AEROSPACE & DEFENSE OUTLOOK

Transcription

1 AEROSPACE & DEFENSE OUTLOOK MERGERS & ACQUISITIONS UPDATE 2018 Capstone Headwaters

2 Aerospace & Defense Outlook 2018 Annual Report AEROSPACE & DEFENSE OUTLOOK Mergers & Acquisitions Update 2018 TABLE OF CONTENTS INTRODUCTION Introduction M&A Overview M&A Update Market Outlook -- Commercial Aerospace -- Defense -- Government IT -- Cybersecurity -- Simulation & Training Closing Words Recent Transactions We are pleased to present our 2018 Aerospace & Defense Outlook: Mergers & Acquisitions Update. CONTRIBUTORS Ian Cookson Managing Director Tess Oxenstierna Managing Director David Brinkley Managing Director The year 2017 saw steady sector Merger & Acquisition (M&A) activity, with transaction trends highlighting the underlying structure of an industry dominated by OEMs and the reactive efforts of a fragmented supply base fueled by private capital, increased defense spending, and technology advances. Our report provides a wealth of Aerospace, Defense, Government & Security transaction data and also discusses: The outlook for M&A activity Structural industry themes highlighted by M&A Financial buyers role as consolidators of the supply base Company founder exits and perspective Valuation trends in public and private markets Commercial Aerospace outlook and dependencies Changing emphasis of the defense budget A resurgence in Government IT Cybersecurity escalation and consolidation Advances in Simulation & Training To learn more about Capstone Headwaters Aerospace, Defense, Government & Security (ADG&S) Practice or to discuss the content of this report please do not hesitate to get in touch. Tom McConnell Managing Director tmcconnell@capstoneheadwaters.com Ted Polk Managing Director tpolk@capstoneheadwaters.com 2 April 2018

3 MERGERS & ACQUISITIONS OVERVIEW Last year s Aerospace & Defense merger & acquisition activity highlighted the underlying structural characteristics of an industry dominated by an airframe duopoly, powered by a handful of engine makers, and the reactive efforts of a vast consolidating supply base. Airbus and Boeing sought to expand their dominance by: completing transactions with smaller regional aircraft, bringing work back in house, and extending profitability over the life of an aircraft. Meanwhile, suppliers worked to counter balance OEM pressures by combining and building out complete systems capabilities. Private equity investors have become integral to the consolidation of a previously highly fragmented supply base, enabling founders to retire from companies which in many cases have expanded beyond the financial suitability of individual ownership. The number of Aerospace & Defense M&A transactions in North America remained broadly stable in 2017 increasing 2.0%. This compares to a 16.0% decline in the prior year when component manufacturing transactions retreated from extraordinary peaks and are well above the 10.0% decline in the number of North American M&A transactions across all industries. Public company valuation multiples increased to pre-financial crisis highs on flat earnings. In private M&A transactions the spread in multiples between large and small companies continued to widen as large businesses have become increasingly sought after. Structural factors underlying sector M&A of dominant OEMs and a consolidating supply base are likely to continue for years to come. However, the level of activity is likely driven by economic temperature, ambitions of industry participants, and is particularly sensitive to potential Asia Pacific shocks In Commercial Aerospace, industry sales rose slightly and production increases are expected as orders picked back up. Backlogs at Boeing and Airbus average eight years but mask a decades-long shift to single aisle aircraft. Worldwide airline passenger traffic grew 7.5%, far exceeding long-term 4.5% growth forecasts. Such expectations are increasingly dependent on the expansion of the Asia Pacific fleet, with the region projected to account for 40.0% of new deliveries more than the mature markets of Europe and North America combined. The other glaring 40.0% customer dependency is to the leasing industry, which is reliant on a continual inflow of fresh funds to support purchases and where capital has been pouring in, again from Asia Pacific sources. Although U.S. airline profitability has risen to a level where alternative financing options are available if needed, the same is not true of the rest of the world where margins remain half those of the U.S. In defense, the President s 2019 Budget request was for a 10.0% increase, with a transition in spending to Great Power competition rather than terrorism as the primary focus of U.S. national security. Notable areas of increase are therefore in Ground Forces, Space Systems, Missiles & Munitions, and RDT&E. M&A activity has followed, with Northrop acquiring Orbital ATK to gain launch & propulsion, missiles, and space systems capabilities, while smaller transactions have been to build out systems in defense electronics and C4ISR/Geointelligence. Defense spending increases have also fueled a step up in Government IT Services, as revenue expectations have improved, together with increased budgetary visibility, and a commitment to IT systems infrastructure, modernization. These macro trends, combined with historic valuations, profitability and cash balances have broadened M&A activity. Acquisitions have expanded beyond portfolio reorganization and are adding capabilities in high growth areas of cybersecurity, cloud computing, data analytics, intelligence, C4ISR, and firms holding strategic contract vehicles. As the sector heats up, we are witnessing activity by a wider group of buyers, including non-traditional and financial players, attracted by a significant uplift in the defense IT market and targeting more diversified IT service organizations. Cybersecurity has seen exceptional growth as breaches continue to escalate, while the world becomes ever more reliant on inter- 3

4 net connectivity and secure data flow. The cybersecurity industry is expected to grow % annually over the next five years and government expenditure rose over 35.0% last year. M&A activity followed suit with an almost 50.0% increase in the number of cyber deals and a doubling in the value of transactions as start-ups mature and consolidators seek to broaden their solutions, simplify customer purchasing, and gain economies of scale. Simulation & Training has also seen significant activity bringing improved technology capabilities and cost advantages to both commercial and military markets. Large strategic and private equity players have made acquisitions in commercial flight simulation to access Increases in defense spending are fueling expectations of M&A in defense and defense IT, while technology advances are also driving acquisitions as: prime defense fill gaps in Great Power; IT providers access growth areas; cyber players consolidate solutions; and simulation methods evolve a sizeable market and target pilot shortages, while strong growth has been seen in military adoption as improved reality and gaming technologies have met greater training needs and increased availability. Looking to the future, the structural factors underlying sector M&A of dominant OEMs and a consolidating supply base are likely to continue for years to come. However, the level of activity is driven by the economic temperature and ambitions of industry participants. Private equity has even greater amounts of capital to put to work, and while news from Commercial Aerospace continues to be good, the sector is highly susceptible to Asia Pacific shocks due to its dependency on the region for fleet expansion and aircraft lease financing. Increases in defense spending are fueling expectations of increased M&A in Defense and Defense IT, while technology advances are also likely to drive acquisitions as: Prime defense companies fill gaps in Great Power competition priorities. IT providers access growth areas. Cyber players build out product capabilities and consolidate customer offerings. Advances bring new simulation and training methods. 4

