.)

Accelerate Army’s Movement to Modular/Deployable Units and Headquarters

Orienting Joint Air Capabilities – Larger Payloads, Longer Range and Penetration of Denied Areas

Build Joint Maritime Forces for “Closer-to-Conflict” Support

“Knowledge-Based Forces” Partially Shifts Traditional Focus on Guns/Ships/Planes to C4ISR Systems

Development of Tools for Assessing, Analyzing and Delivering Information

Commitment to Spend for “Long War”

Budget Perspectives

Houlihan Lokey 23


2005 BRAC Impact

Washington

Oregon

Ca lifornia

Idaho

Montana

Nevada

Utah

Arizona

Colorado

Wyom ing

New Mexic o

Texas

Oklahom a

Kansas

Nebraska

South Dakota

North DakotaMinnesota

Wisc onsin

Illinois

Missouri

Arkansas

Louisiana

Missis-

sipp iAlabama

North Carolina

Virginia

Mic higanNew York

Pennsylvania

Dela ware

New Ham pshire Ma ine

Tennessee

Kentuc ky

West

Virginia

Iowa

South

Carolina

New Jersey

Georgia

Florida

Ind iana

Ohio

Maryland

Connec tic ut

Massa -

c husetts

Rhode

Island

Verm ont

Washington, DC

Huntsville

Ellsworth

Fort Meade

Fort Bliss

Fort Belvoir

San Diego

Fort Carson

New London

Eglin

Jacksonville

Fort Benning

Fort Riley

New Orleans

Little Rock

Portsmouth

Aberdeen

Moline

Great Lakes

Indianapolis

San Antonio

Dayton

Fort Knox

2005 BRAC Losers 2005 BRAC Winners

Budget Perspectives

Houlihan Lokey 24


2005 BRAC Impact (Cont.)

$1.3 Billion in Expected Savings Over Next 20 Years

Creates Many Opportunities, Mostly IT and Communications Related

Secure Systems Transition

Uninterrupted IT Infrastructure

Network Storage

Business Process Re-Engineering

Business System Modernization

Commitment to Outsource Non-core DoD Functions

Budget Perspectives

Houlihan Lokey 25


Program Funding Issues/Cost Estimates

Program Cost Growth More Serious Issue as Budgets Slow

GAO

30% of FY2006 RDT&E Budget Spent on “Rework”

Planned Future Investments in New Weapons Systems up 100% ($700 Billion to $1.4 Trillion) Despite Flawed Process

Future Combat Systems (Boeing/SAIC)

$82.7 Billion < $127.2 Billion (54% Excess)

Joint Strike Fighter (Lockheed Martin)

$62 Million/Plane < $82 Million/Plane (33% Excess)

Another Comanche?

Budget Perspectives

Houlihan Lokey 26


Impact of News Events on Defense Stocks

BRAC

2005

July 7, 2005

London

Attacks

February 2006

Budget

Report

August 2006

London

Terror Plot

Mid-Term

Elections

QDR

2005

Hurricane

Katrina

2004

Presidential

Election

(1) Change in stock price one week after each announcement or event

Sto

ck P

rice C

ha

ng

e

Expected Impact vs. Actual Change(1)

4.8%

= Actual change = Expected change

-1.0%

3.5%

?

0.6% 0.5%

-1.0%-2.8%

Budget Perspectives

Industry Perspectives

Houlihan Lokey 28


Major Themes That Impact Public Markets

Financial Performance

Achieving Growth and Earnings Targets

Budget Chatter - Perception vs. Reality

Large Cap vs. Small Cap

Receptivity to IPOs, Secondary Offerings and SPACs

Sector Rotation

Shareholders vs. Customers

M&A – Buy vs. Divestiture

Share Buybacks

Contract Awards

Credit Markets


Houlihan Lokey 29


Company Attributes That Drive Value

Long-Term Customer Relationships Deep Technical Expertise

Priority Market Involvement

Defensible Budget Access

Prime Contract Positions

Market Share Gains

Employee Base/Security Clearances

Performance Track Record

Management Team

Controlled Balance Sheet

Meet or Beat Estimates

No Historical Mishaps

Business / Capability Focus

Business / Qualitative

Financial / Quantitative

Proprietary Technology

Backlog and Long-term Contracts Contract Types/Profitability


Houlihan Lokey 30


Company-Specific Strategy Focus

Customer Priorities

Congressional Sentiments

Technology Acceleration

DoD Transformation

Growing Importance of Software and Services

Priority Markets

C4ISR

Homeland Security

Intelligence

Training and Simulation

Networking and Communications

Obsolescence Management

Big-ticket Programs


Houlihan Lokey 31


Customer Demand Continuing To Grow

Outsourcing

Global War on Terrorism

Supplemental Budgets

Transformation

Technology Upgrades

Homeland Security

Aging Infrastructure (People and Technology)


