Services contractors look to product expansion for growth

March 5, 2019

By Marjorie Censer

Several services contractors say they're increasingly turning to products as a way to boost growth and differentiate themselves in a crowded market.

CACI International in January said its two new acquisitions would expand its technology, while a top Leidos executive said the company is open to purchasing a pure products business.

"It's part of a broader trend in services moving away from purely labor-based or human-delivered services more and more," Joey Cresta, an analyst at market research firm Technology Business Research, told Inside Defense. "It's becoming imperative on companies to combine their human assets with some form of [intellectual property]."

Cresta attributed the trend to commoditization. "When you're purely delivering labor, there's not a whole lot to make a difference between yourself and one of your competitors," he added.

CACI earlier this year announced deals to acquire LGS Innovations as well as Mastodon Design for a total of $975 million, moves meant to boost CACI's work in solutions and products.

In an interview at CACI's Arlington, VA headquarters last week, Ken Asbury, the company's chief executive, said his background at Lockheed Martin informed his effort to grow CACI's emphasis on technology.

The contractor first picked up Six3 Systems in 2013, a purchase Asbury said has served as the core of the company's product work.

With the addition of LGS and Mastodon, Asbury said about 40 percent of the company's work is focused on using some sort of technology to produce a given result. He defined this type of work as "something where I'm producing an outcome for a customer as opposed to I'm selling them an hour of something."

What motivated Asbury to shift CACI out of its traditional services focus, he said, was the desire for more sustainable work.

CACI's specialty had been "getting on the big [indefinite-quantity, indefinite-delivery contracts] . . .  [but] that wasn't a sustainable model because when the wars go away so does that kind of pass-through contracting buying," Asbury said. CACI needed "to get out of the logistics tail and get into the mission side of the business."

Meanwhile, Jim Reagan, Leidos' chief financial officer, said during a call with analysts last month the contractor is more interested in acquiring products companies than services contractors.

"We don't need more of what we've got," he said. "The things that we're looking for to build the company inorganically would be the kind of company with both a services and product differentiator."

"A pure products company could also be of interest to us, but I would say the ones we've been interested in to this point tend to have some sort of service element to them," Reagan added.

Cresta said contractors who want to move into more products work have been enabled by the push toward software-defined systems, a market with fewer barriers than traditional manufacturing.

Andrew Hunter of the Center for Strategic and International Studies told Inside Defense an expanded products portfolio allows companies to boost their profit margins. He noted the "increasing simplification of producing stuff," pointing to additive manufacturing as another enabler.

Asked whether there's risk in expanding a services contractor into products, Asbury said he sees more downside in failing to act.

"I think there's a risk that we don't," he said. "We've seen the commoditization of the services industry."