5 MERGERS & ACQUISITIONS UPDATE Structure of Industry Highlighted By M&A Major industry themes highlighted by Aerospace & Defense merger & acquisition activity in 2017 were illustrative of an introductory economics class, demonstrating the underlying structural characteristics of an industry dominated by an airframe duopoly, powered by a handful of engine makers, and the reactive efforts a vast and fragmented but consolidating supply base: Advances bring new simulation and training methods. Airbus and Boeing sought to secure their dominance, through combinations with makers of smaller regional aircraft: Airbus agreed to buy a 50.0% stake in the Bombardier CSeries program and Boeing seeks formal ties with Embraer. Last year s M&A activity highlighted underlying structural characteristics of an industry dominated by an airframe duopoly, powered by a handful of engine makers, and the reactive efforts a vast fragmented but consolidating supply base OEMs also looked to capture more profit per plane and expand input over the life of the aircraft as illustrated by Boeing: bringing more work back in house after a period of outsourcing (i.e. avionics); rumored talks with Woodward; and ongoing expansion in the aftermarket building on their 2006 acquisition of Aviall. Top suppliers merged to counter balance the power of Boeing and Airbus and capture a greater share of the aircraft: witness UTC s (owner of engine maker Pratt & Whitney) $30.0 billion acquisition of avionics leader Rockwell Collins; and in Europe propulsion business Safran s acquisition of interior business Zodiac. Suppliers also sought to build out product capabilities, and expand systems incorporating data analysis, as illustrated by a host of smaller C4ISR acquisitions. Private equity have supported the ongoing consolidation of a previously fragmented supply base as they continue their buy and build strategies, particularly in component manufacturing and support services, with divestitures to larger private equity groups and strategic buyers. Steady Level Of M&A Activity The number of North American Aerospace & Defense transactions remained broadly stable in 2017, increasing 2.0%. This compares to a 16.0% decline in 2016 when the number of component manufacturing transactions retreated from extraordinary peaks. It also contrasts with the broad 10.0% decline in the number of North American M&A transactions overall. Within subsegments: Component Manufacturing transactions rose by 5.0% in number and accounted for 38.0% of sector transactions. They are now 30.0% below their peak level of 2014 when consolidation was at a high. Support Services & MRO remained broadly stable accounting for 25.0% of sector transactions. Aerospace & Defense Electronics rose 13.0% by number of transactions to 20.0% of the total deal volume. Defense IT & Technology transactions fell 6.0% to 17.0% of sector transactions. The number of North America Aerospace & Defense M&A transactions remained stable in 2017 The value of disclosed sector transactions rose to $60.0 billion and included the announced $30.0 billion acquisition of Rockwell Collins 5

6 North American Aerospace and Defense M&A Activity M&A Activity by Subsector Number of Transactions (A&D Sector) ,000 20,000 16,000 12,000 8,000 4,000 Other Aerospace & Defense Electronics Defense IT & Technology Support Services & MRO Component Manufacturing North American M&A activity - All industries - Number of Transactions (All Industries) Number of Transactions (A&D Sector) Component Manufacturing Defense IT & Technology Aerospace & Defense Electronics Support Services & MRO Source: Capital IQ and company press releases by UTC. Comparitively, the disclosed transaction value for 2017 was above that of 2015 ($50.0 billion), 2014 ($33.0 billion) and 2013 ($50.0 billion), but below that of 2015 ($90.0 billion), which included the $40.0 billion acquisition of Precision Castparts by Berkshire Hathaway. Private Equity Is Integral To Consolidation of The Supply Base Acquisitions by private equity or private equity-owned firms rebounded demonstrating the extent to which the private equity industry has become integral to the sector and accounted for 36.0% of sector acquisitions in This compares with an average of 30.0% of acquisitions over the last ten years and a peak of 41.0% in The larger transactions discussed later in this report highlight the role of private equity as builders of businesses for strategic acquirers, with PE being sellers on 40.0% of larger transactions. The subsector with the highest private equity involvement was Support Services & MRO, where 46.0% of acquisitions were by private equity or private equity-owned companies. Component Manufacturing maintained its heavy PE involvement with 36.0% of acquisitions having PE ownership. Slightly over half strategic acquirers were public companies (55.0%), with the balance being non-pe owned private companies. Component Manufacturing continues to attract private equity due to fundamentals of: strong growth forecasts in Commercial Aerospace; forecast visibility by platform; and the potential for further ongoing consolidation, particularly in the face of limited end customers. Private equity interest in Support Services & MRO follows more tradi- Acquisitions by private equity or private equity owned firms rebounded, demonstrating the extent to which they have become integral to the sector North North American American Aerospace Aerospace & Defense & Defense M&A Activity M&A Activity by Buyer Type Number of Transactions Financial Strategic Note: transactions where target is headquartered in U.S. or Canada Source: Capital IQ and company press releases 6

7 tional PE themes of: niche businesses operating in growth markets with strong aftermarket, diversity of customers, and lower capital expenditures. The spread in valuation multiples between those paid for small and large businesses is a significant driver of private equity interest, with PE investors benefiting from multiple arbitrage by buying several smaller companies purchased at lower valuations and combining them to create a larger business sold at a higher multiple. Slightly more than half of the sector acquisitions by PE firms in 2017 were by operating companies already under PE ownership, with the balance being new platform investments in the space. Increased interest in larger businesses is consistent with private equity trends overall, as capital available for investment reached new highs on increased fund raising, larger average fund sizes, and a decline in quality deal flow. Cadence Aerospace, a consolidation of numerous smaller suppliers, is illustrative of PE sector involvement. The company is now under its third group of private equity owners, having changed hands again last year. Our team worked for the seller on the very first of these transactions over a decade ago, a machine shop purchased by the former Chairman of TIMET before Platte River started as a fund. Founders Are Still Top Sellers Founders again accounted for half of all sellers, with corporations and private equity being broadly equal sellers of the balance. The motivations for founders to pursue a sale continue to be: Founders again accounted for half of all sellers, as businesses expand beyond suitability for individual financial ownership Approaching retirement age or a shift in personal priorities. The business has grown to a point where the financial demands of continuing to support growth in a capital-intensive industry become ever larger, and the business is simply no longer suitable for individual ownership. The capital required to take a business from $75.0 million to $150.0 million is very different to doubling a $15.0 million company, particularly with the perspective of continuing to risk everything when personal financial goals have otherwise been met. The business has reached a size where selling is a financially meaningful life-changing event, while building the business further would not materially change lifestyle. There is only so much money you can spend! Sellers Sellers of North of North American American A&D A&D Businesses Businesses by Ownership by Ownership Type Type in Corporations Founders Private equity 24% 23% 53% For those remaining with the business, new ownership likely means: increased process and scrutiny around decision making and greater pressure for growth to deliver the goals envisioned by the buyer. Note: transactions where target is headquartered in U.S. or Canada Source: Capital IQ and company press releases Rising Public Company Values On Flat Earnings Our pubic company Aerospace & Defense Enterprise Value Index rose 10.0% during 2017, with a 10.0% increase in EV/EBITDA multiples to 13.0x on broadly flat earnings (1.0% uptick in EBITDA). This compares with an equity return of 19.0% for the S&P index overall. By subsector: Prime Defense and Aerospace & Defense Electronics now trade at the highest public multiples around 15.0x EBITDA, following a 30.0% increase during the year. Component Manufacturing, Defense IT, and Support Services rose by 8.0%, to end the year around 13.0x EBITDA. 7