Houlihan Lokey 32


Changing Nature of Customer Relationships

GWACs, Schedules and Enterprise MACs

Contract Bundling

Sole-Source vs. Competitive

Set-Aside Programs

Contract Terms

Arcane Infrastructure

Expedited Process?

Prime vs. Sub vs. Teaming vs. JV

Earmarks/Plus-Ups


Houlihan Lokey 33


Competition Increasing

Highly Fragmented Industry

Larger Contracts = Do or Die

Knowledge Transfer

Partner or Competitor?

New Entrants

“Katrina Effect”

B&P Costs

Security Clearances


Houlihan Lokey 34


Consolidation and Divestitures

Active M&A Market

Portfolio Management

Energizes Growth

Deployment of Capital

Differentiation and Diversification

Commercial?

New Market Entrants

Accretion/Dilution


Houlihan Lokey 35


Cash Flow

Strong, Predictable Margins

Margin Expansion Opportunities

Limited Capital Expenditures

Real Backlog/Bookings vs. Opportunities

Earnings Visibility

Clean Balance Sheets

Availability/Cost of Capital for Financing


Houlihan Lokey 36


Factors That Could Reshape Market

Changes in Security Threats and Priorities

Old/On-going - Iraq/Afghanistan

New - Iran/China

Changes in Congress/Administration

End of Supplemental Spending

More Non-Defense Discretionary Spending

Healthcare and Retirement Costs

Talent Pool

Tax Payer Revolt

Excitement in Broader Markets


Market Dynamics

Aerospace

Houlihan Lokey 38


Capabilities of Companies

Aircraft Replacement Parts

Antennas

Avionics & Surveillance

Electronics and Power Systems

Life Support Systems

Lighting Products

Modeling, Simulation and Training

Motors, Actuators, Switches and Cables

Process, Analytical and Test Instruments

Sensors

Aerospace

Houlihan Lokey 39


Pricing at Highest Levels in Past 10 Years

Investors are Optimistic About Commercial Aerospace

Orders are Leading Indicator for Valuations

2005 Saw a Very Strong Spike in Aircraft Orders That Will Provide the Backlog for Strong Future Deliveries

2005 Expected to be Peak in Order Cycle, but Strong Backlog Exists

Rise in Valuations Typically Precedes a Recovery

Valuations are Typically Highest in the Early Phases of a Market Recovery

Many “Aerospace” Companies Have Meaningful Portions of Business Derived From the Defense and Government Markets

Aerospace

Houlihan Lokey 40


Aerospace Public Company Pricing – EV/Revenue

0.00x

0.20x

0.40x

0.60x

0.80x

1.00x

1.20x

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006*

Aerospace

Average = 1.06x

*LT M as of S eptember 1 3 , 2 0 0 6

S ources: FactS et, H oulihan Lokey

`

x

Houlihan Lokey 41


Aerospace Public Company Pricing – EV/EBITDA

0.0x

2.0x

4.0x

6.0x

8.0x

10.0x

12.0x

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006*

Aerospace

Average = 8.6x



`

x

Houlihan Lokey 42


Comparative Aerospace Subsector Public Multiples Aerospace

Comparative Aerospace Subsector

Public Company Multiples

12.0 x12.7 x

14.5 x

13.4 x

16.2 x

9.6 x10.1 x 9.9 x 10.1 x

13.2 x

0.0 x

2.0 x

4.0 x

6.0 x

8.0 x

10.0 x

12.0 x

14.0 x

16.0 x

18.0 x

Aerostructures AirframeManufacturers

Aviation & AirportServices

Aviation Controls Space

LTM Median EBIT Multiple LTM Median EBITDA Multiple

Houlihan Lokey 43


Current Performance Metrics

Revenue Growth LTM EBITDA

($mm)