8 Aerospace & Defense Public Company Valuation Multiples by Sector Median EV/EBITDA multiple 16.0x 14.0x 12.0x 10.0x 8.0x 6.0x 4.0x Defense Components Support Services & MRO* Prime Defense Defense IT & Technology Aerospace & Defense Electronics Aerospace & Defense Public Company Earnings by Sector Note: MRO valuation skewed by weighting to Asia/Pacific market Source: Capital IQ and company press releases Cumulative LTM earnings growth index 400% 350% 300% 250% 200% 150% 100% Defense Components Support Services & MRO* Prime Defense Aerospace & Defense Electronics Defense IT & Technology Source: Capital IQ and company press releases It was only in 2012 that prime defense companies traded at enterprise values as low as 5.6x EBITDA in the public markets, almost a third of their current level. Over the same period prime defense earnings have risen 15.0% in total, reflecting both a general increase in stock market multiples and improved earnings expectation for the sector. Widening M&A Transaction Multiples In private M&A transactions size is a huge factor in sector valuation where multiples on large transactions are typically twice those of smaller ones. Throughout 2017, valuation multiples on larger transactions increased, further widening the spread between multiples on large and small transactions. Full public market valuations, plentiful private equity capital seeking investment, greater debt availability, and few alternative high return investment opportunities are contributing factors, together with increased defense spending and a strong outlook for commercial aicraft production. In private M&A transactions, size is a huge factor in sector valuation, with multiples on large transactions being twice those of smaller ones For transactions of the Aerospace & Defense sector overall, those under $50.0 million have taken place a touch over 6.0x EBITDA, those between $ million approach 8.0x EBITDA, while those over $100.0 million have been around 12.0x. Data has been combined for three years ( ), using disclosed multiples on an unadjusted basis and typically feature acquisitions by public companies. 8

9 A similar trend can be seen for Aerospace & Defense Component Manufacturing transactions. Deals under $50.0 million have taken place a touch under 6.0x EBITDA, while those between $ million have been half a turn higher at 6.5x EBITDA. Transactions between $ million have approached 10.0x EBITDA, while those between $500.0 million and 1.0 billion are at 11.0x EBITDA, and those over $1.0 billion have reached almost 14.0x EBITDA. Data covers the period and includes disclosed multiples on an unadjusted basis. In acquisitions by private equity groups across Manufacturing and Business Services, multiples on an adjusted basis reported by GF Data can be summarized as: -- Traditionally showing transactions of between: $ million around 5.5x EBITDA, $ million around 6.0x EBITDA, $ million around 7.0x EBITDA and those between $ million around 8.0x EBITDA. -- However, valuations last year can be seen to be around one turn of EBITDA higher than the long-term average, particularly on larger transactions, with companies between $ million changing hands around 6.0x EBITDA, $ million around 6.5x EBITDA, $ million around 8.0x EBITDA and those between $ million around 9.0x EBITDA. -- Companies with substantially superior financial performance (in terms of growth and profitability) were around one turn of EBITDA higher still, with private equity buyers seeking large high-quality businesses. A&D M&A Enterprise Value Transaction Multiples by Size: A&D Component Manufacturing M&A Enterprise Value Transaction Multiples by Size: EV / Revenue Multiple 3.5x 3.0x 2.5x 2.0x 1.5x 1.0x 0.5x 12.9x 2.9x 1.9x 11.3x EV/Revenue 1.3x 12.1x 7.8x 1.7x EV/EBITDA 1.0x 6.4x 14.0x 12.0x 10.0x 8.0x 6.0x 4.0x 2.0x EV / EBITDA Multiple EV / Revenue Multiple 3.5x 3.0x 2.5x 2.0x 1.5x 1.0x 0.5x 3.2x 13.7x 10.9x 2.3x Revenue 1.4x 9.9x EBITDA 1.9x 6.4x 5.8x 1.0x 16.0x 14.0x 12.0x 10.0x 8.0x 6.0x 4.0x 2.0x EV / EBITDA Multiple 0.0x Over $1bn $500m - $1bn $100m - $500m $50 - $100m Less than $50m 0.0x 0.0x Over $1bn $500m - $1bn $100m - $500m $50 - $100m Less than $50m 0.0x Source: Capital IQ While significant, size is only one factor impacting M&A valuations. Other considerations that drive value in the sector include: Growth prospects and quality of the business, management and equipment. Customer diversification or dependency, and contracts and programs that the company benefits from, particularly the portion of revenues which may be generated from small business or otherwise set aside contracts, compared with competitively awarded prime contracts. Product innovation and the strategic value of a target s capabilities and offerings to acquirer. 9

10 Serial Strategic Acquirers Remain Active The most frequent strategic acquirers last year included: L3 Technologies: with four acquisitions, three in undersea systems and one in flight training. HEICO: with three acquisitions, two in electronics and one in unmanned systems. Mercury Systems: with three acquisitions in microwave components, hardware & software engineering and computing. TransDigm: also with three acquisitions, two in control systems and one in restraints. Private Equity Was Arguably Even More Active AE Industrial making two new platform investments in CDI, an engineering staffing firm, and FMI, an aerospace structures firm. AEI s portfolio companies were also active with Belcan, an engineering staffing firm, closing three acquisitions; aerospace component maker AC&A acquiring two composite businesses; and Kellstrom buying a repair business. Arlington Capital made two new platform A&D investments: Tex Tech, a ballistics protection player, and Cadence, an aircraft component maker (previously owned by Platte River and subsequently Court Square). Their defense & intelligence portfolio company Polaris Alpha also made two acquisitions in IT and cyber. They also closed on a niche intelligence business, Xebec Global. Apollo acquired Sun Country Airlines, while its private security portfolio company Constellis, the former Blackwater business made three security acquisitions. Battery portfolio company Vectra also made an acquisition in the A&D space. Veritas: acquired technology services business Peraton (formerly Harris IT), engineering and IT firm Alion Science and Technology, the public sector business of PWC, two engine related acquisitions for Standard Aero, an MRO purchase for related DAE Aviation, and is going public with its platform investment Perspecta, a combination of DXC s public sector business, Vencore, and Keypoint. HIG Capital acquired services firms Whitney, Bradley and Brown, and took NCI, Inc. private. Large Transactions Continue The value of disclosed sector transactions rose to $60.0 billion and included the announced $30.0 billion acquisition of Rockwell Collins by UTC. This compares with $50.0 billion the prior year, and ahead of the $33.0 billion in 2014 and $50.0 billion in 2013, but below 2015 s $90.0 billion, which included the $40.0 billion acquisition of Precision Castparts by Berkshire Hathaway. The largest announced transaction of the year by far, was the $30.0 billion acquisition of Rockwell Collins by UTC, owner of engine maker Pratt & Whitney as it seeks to: build its position in communications, aviation & avionics systems, and cabin interiors (Rockwell had itself only closed on its $8.0 billion acquisition of BE aerospace earlier in the year); and improve its supplier negotiating position with Boeing and Airbus. The second largest transaction, also pending, is the $9.0 billion acquisition of Orbital ATK by Northrop Grumman building their systems in: launch & propulsion, missiles & armaments, and electronics and space. In February 2018, General Dynamics announced its intention to acquire government IT firm CSRA for $9.7 billion, thereby doubling the size of its Government IT Services business. Since then CACI has entered the fray with a competing bid. CSRA was formed two years ago when the federal arm of Computer Sciences was merged with SRA. Another large transaction of note, excluded from our North American deal total, is the $9.0 billion acquisition of French aircraft interiors business Zodiac Aerospace, by the French propulsion business Safran. While similarities with the Rockwell / UTC deal are apparent, the recent financial trajectory of Rockwell and Zodiac differ, illustrated by Safran s reduced offer in the face of Zodiac s falling earnings. 10

11 Also internationally, UK aerospace component maker GKN (who started life producing cannon balls for the Napoleonic wars) is subject to a $12.0 billion takeover attempt by Melrose, which even if it does not ultimately culminate in a transaction, is likely to result in a restructuring and possible separation of the Aerospace and Automotive businesses. No discussion would be complete without mention of Airbus and Boeing seeking to secure their dominance through combinations with makers of slightly smaller regional planes. Most recently, Airbus agreed to buy a 50.0% stake in the Bombardier CSeries program and Boeing announced plans to increase ties with Embraer. Transactions in the $ billion category include: Digital Globe, a provider of satellite earth-imagery, data and analysis was acquired by Maxar Technologies in a $3.4 billion transaction. Air Methods, an air medical transportation business was acquired by private equity firm American Securities in a $2.4 billion transaction from previous private equity investors. American Medical Response, an air and ground medical transportation group, was acquired by KKR owned Air Medical Group in a $2.4 billion transaction. Air Medical was also owned by private equity prior to its acquisition by KKR in M acquired Scott Safety, a respiratory and personal protection equipment for military, homeland security, and emergency services, from Johnson Controls in a $2.0 billion transaction. H.B. Fuller s acquired Royal Adhesives & Sealants, an adhesives, sealants, coatings manufacturer for Aerospace, Defense and other markets, from PE firm American Securities for $1.6 billion. Transactions valued between $ billion include: CIRCOR International purchased the fluid handling systems manufacturing business of Colfax for $0.8 billion. Hexagon AB acquired MSC Software, a provider of simulation software solutions for engineers in Aerospace, Defense, and other markets, for $0.8 billion from Symphony Technology. TTM Technologies acquired Anaren, a provider of RF components for satellite communications, space, defense, and electronics, for $0.8 billion from PE firm Veritas. Veritas Capital purchased Peraton, a provider of technology services and solutions to Space, Intelligence, Defense, and Civil markets, for $0.7 billion from Harris Corporation. On Assignment acquired ECS Federal for $0.8 billion. Transactions under $0.5 billion include: Stanley Black & Decker acquired Nelson Fastener Systems, the Fastener Distribution and Fastening System Components business of Aerospace Group Doncasters for $0.4 billion. Sonaca SA acquired LMI Aerospace, provider of structural assemblies, kits & components, for $0.4 billion from Adage Capital. Dassault acquired Exa Corporation, a simulation software & services provider for vehicles, and Aerospace Aerodynamics & Aeroacoustics business from Soros Fund Management for $0.4 billion. KEYW Holding acquired Sotera Defense Solutions, a provider of technology-based systems, solutions, services for national security agencies from Ares Management for $0.4 billion. Ultra Electronics acquired former JV partner Sparton Corporation, a publicly traded provider of design, development, and manufacturing services for electromechanical devices and undersea warfare for $0.3 billion. Recently however, Ultra called off the $235.0 million deal, due to concerns that the Justice Department would not authorize antitrust clearance, as the deal would have created a consolidated supplier of underwater warfare technologies, such as anti-submarine sonar systems to the U.S. Navy. HIG s take private transaction of government services and IT firm NCI, Inc. for $0.3 billion. 11

12 Aerospace & Defense Outlook 2018 Annual Report SBIR Companies Provide Buyers New Technologies Anecdotally, it appears contracts won by small businesses or set aside work have been increasing, although, with the current administration favoring less regulation, it seems likely that may moderate in the years ahead. Meanwhile, SBIR funding has been declining since the high point of The number of acquisitions of businesses who have previously won SBIR awards rose slightly from prior year lows to 7.0% of sector transactions (compared to 5.0% in 2016). Acquisitions were across a breadth of A&D electronics, defense IT and component manufacturing. Few acquisitions were by firms that would continue to qualify as an ongoing small business Major Acquirers of SBIR Businesses ( ) Defense Technology # Prime Defense L3 Technologies 10 Lockheed Martin Ultra Electronics 3 Raytheon API Tech [JF Lehman] 3 Boeing Rockwell Collins 3 BAE Systems ManTech 3 Safran CAE 2 General Dynamics Thales 2 Leonardo Components # Government IT Teledyne 4 SAIC 3M 3 QinetiQ Textron 3 Maxar Moog 2 CACI # # Source: Department of Defense, SBIR filings, press releases, Capital IQ The majority of acquirers were large public companies including L3 Technologies, General Electric, BAE Systems, HEICO, and Dassault. Both L3 and ARA each acquired two SBIR businesses: L3 purchased subsea systems; and ARA unmanned & RF. A third of acquirers were international, and only 15.0% were acquisitions by firms that would likely continue to qualify as an ongoing small business. Consequently, target firms with SBIR content have generally built a product, technology or business to a point where it is scalable to the new owner either: in its own right with their additional market muscle; or through incorporating technology advantages into their current systems. The use of small firms to develop innovation backed by government funding can be viewed as providing new technologies at lower risk than in-house, ensuring only proven successes with a market need are adopted. 12