EV/

EBITDA(1)

Net Cash (Debt)

($mm) LFY NFY

AMETEK Inc. 16.4% 12.1% $320.9 11.6x ($647.3)

CAE Inc. 12.3% 8.8% $184.7 12.2x ($198.3)

Cobham plc 16.6% 9.7% $370.5 11.1x ($176.7)

Ducommun Inc. 11.0% 19.8% $27.7 8.0x ($39.6)

Esterline Technologies Corp. 36.1% 15.6% $125.0 9.1x ($251.4)

Goodrich Corp. 14.8% 8.5% $846.9 7.6x ($1,543.6)

HEICO Corp. 25.0% 41.6% $72.1 12.9x ($53.7)

Moog Inc. 12.0% 22.7% $183.4 9.7x ($352.1)

Rockwell Collins Inc. 17.6% 12.6% $772.0 12.1x ($120.1)

Teledyne Technologies Inc 18.7% 14.9% $139.6 10.1x ($37.0)

Median 16.5% 15.2% $184.0 10.6x ($187.5)

(1) EV calculated as of September 13, 2006

Aerospace

Houlihan Lokey 44


Aerospace vs. S&P 500

Aerospace

Aerospace Pricing Index

2001 - September 2006

0

50

100

150

200

250

300

Jan-01

Apr-01

Jul-01

Oct-01

Jan-02

Apr-02

Jul-02

Oct-02

Jan-03

Apr-03

Jul-03

Oct-03

Jan-04

Apr-04

Jul-04

Oct-04

Jan-05

Apr-05

Jul-05

Oct-05

Jan-06

Apr-06

Jul-06

Ind

ex V

alu

e

Aerospace Sector Aerospace with Defense Exposure S&P 500

Source: Factset

Pricing as of 9/13/2006

Houlihan Lokey 45


Recent Pricing Changes

Stock Price Change

CY2004 CY2005 1Q2006 2Q2006

YTD (1)

AMETEK Inc. 47.8% 19.3% 5.7% 5.4% 3.3%

CAE Inc. (13.8%) 68.7% 7.7% (7.4%) 8.9%

Cobham plc 5.9% 37.0% 10.9% (11.2%) 5.6%

Ducommun Inc. (6.7%) 2.4% 3.9% (16.6%) (16.9%)

Esterline Technologies Corp. 22.4% 13.9% 15.0% (2.7%) (6.7%)

Goodrich Corp. 9.9% 25.9% 6.1% (7.6%) (4.3%)

HEICO Corp. 36.5% 14.6% 22.4% (10.5%) 24.4%

Moog Inc. 37.7% (6.1%) 25.1% (3.6%) 19.9%

Rockwell Collins Inc. 31.3% 17.8% 21.3% (0.9%) 15.9%

Teledyne Technologies Inc. 56.1% (1.1%) 22.3% (8.0%) 37.7%

Median 26.9% 16.2% 12.9% (7.5%) 7.3%

(1) YTD Pricing as of Stock Price Closes September 13, 2006

Aerospace

Houlihan Lokey 46


Subsectors Defined Aerospace

Aerostructures Airframe Manufacturers Aviation Controls

Aviation &

Airport Services Space

Alcoa Boeing Co. Aerosonic Corp. AAR Corp. Boeing

Astronics Bombardier Inc. Ametek BBA Group Gilat

Avcorp Industries Inc. Dassault Aviation CAE Inc. Fairchild Corp. Integral Systems Inc.

CPI Aerostructures Inc. EADS Cobham Heico Corp. Lockheed Martin

Ducommun Inc. Embraer-Empresa Bras Crane Co. Menzies Loral Space &

Communications

GKN plc Finmeccanica Spa Curtiss-Wright Corp. Northstar Aerospace Macdonald Dettwiler &

Associates

Heroux-Devtek Inc. Kaman Corp. Esterline Technologies Penauille Polyserv Orbital Sciences Corp

Hexcel Corp. Textron Inc. Garmin Senior Spacehab Inc

K&F Industries United Technologies Corp. Goodrich Corp. Triumph Group Inc.

Ladish Co. Inc. Heico Corp. Umeco

Latecoere Honeywell International Inc. Vector Aerospace Corp.