13 COMMERCIAL AEROSPACE Steady Aerospace Industry Sales Aerospace Industry sales overall remained broadly flat in 2017 measured by shipments, while new orders rose 12.0%. Commercial production far outstripped that of defense, although defense shipments rose 5.0% while civil orders rose 17.0%. Industry backlogs remained strong at almost three years production as reported by the Aerospace Industry Association (AIA) using data from the Census Bureau. USD Billions U.S. Aerospace Shipments, Orders and Backlog 750 Shipments Orders Backlog Source: Aerospace Industries Association USD Billions U.S. A&D Shipments: Civil vs. Defense Defense Civil Source: Aerospace Industries Association USD Billions U.S. Aerospace New Order Totals* Defense Civil *Includes i) Aircraft & Parts, ii) Search & Navigation, and iii) Communications Equipment Source: Aerospace Industries Association Airbus & Boeing To Increase Production In 2017 Boeing and Airbus combined, showed a 3.0% increase in commercial aircraft deliveries while orders rebounded rising 24.0%. Backlog rose to around eight years of production. While eight years is an unarguably long time, industry participants know only too well how orders can change as demonstrated by Virgin Atlantic s recent cancellation of a request for six A380s that it placed in 2000 and American Airlines cancellation of its order of 22 A350 s placed in Almost 90.0% of orders were for narrow body aircraft (737 and A320 families) which comprised slightly over 70.0% of production, highlighting the growth and popularity of narrow body and the resulting considerably lower backlogs in the wide body category. In 2017: Boeing delivered 763 aircraft, received net orders for 1,031 planes, and ended the year with a backlog of 5,381 or seven years production. Airbus delivered 718 aircraft, received orders for 1,109 planes, and ended the year with a backlog of 7,265 or 10 years production. By aircraft type, Boeing deliveries comprised: 529 narrow body 737 family aircraft, 136 next generation 787 Dreamliners, and 98 other wide body commercial aircraft. Airbus deliveries comprised: 558 narrow body A320s, 78 next gen A350s, and 82 other wide body aircraft. 13

14 Engine challenges continued to plague new aircraft with the A320neo suffering from challenges at Pratt & Whitney as well as delays at the GE and Safran joint venture CFM. Meanwhile, the 737MAX is also dealing with delays at CFM. Neither GE themselves nor Rolls Royce has been exempt, with respective difficulties affecting 777 and 787 aircraft. # of Units 1,500 1, Boeing Orders & Deliveries by Aircraft Type ( ) In 2018, both Airbus and Boeing expect to significantly increase production with Airbus lifting output by 11.0% to 800 planes and Boeing by 6.0% to aircraft Given the frequent talk of cycles in commercial aircraft, we provide a 30-year view of Boeing production and orders which demonstrates: Boeing has been cautious regarding production increases relative to growth in orders in recent years, facilitated by the duopoly with Airbus. The growth in narrow body aircraft production accompanies a shift away from wide body platforms. The 737 family has grown to almost 70.0% of Boeing production compared to 43.0% 30 years ago, as: -- Passengers choose the convenience of flying direct, with a greater choice of timetable. Deliveries - Other Deliveries Orders - Other Orders- 737 Source: Boeing -- Boeing and Airbus increase passenger capacity and extend the distance and fuel efficiency of versatile narrow body aircraft. Passenger Growth Accelerates Worldwide airline passenger miles exceeded forecasts growing 7.5% in 2017 as reported by IATA with a 6.0% increase in revenue on further slight price reductions. This led, again, to record passenger load factors now reaching 82.0%, enabled by technology improvements and online booking tools. Cargo also grew by a strong 9.0% compared with 3.0% world economic growth. The Asia Pacific region showed the strongest growth in passenger traffic at 10.0%, while Europe, Middle East, Latin America, and Africa all grew 7.0%. North America growth was 4.0%. The biggest decline was in the Middle East which fell from the 12.0% average growth of the prior five years, and where commentators reflect concerns of overcapacity, increased competition, and pressure on yields in the face of prior rapid expansion and the impact of current oil prices on the region. There is also a concern of knock-on effects of lower orders, particularly in larger planes favored by Middle Eastern airlines. Worldwide Airline passenger traffic exceeded forecasts growing 7.5% Airline profitability remained at stronger levels with North America posting 13.0% EBIT margins, Asia Pacific 9.0%, Europe and Latin America 6.0%, and Middle East falling to just above EBIT break even. Overall airline worldwide returns on invested capital approached 10.0% in 2017, almost double the levels four or five years ago. 14

15 Long Term Market Forecast Dependent on Asia Pacific Boeing and Airbus each expect passenger growth is averaging 4.5% over the next 20 years with fleet growth around 3.5%. Combined, they expect 75.0% of deliveries to be single aisle (25.0% wide body). Growth forecasts are highly dependent on fleet expansion in Asia Pacific where the region is expected to account for 40.0% of new deliveries. This is more than the mature markets of Europe and North America combined, which are each expected to account for 19.0%. The Middle East and Latin America are expected to account for 8.0% of deliveries each; and 3.0% for C.I.S. and Africa. Sixty percent of new deliveries are expected for fleet growth, and 40.0% for replacement with a median retirement age approaching 25 years. The forecast is further skewed towards the economic development of Asia Pacific, as it incorporates far fewer fleet retirements. In total, 32.0% of all new fleet purchases are expected to support Asia fleet growth, compared with 30.0% for fleet growth in the rest of the world (half of which is Europe & North America). Thirty-eight percent of expected purchases are for replacement, with mature markets of Europe & North America comprising well over half of that amount. Drivers of growth comprise both: Macro trend demand elements of GDP growth, disproportionate increase in travel from an expanding middle class in emerging markets, and urbanization; as well as Growth forecast are highly dependent on fleet expansion in Asia Pacific with the region expected to account for 40% of new deliveries - more than the mature markets of Europe and North America combined Commercial Aircraft Sales Forecast by Geography Airbus & Boeing ( ) C.I.S. 3% Latin America 8% Middle East 8% Europe 19% Africa 3% Asia 40% North America 19% Source: Airbus and Boeing Supply-side factors making travel more attractive including lower ticket prices, expansion of low cost airlines, more direct flights, new routes and improved timetables facilitated by technology developments of: OEMs building single isle planes which fly further and have greater fuel efficiency; and airlines gaining higher load factors from improved focus, scheduling, and booking tools. Capital Flows into Leasing Continue Leasing companies are major customers for Airbus and Boeing and account for 40.0% of the worldwide fleet. Together the top 10 leasing companies own 60.0% of the global leased fleet. We have previously highlighted the leasing industry s dependency on a continual inflow of funds to support growth, and this has been forthcoming as investors around the world seek yield. Increased airline profitability has improved financing alternatives available to airlines, particularly in the U.S. where IATA reports EBIT margins are Another major 40.0% customer dependency is the leasing industry, which is reliant on a continual inflow of funds to support purchases as capital has been pouring in, again from Asia Pacific double those of the rest of the world. However, the effects of both: a changing interest rate environment; and increased capital from Asia Pacific, pose potential threats. Aggressive competition and involvement from China is causing market participants concern, fearing a decline in lease pricing and profitability. 15

16 Transactions highlight heavy interest in the sector from Asia and the Middle East including: Top Aircraft Leasing Companies Rank Name Fleet size HQ Ow nership Avolon investing $2.5 billion in Hong Kong Aviation Capital. Bohai Group s owner HNA Group is rumored to be selling U.S. real estate to satisfy liquidity concerns. BBAM (#5 player) secured an investment from GIC (Singapore s sovereign wealth fund) adding to Onex as shareholders. Dubai Aerospace Enterprise acquired Irish-based AWAS Aviation Capital (#6 player) for $7.5 billion, from private equity group Terra Firma and CBPPIB. Tokyo Century Corporation acquired CIT s Aviation Capital and also purchased a 20.0% stake in Aviation Capital Group #10 player). 1 GECAS 1784 USA General Electric (USA) 2 AerCap 1146 Ireland Public, AER (Ireland) 3 Avolon C2 552 Ireland Bohai Financial (China) 4 SMBC 459 Ireland Sumitomo Mitsui (Japan) 5 BBAM 401 USA GIC (Singapore), Onex (Canada) 6 AWAS DAE 394 Ireland Dubai Aerospace Enterprise 7 Nordic Aviation 393 Denmark EQT (Sweden) 8 BOC Aviation 284 Singapore Public, Bank of China (China) 9 Air Lease Corp. 274 USA Public, AL (USA) 10 Aviation Capital 270 USA Pacific Mutual (USA), Tokyo CC Note: Fleet size by number of owned & managed aircraft Source: Inside MRO, Aircraft Investor In question is the future ownership of industry leader GECAS, which is likely being reviewed as part of the ongoing reorganization of General Electric (GE) by their new CEO, John Flannery, who can be expected to have received offers for the business. Meanwhile, GE announced the formation of a new aircraft leasing joint venture EVAL tapping Canadian asset manager CDPQ for funding. In the general aviation private jet leasing business, private equity continues its involvement through companies such as Global Jet Capital backed by AE Industrial, GSO and Carlyle. While US airline profitability has risen to a level where multiple financing options are available, the same is not true of the rest of the world where profitability remains half that of the US General Aviation Still Waiting For Rebound General aviation production has still not seen an upturn. North American general aviation aircraft shipments remain roughly half the level of their 2007 peak, albeit billings are similar. In 2017, global general aviation shipments rose 2.5% but billings fell 4.2% as reported by the General Aviation Manufacturers Association (GAMA). The average price of general aviation aircraft has almost doubled over the past 15 years and U.S. market share has dropped to around 2/3rds with Europe & Canada gaining ground. The rotorcraft segment stabilized after several years of declining deliveries following weakness in oil & gas markets. Worldwide rotorcraft shipments rose 7.5% in 2017 and billings increased 1.6%. The rotorcraft market worldwide is less than 20.0% that of general aviation fixed wing aircraft. # of civil aircraft 4,500 4,000 3,500 3,000 2,500 2,000 1,500 1, General Aviation Civil Shipments & Billings US # Global # Billings $b $30 $25 $20 $15 $10 $5 $0 Global billings $bn Source: General Aviation Manufacturers Association 16

17 MRO & Aftermarket Shifts The expected doubling of the active aircraft fleet over the next 20 years points to a significant increase in aftermarket and service work. OEMs see the need to increase service capacity for aircraft around the world, and we note Airbus expanding service training centers to create a sufficient pool of trained personnel. OEMs seek to extend their income over life of the aircraft OEMs also see opportunity, with Boeing and engine makers seeking to extend their income over the life of the aircraft with greater involvement in the aftermarket. Boeing continues to build on their 2006 acquisition of Aviall, and one of the reasons cited for Rockwell s sale to UTC was a response to Boeing s in-house expansion into avionics. Technological upgrades in avionics and cabin entertainment systems are an area of significant aftermarket activity. The next phase is increased use of data and aircraft health reporting data links, enabling predictive maintenance using live engine data intelligence connected directly to airlines and OEMs. 17

18 DEFENSE Cold War Redux: Strategy-Driven Force Modernization In early February 2018, the Trump administration released its second full defense budget request the President s Budget 2019 (PB19) to Congress in line with the goals established by the recently released National Security Strategy (NSS) and National Defense Strategy (NDS). The proposed defense budget request was $686.0 billion, $617.0 billion in the base budget and $69.0 billion in the Overseas Contingency Operations (OCO) budget. There is an additional defense spending at $30.0 billion found in other agency budgets. This budget request is $74.0 billion or 10.0% real growth over DOD s current Continuing Resolution (CR) levels. The largest budget increases went to areas outlined in the NDS. Notably, increases from FY17 to FY19: Ground Forces (+59%) $800 $700 $600 $500 $400 $300 $200 $ Increases funding $74 billion (10% real growth) over CR Levels Space Systems (+48% in unclassified accounts) Source: Department of Defense FY 2019 Budget Proposal Missiles & Munitions (+32%), including missile defense and strategic nuclear deterrence The proposed defense budget request is RDT&E overall (+24%) 10.0% real growth over current Continuing Resolution levels Also key to improving lethality and capabilities of the joint force is the use of disruptive technologies. Towards that end, DOD is seeking funding for science and technology to further innovation ($13.7 billion), and research related to hypersonics, autonomy, cyber, space, directed energy, electronic warfare and artificial intelligence. $0 DoD Funding from FY 2010 Through FY (Discretionary Budget Authority) FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 FY21 FY22 FY23 Base Budget Missile Defense* OCO/Other Budget Force Growth and Platform Modernization In line with NSS goal to grow the joint force while modernizing and ensuring readiness, PB19 requests an increase of 25,900 military personnel by the end of FY19 and increase of 56,600 by the end of FY23. The end strength for the Department of Defense would be set at 2,155,800 at the end of FY19. Of note, the Modernization accounts (Procurement plus Research, Development, Test, and Evaluation - RDT&E) request totals $236.7 billion, 13.5% above the initial PB18 request of $208.6 billion. Broken down, Procurement totaled $144.3 billion, which is $3.5 billion below FY18 NDAA and $92.4 billion for RDT&E, a notable $5.0 billion above FY18 NDAA. 18