LMI Aerospace Inc. Innovative Solutions & Supp.

Inc.

Magellan Aerospace L-3 Communications

Northstar Aerospace Inc.

Precision Castparts Corp.

Reinhold Industries

Senior plc

Market Dynamics

Defense

Houlihan Lokey 48



Combat Systems Development, Production and Support

Electronic Warfare Systems

Information Systems & Technology

Manned and Unmanned Airborne Systems

Marine Systems

Missile Defense

Ordnance and Tactical Systems

Radar and Air Defense Systems

Satellite and Space Systems

Technical Services

Defense

Houlihan Lokey 49


Valuations Steady Recently

Valuations Remain Above 10-year Averages

Growth From On-going “Operations” and Subsequent “Replenishment”

Big-ticket Programs Have Stabilized From a Budget Stand-point, Although Not Out of the Weeds Yet

Budget Pressures Have Been Offset by Strong Recent Earnings

Highest Valuations in Subsectors – C4ISR, Force Protection

“Primes” are Consistent

Defense

Houlihan Lokey 50


Public Company Pricing – EV/Revenue Defense

0.00x

0.20x

0.40x

0.60x

0.80x

1.00x

1.20x

1.40x

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006*

Defen se



Average = 1 .18x

`

x

Houlihan Lokey 51


Public Company Pricing – EV/EBITDA Defense

0.0x

2.0x

4.0x

6.0x

8.0x

10.0x

12.0x

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006*

Defen se



Average = 9.3x

`

x

Houlihan Lokey 52


Comparative Defense Subsector Public Multiples Defense

Comparative Defense Subsector


12.8 x

11.9 x 11.9 x 11.8 x

13.1 x

10.5 x10.1 x 10.1 x

10.4 x 10.4 x

0.0 x

2.0 x

4.0 x

6.0 x

8.0 x

10.0 x

12.0 x

14.0 x

Communications Land Vehicles Propulsion Missiles & Ordnance Sensors


Houlihan Lokey 53




($mm)

EV/

EBITDA(1)

Net Cash (Debt)

($mm) LFY NFY

Alliant Techsystems Inc. 14.8% 7.0% $424.9 9.5x ($1,192.6)

BAE Systems plc 25.0% 24.9% $2,092.7 12.3x ($1,984.0)

General Dynamics Corp. 11.1% 15.2% $2,838.0 10.6x ($2,250.0)

L-3 Communications 36.9% 29.4% $1,346.4 10.4x ($4,518.0)

Lockheed Martin Corp. 4.7% 6.4% $3,838.0 9.4x ($1,831.0)

Northrop Grumman Corp. 2.9% (0.6%) $3,007.0 9.2x ($3,884.0)

Raytheon Co. 8.1% 6.6% $2,325.0 10.5x ($3,111.0)

Median 11.1% 7.0% $2,325.0 10.4x ($2,250.0)


Defense

Houlihan Lokey 54


Defense vs. S&P 500 Defense

Defense Pricing Index


0

50

100

150

200

250

300

350

1/12/2001

4/12/2001

7/12/2001

10/12/2001

1/12/2002

4/12/2002

7/12/2002

10/12/2002

1/12/2003

4/12/2003

7/12/2003

10/12/2003

1/12/2004

4/12/2004

7/12/2004

10/12/2004

1/12/2005

4/12/2005

7/12/2005

10/12/2005

1/12/2006

4/12/2006

7/12/2006

Ind

ex V

alu

e

Defense Sector S&P 500

Source: Factset


Houlihan Lokey 55



Stock Price Change

CY2004 CY2005 1Q2006 2Q2006

YTD (1)

Alliant Techsystems Inc. 13.2% 16.5% 1.3% (1.1%) 7.4%

BAE Systems plc 37.2% 65.6% 10.2% (12.1%) 0.3%

General Dynamics Corp. 15.7% 9.0% 12.2% 2.3% 21.3%

L-3 Communications Holdings Inc. 42.6% 1.5% 15.4% (12.1%) 2.1%

Lockheed Martin Corp. 8.1% 14.5% 18.1% (4.5%) 29.2%

Northrop Grumman Corp. 13.7% 10.6% 13.6% (6.2%) 12.9%

Raytheon Co. 29.3% 3.4% 14.2% (2.8%) 17.6%

Median 15.7% 10.6% 13.6% (4.5%) 12.9%


Defense

Houlihan Lokey 56


Subsectors Defined Defense

Land Vehicles Propulsion Missiles & Ordnance Sensors Communications

Armor Holdings Alliant Techsystems Inc. Alliant Techsystems Inc. Argon ST Inc. Aeroflex Inc.

BAE Systems Gencorp Inc. Boeing Axsys Technologies Inc. Ametek

General Dynamics General Electric Co. Chemring Group BAE Systems Anaren Inc.

Oshkosh Truck Corp. Honeywell International Inc. EADS Boeing BAE Systems

Singapore Technologies Rolls Royce General Dynamics DRS Technologies Inc. Boeing Co.

United Technologies Corp. Textron L-3 Communications EDO Corp. Cubic Corp.

United Technologies Lockheed Martin Elbit Systems DRS Technologies Inc.

Raytheon Flir Systems Inc. EDO Corp.

ITT Industries Filtronic

L-3 Communications Finmeccanica Spa

Northrop Grumman Frequency Electronics Inc.

Raytheon General Dynamics

Thales Harris Corp.

Ultra Electronics

United Industrial Corp.

Market Dynamics

Government

Houlihan Lokey 58



Acquisition and Logistics Support

Information Assurance and Security

Information Technology Services

Knowledge Management

Outsourced Support Services

Systems/Software Engineering and Integration

Technical Services

Training Systems and Services

Government

Houlihan Lokey 59


Multiples are Contracting

Valuations in the Government Services Segment are Slightly Below 10-year Averages

2001 – 2005 Pricing Driven by Organic Growth Expectations

2006 is a Different Story as Market Reacts to Slower Realization of Growth

Limited Universe of Public Companies, Especially Large Cap Companies

Government

Houlihan Lokey 60


Historical Price Earnings Growth

0.70

1.20

1.10

1.201.30

0.70

1.10

0.40

0.70

1.00

1.30

1.60

2000 2001 2002 2003 2004 2005 2006

PEG Ratio

Forward P/E vs Projected EPS Growth

OPTIMISM GAP

CONFIDENCE GAP

As of September 13, 2006

Source: FACTSET, Houlihan Lokey

*

Government

?

x

Houlihan Lokey 61


Public Company Pricing – EV/Revenue Government

0.00x

0.20x

0.40x

0.60x

0.80x

1.00x

1.20x

1.40x

1.60x

1.80x

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

*

EV

/Revenue

Average = 1 .0 9 x

* YT D as of S eptember 1 3 , 2 0 0 6 .

S ources: FactS et, H oulihan Lokeyx

Houlihan Lokey 62


Public Company Pricing – EV/EBITDA Government

0.0x

2.0x

4.0x

6.0x

8.0x

10.0x

12.0x

14.0x

16.0x

18.0x

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

*

EV

/EB

ITD

A

* YT D as of S eptember 1 3 , 2 0 0 6


Average = 1 1 .3 x

x

Houlihan Lokey 63


Comparative Government Subsector Public Multiples Government

Comparative Government Services Subsector


11.5 x

15.2 x

13.0 x

9.9 x 9.8 x 9.9 x

0.0 x

2.0 x

4.0 x

6.0 x

8.0 x

10.0 x

12.0 x

14.0 x

16.0 x

Federal IT Diversified IT Technical Services


Houlihan Lokey 64




($mm) EV/ EBITDA(1)

Net Cash (Debt)

($mm) LFY NFY

Analex Corp. 49.5% 7.9% $13.1 7.1x ($25.9)

CACI International Inc. 8.1% 10.3% $194.3 10.0x ($343.2)

Dynamics Research Corp. 9.0% (11.5%) $22.0 5.2x ($23.1)

DynCorp International Inc. 2.4% 19.4% $168.2 7.6x ($616.6)

ManTech International Corp. 18.5% 18.5% $101.8 10.7x ($24.4)

MTC Technologies Inc. 36.7% 17.3% $46.6 9.1x ($85.4)

NCI Inc. 11.7% 5.4% $14.1 9.4x $17.0

QinetiQ Group plc 22.9% 13.8% $200.7 21.3x ($257.6)