19 Back to the Future - Cold War Rebuilding? In a speech on January 19, 2018, Secretary of Defense Mattis stated noted that We will continue to prosecute the campaign against terrorists that we are engaged in today, but Great Power competition, not terrorism, is now the primary focus of U.S. national security. The Trump defense budget seeks to implement the NDS goal to modernize the nuclear triad, consisting of nuclear weapons delivery of a strategic nuclear arsenal composed of three components: land-based intercontinental ballistic missiles (ICBMs), strategic bombers, and submarine-launched ballistic missiles (SLBMs). In particular, the budget requests: $2.3 billion for the B-21 Long Range Strike bomber $3.7 billion for the Columbia-class submarine $1.2 billion for the Trident II submarine-launched ballistic missile life extension $600.0 million for the Long-Range Stand-Off (LRSO) cruise missile (to replace the AGM-86B air launched cruise missile) $300.0 million for the Ground-based Strategic Deterrent (GBSD, to replace the Minuteman III intercontinental ballistic missile weapon system starting in 2028) $300.0 million for the nuclear gravity bomb B61 Mod 12 life extension, and $70.0 million for the F-35A dual capable aircraft (DCA) Great Power competition, not terrorism, is now the primary focus of U.S. national security Ground Systems $15.9, 7% C41 Syste Aircraft & Related Systems $55.2, 23% FY2019 Modernization - Total: $236.7 Billion Missiles & Munitions $20.7, 9% Missile Defense Programs $12.0, 5% Space Based Systems $9.3, 4% Shipbuilding & Maritime Systems $33.1, 14% S&T $13.7, 6% Mission Support Activities $66.8, 28% Source: Department of Defense FY 2019 Budget Proposal Impact on M&A Deal Activity With the newly installed Trump administration, many in the Aerospace & Defense sector seemed to wait for greater clarity in defense spending before moving on major acquisitions early in Towards the end of 2017, the market witnessed a significant transaction with Northrop acquiring Orbital ATK for $9.2 billion, gaining key capabilities and contracts in launch & propulsion systems, missiles and armament, aero structures, and space systems. This Northrop/Orbital ATK deal represented a TEV/EBITDA 15.2x multiple, one of the high water marks for the year. Defense Electronics - Consolidating Smaller Players In the smaller range deals, the Defense Electronics sector saw further consolidation within the mid-cap players, with Curtiss-Wright acquiring Teletronics, a leading developer and manufacturer of data acquisition and flight instrumentation systems for defense and aerospace applications, including the F-35 and F-18 aircraft. Other noteworthy defense electronics deal included TTM acquiring Anaren and Teledyne taking e2v off the market. Ultra s acquisition of Sparton culminated a long-standing JV partner for sonobuoys, a maritime technology gaining more importance with resurgent fears of conflicts at sea, especially in the Asia-Pacific theater of operations. Recently however, Ultra called off the $235.0 million deal, due to concerns the Justice Department would not authorize antitrust clearance, as the deal would have created a consolidated supplier of underwater warfare technologies, such as anti-submarine sonar systems to the U.S. Navy. 19

20 On the overseas front, international defense companies are seeking greater access to the U.S. market, due to the increasing of the defense budget for the foreseeable future. One deal to highlight this trend is the acquisition by Israeli-based Aeronautics of Chassis Plans, manufacturer of ruggedized computers and LCD displays designed to meet military standards. Capstone Headwaters represented Aeronautics, a leading unmanned aerial vehicle manufacturer (UAV), on this transaction. C4ISR/Geointelligence backbone of military and commercial requirements The acquisition of DigitalGlobe by MDA provides value-added services in the earth imagery market by owning DigitalGlobe s image analysis capabilities. The move also brings MDA access to the U.S. Government Satellite Imagery market, the largest globally, with a monopoly position on National Geospatial-Intelligence Agency s EnhancedView contract an on demand, browser-based GEOINT. Within our Capstone Headwaters Aerospace, Defense, Government & Security team, we closed several notable deals in the C4ISR/geospatial sector. One key deal was the Solidyn Solutions sale to Polaris Alpha, an Arlington Capital portfolio company. Solidyn is a national security service provider to the space-based defense and intelligence communities, with core business in satellite mission management, command and control systems, virtualization and cloud computing, information assurance, and large-scale data processing systems. In addition, our team represented GPS Source, Inc. (GPSS) in its sale to General Dynamics Mission Systems. GPSS is a leading provider of position, navigation and timing (PNT) technologies for the commercial and military markets. It is a market leader for a full line of GPS GLONASS (GNSS) signal distribution products, GPS retransmission products, and GPS signal design services. PE Still Active with Secondary Trades and Sales to Strategics On the private equity (PE) front, well-known players in the Aerospace & Defense sector continued to invest in critical growth areas. Odyssey Investment Partners acquired CPI from another PE firm, Veritas. CPI manufactures highly engineered component parts used within radio frequency systems, positioning Odyssey on critical DOD radar and communications programs. On another deal which explored both a sale process and exploration of an IPO, Excelitas sale by Veritas to AEA marked AEA s entry into the photonics sector. Veritas formed Excelitas via the combined acquisitions of PerkinElmer Inc., Kaiser Systems Inc., and Qioptiq. On the divestitures side, PE-backed AM General sold its commercial automotive plant to a growing electric vehicle maker, SF Motors, a Subsidiary of Sokon Industry Group, for $110.0 million. It would appear that AM General, under the ownership of MacAndrew and Forbes, has decided to strategically focus on their core defense vehicles and exit the commercial contract manufacturing market. Conclusion Within the defense subsector, M&A activity is expected to increase in core area of growth to include C4ISR, cyber, and other critical enabling technologies to extend or enhance platforms critical to warfighting. As hypersonics, autonomy, space, directed energy, electronic warfare and artificial intelligence increase in the Pentagon s spending priorities, large primes are focusing their internal research and defense funding to meet the demand to counter threats. Where capability gaps fall short, filling these gaps via acquisitions of innovative, often middle-market, companies provides one pathway to strategic growth. EV ($ in B) $6 $5 $4 $3 $2 $1 $0 Defense Transactions Numbers and EV of deals, YTD $5.3 $3.7 $2.6 $1.3 $ YTD EV ($ in B) # of Transactions w/ EV $20mm-$1B 5 0 # of Transactions w/ EV $20mm-$1B Source: Department of Defense FY 2019 Budget Proposal Middle market defense M&A outpace past years Transformational deals and smaller consolidation deals between $20.0 million and $1.0 billion are set to exceed years past with increases in defense spending. Expect more transactions where Primes and Tier II players are acquiring innovation and technology tuck-in acquisitions for larger programs of record. 20