SI International Inc. 51.7% 19.1% $43.1 10.9x ($82.7)

SRA International Inc. 33.7% 10.7% $128.3 12.0x $173.6

VSE Corp. 29.7% NA $11.8 5.8x $5.1

Median 22.9% 12.2% $46.6 9.4x ($25.9)


Government

Houlihan Lokey 65


Public Company Composite Stock Performance Government

Government Services Price

Index 2001 - September 2006

0

100

200

300

400

500

600

700

800

1/12/2001

4/12/2001

7/12/2001

10/12/2001

1/12/2002

4/12/2002

7/12/2002

10/12/2002

1/12/2003

4/12/2003

7/12/2003

10/12/2003

1/12/2004

4/12/2004

7/12/2004

10/12/2004

1/12/2005

4/12/2005

7/12/2005

10/12/2005

1/12/2006

4/12/2006

7/12/2006

Ind

ex V

alu

e

Government Services S&P 500

Source: Factset


Houlihan Lokey 66



Stock Price Change

CY2004 CY2005 1Q2006 2Q2006 YTD(1)

Analex Corp. 20.5% (33.9%) (6.5%) (11.8%) (24.4%)

CACI International Inc. 40.1% (15.8%) 14.6% (11.3%) (5.7%)

Dynamics Research Corp. 10.5% (13.3%) (3.6%) (8.9%) (36.4%)

DynCorp International Inc. NA NA NA (30.8%)(2) (21.7%)(2)

ManTech International Corp. (4.8%) 17.4% 19.2% (7.1%) 14.4%

MTC Technologies Inc. 4.2% (18.4%) 2.2% (15.6%) (19.5%)

NCI Inc. NA (59.9%)(3) 2.0% (6.4%) (20.9%)

QinetiQ Group plc NA NA (93.2%)(4) (9.5%) (93.8%)(4)

SI International Inc. 57.2% (0.6%) 15.0% (12.8%) (0.3%)

SRA International Inc. 49.0% (4.9%) 23.5% (29.4%) (4.7%)

VSE Corp. 90.0% 67.2% (1.4%) (28.3%) (25.7%)

Median 30.3% (13.3%) 2.1% (11.8%) (20.9%)


(2) Price Change Calculated from IPO on 05/03/2006

(3) Price Change Calculated from IPO on 10/24/2005 – 12/31/2005

(4) Price Change Calculated from IPO on 02/10/2006

Government

Houlihan Lokey 67


Subsectors Defined Government

Federal IT Diversified IT Technical Services

NCI Inc. Affiliated Comp Svcs Atkins WS

Analex CIBER Fluor Group

CACI International Inc. Computer Horizons Dyncorp International

Dynamics Research Corp. Computer Sciences Corp. Jacobs Engineering Group Inc.

ManTech International Covansys Serco Group

MTC Technologies Electronic Data Systems Tetra Tech Inc.

SI International Inc. Keane Inc. URS Corp.

SRA International, Inc. Maximus Inc. VT Group

Perot Systems Corp. VSE Corp.

Tyler Technologies

Unisys

Wireless Facilities

Market Dynamics

Homeland Security

Houlihan Lokey 69


Market Overview

30,000 Companies Currently Supporting the Federal Government (<20 in the Late 1990s)

$130 Billion in Funding Since 9/11

$65 Billion to 10 Largest Contractors

DHS Budget Growing From $28 Billion in 2002 to $42 Billion in 2007 (8.4% CAGR)

HLS Industry Expected to Reach $170 Billion Per Year in FY2015

Homeland Security

Sources: Forbes Magazine, Office of Management and Budget, Homeland Security Research

Houlihan Lokey 70



Alarm, Security and Surveillance Systems

Biometrics

Data-processing Services

First Responders

Guard Services

Inspection Systems

Natural Disasters

Non-Lethal Defense Products

Safety and Survival Gear

Homeland Security

Houlihan Lokey 71


Volatile Valuations

“Buzzword” – What Does it Really Mean to the Investor?

Major Ramp-up in This Sector Post-9/11

Current Premium Compared to Balance of ADG

Inconsistent Pricing/Valuations Tied to Inconsistent Funding “Perceptions”

“Niche Plays” vs. “Real Players”

Homeland Security

Houlihan Lokey 72


Public Company Pricing – EV/Revenue Homeland Security

0.00x

0.50x

1.00x

1.50x

2.00x

2.50x

3.00x

3.50x

2001

2002

2003

2004

2005

2006

H om elan d Security

Average = 2.35x

`


S ources: FactS et, H oulihan Lokeyx

Houlihan Lokey 73


Public Company Pricing – EV/EBITDA Homeland Security

0.0x

2.0x

4.0x

6.0x

8.0x

10.0x

12.0x

14.0x

16.0x

2001

2002

2003

2004

2005

2006

H om elan d Security



Average = 11.2x

`

x

Houlihan Lokey 74




($mm) EV/ EBITDA(1)

Net Cash (Debt)

($mm) LFY NFY

American Science & Engineering 85.3% (7.9%) $50.7 7.0x $41.3

Armor Holdings Inc. 67.1% 50.5% $290.4 9.2x ($809.1)

Cogent Inc. 82.3% (29.5%) $60.2 15.9x $27.9

FLIR Systems Inc. 5.4% 12.5% $149.1 13.1x ($63.3)

Ionatron Inc. 72.7% (6.2%) NA NA ($0.0)

Lakeland Industries Inc. 3.6% 5.6% $10.1 7.4x ($4.7)

OSI Systems, Inc. 55.8% 32.9% $16.1 19.1x $2.8

RAE Systems Inc. 32.4% 8.5% $1.2 NMF $11.8

TASER International Inc. (29.5%) 40.6% $7.0 NMF $15.3

TVI Corp. (13.3%) 13.3% $7.3 9.1x $1.9

Verint Systems Inc. 29.6% 26.3% $43.5 18.0x $58.0

Median 32.4% 12.5% $29.8 11.1x $2.8


Homeland Security

Houlihan Lokey 75


Homeland Security vs. S&P 500 Homeland Security

Homeland Security Price Index


0

500

1000

1500

2000

2500

3000

1/12/01

4/12/01

7/12/01

10/12/01

1/12/02

4/12/02

7/12/02

10/12/02

1/12/03

4/12/03

7/12/03

10/12/03

1/12/04

4/12/04

7/12/04

10/12/04

1/12/05

4/12/05

7/12/05

10/12/05

1/12/06

4/12/06

7/12/06

Ind

ex V

alu

e

Homeland Security S&P 500

Source: Factset


Houlihan Lokey 76



Stock Price Change

CY2004 CY2005 1Q2006 2Q2006 YTD(1)

American Science & Engineering 242.0% 51.3% 49.8% (38.0%) (23.3%)

Armor Holdings Inc. 78.7% (9.3%) 36.7% (5.9%) 22.3%

Cogent Inc. NA (31.3%) (19.1%) (17.8%) (38.2%)

FLIR Systems Inc. 74.8% (30.0%) 27.2% (19.4%) 23.6%

Ionatron Inc. NA (10.8%) 33.6% (53.0%) (43.6%)

Lakeland Industries Inc. 12.2% 1.4% 9.5% (27.0%) (25.7%)

OSI Systems, Inc. 18.2% (19.0%) 14.9% (15.9%) (1.0%)

RAE Systems Inc. 114.7% (51.9%) 1.7% 12.0% (15.7%)

TASER International Inc. 361.1% (78.0%) 52.2% (25.3%) 9.3%

TVI Corp. 53.4% (10.1%) -1.3% (10.6%) (45.5%)

Verint Systems Inc. 61.0% (5.1%) 2.6% (17.5%) (5.6%)

Median 74.8% (10.8%) 14.9% (17.8%) (15.7%)


Homeland Security

Houlihan Lokey 77


Who Are The Real Players?

An Incomplete List…

GE

Honeywell

IBM

L-3

Lockheed Martin

Homeland Security

ManTech International

Northrop Grumman

Raytheon

SAIC

Smiths Group

Summary

Houlihan Lokey 79


Closing Remarks

Lots of Questions…

Lots of Opportunities…

Thank You For Your Valuable Time and the Opportunity to Present to Your Organization

Summary

Documents

New Is It Time To Play Offense or Defense with Defense Stocks?9-16-06).pdf · 2015. 2. 5. · Is It Time To Play Offense or Defense with Defense Stocks? American Association of Individual