21 GOVERNMENT IT SERVICES: 2017 YEAR IN REVIEW The Kettle Is Boiling: Increased Certainty And Market Expansion We devoted a substantial portion of last year s edition to discussing the political revolution then sweeping into the White House and its potential impact on the fiscal outlook for discretionary spending and hence earnings within the sector. While it may be inappropriate to speak of any dust settling 14 months into this administration, there is significantly more certainty about the arc of discretionary spending prioritization. Industry participants have responded in dramatic fash- ion, closing a record number of M&A deals in 2017 and besting that pace through the first two months of A year ago, we took exception to long-term forecasts that projected a relatively flat IT Services market and we continue to hold a more optimistic view than the 1.1% compound annual growth rates we see forecasted through Several factors underscore this view: Substantial increases in long-term defense IT spending: The National Defense Authorization Act of FY2018 and the Administration s FY2019 request allocate $693.0 billion and $716.0 billion, respectively, for the defense department and defense activities of the Department of Energy, representing 15.0% and 19.0% increases over the FY2017 budget, constrained as it was by the Budget Control Act. These bills represent the largest year-over-year increases in defense spending since the 2003 invasion of Iraq, and increases for defense IT spending exceed 20.0%. While these amounts are significant, what is perhaps more impactful for the market is the increasing likelihood of a two-year budget deal and the certainty it offers for long-range planners. Our view is that a comprehensive budget deal that trades immigration for border security will arrive shortly. Should this come to pass, acquisition officials can contemplate significant new program starts and legacy program terminations and transitions for the first time in almost a decade. Executive commitment to IT modernization and transformation: The ability to engage in real strategic planning and programmatic actions is a critical enabler of the administration s commitment to transform federal IT infrastructure through modernization and to enhance the efficiency of its business practices, as noted in last year s edition. In 2017, only 21.0% of IT spending was allocated to new development vice the maintenance of legacy systems, down from roughly a third in The most tangible evidence of the effort to reverse this trend is the inclusion of the Modernizing Government Technology Act in the NDAA and the issuance of the American Technology Council s IT Modernization Report. While the monies associated with the Act are relatively marginal at $500.0 million, we believe the policy prescriptions are long overdue and provide a pathway for government executives to shift fiscal resources to new, transformational programs (more on this below). Civilian agencies partially spared: We remarked a year ago that in our experience it is more challenging to offset increases in defense investment with reductions in civil agency accounts than policymakers might have us believe. Our prediction at the time was that Congress would restore these cuts in some measure, a reality borne out by the latest Congressional budget deal, which restores significant civil agency spending to the tune of $120.0 billion, while preserving increases in defense and national security budgets. We expect the rapid pace of transactions to continue through the balance of the year as an improved outlook for govt IT services drives M&A activity and valuations for well positioned middle market firms EV/Revenue Publicly Traded USG Services Index Valuation January 2014 February x 19 x 1.2 x 14 x 1.0 x 0.8 x 9 x 0.6 x 0.4 x 4 x Swelling cash reserves chasing deals: Finally, the Tax Cut and Jobs Act of 2017, combined with persistently accommodative corporate debt markets, means that market participants will be afforded even more excess cash over the next several quarters. This is good news for the M&A market as strategic acquirers at the top of the food chain Mean EV/Revenue Mean EV/EBITDA Source: Capital IQ look to aggressively deploy capital to gain access to next-generation IT modernization capabilities, coveted high growth customers, and strategic contract vehicles EV/EBITDA These optimistic market drivers have finally been matched by a series of positive earnings reports turned in by public pure play government IT services firms, fueling a sustained expansion of equity values as of the drafting of this report, with virtually the entire index trading at more than twelve times trailing EBITDA and SAIC and MANT at more than 13x. In addition, this past month witnessed the filing of the first IPO in the sector in over two years, Prospecta (the combination of DXC s public sector business and Veritas Capital portfolio companies Vencore and Keypoint), a significant vote of confidence from the investment community. 21

22 Transformational M&A: An Elongated Tail and We re Not Done Yet Since this section of the report s inaugural edition in 2014, we have been tracking a remarkable period of consolidation amongst the largest contractors that shape the Government IT sector. In 2017 it looked as if this process was coming to a completion phase, as we awaited a few large transactions to round out the process. Uncertainty, however, is the surest way to slow deal making and assessing the impact of the 2016 national elections took some time, during which large scale transactions ceased after the acquisition of Harris IT business (renamed Peraton) by Veritas Capital in early Now that the business and fiscal landscape has taken shape in a form laced with positive characteristics, the backlog of transformational deals has proceeded, with an estimated $17.0 billion in deals already announced as of the end of February 2018 (taking into account a conservative approximation of value for the Prospecta IPO, which features $4.3 billion in topline revenue). General Dynamics $9.7 billion deal for CSRA is a significant event for the industry as it represents the first example of a Tier 1 contractor dipping back into the IT services space with a scaled acquisition in more than a decade. The bidding war for CSRA is not over yet, as CACI recently submitted an unsolicited $10.0 billion offer for the company that mixes cash and stock, prompting General Dynamics to increase its offer as of the drafting of this document. The competition over CSRA is a further indication of the underlying strength of the market. The On Assignment acquisition of ECS Federal is unique in featuring a commercial technology and human capital firm buying into the federal market on the current upswing. As industry executives continue to analyze the fiscal environment over the balance of the year, we expect a small number of additional transformational deals, possibly involving other Tier 1 contractors, certainly amongst the public pure play IT services firms, and with increasing interest from adjacent market leaders. EV ($ Billions) Transformational Transaction Volume and Value January 2014 February 2018 $2.0B $18.3B $5.0B $0.7B $11.0B YTD Total Enterprise Value No. Transactions # Transformational Transactions Source: Capital IQ, company earnings reports and press releases, Capstone Headwaters Research Transformational Transactions, January February 2018 ($ in millions) $ in millions TTM EBITDA EV/TTM Date Type Target Buyer Seller Rev EBITDA Margin % EV Rev EBITDA Pending IPO Prospecta IPO Veritas Capital $ 4,300 $ % tbd tbd tbd Feb-18 M&A PWC Public Sector Veritas Capital PWC undisc. undisc. undisc. undisc. undisc. undisc. Feb-18 M&A CSRA GD (CACI) Public $ 5,064 $ % $ 9, x 11.6 x Feb-18 M&A ECS Federal On Assigment Private/LG $ 586 $ % $ x 11.0 x Jan-17 M&A Harris IT Services Veritas Capital Harris Corp $ 1,070 $ % $ x 8.1 x Jan-16 M&A LM IS&GS Leidos LM $ 5,000 $ % $ 5, x 10.5 x Dec-15 M&A L-3 NSS CACI L-3 $ 1,032 $ % $ x 10.6 x Nov-15 IPO CSRA IPO CSC $ 5,459 $ % $ 8, x 9.0 x Aug-15 M&A SRA SRA International CSCGov $ 1,400 $ % $ 1, x 10.6 x Aug-15 M&A Novetta Carlyle ACP undisc. undisc. undisc. undisc. undisc. undisc. Apr-15 M&A Websense Raytheon Vista Equity $ 375 $ % $, x 30.7 x Mar-15 M&A Scitor SAIC LG&P $ 600 $ % $ x 10.6 x Feb-15 M&A Exelis Harris Public $ 3,122 $ % $ 4, x 9.3 x Nov-14 M&A Blackbird Raytheon Private undisc. undisc. undisc. $ 420 undisc. undisc. Oct-14 M&A TASC Engility KKR/GA $ 1,100 $ % $ 1, x 12.2 x Sep-14 IPO Vectrus IPO Exelis $ 1,245 $ % $ x 3.2 x Apr-14 M&A QinetiQ NA Vencore QinetiQ $ 740 $ % $ x 5.7 x Sep-13 IPO Leidos IPO SAIC $ 6,307 $ % $ 4, x 5.8 x Source: Capital IQ, company earnings reports and press releases, Capstone Headwaters Research 22

23 Next Generation IT Modernization: A Closer Look Last year at this time, we postulated that the language coming out of the new administration held the potential for accelerating the adoption of best practices for government business with specific takeaways for IT and service support contractors. Since then, the combination of increased competition and accountability, a commitment to IT and process modernization at the infrastructure level, and budget clarity, appears to be transforming the landscape in meaningful ways. As noted above, we see the passage of the IT Modernization Act is a significant event for the industry and the accompanying IT Modernization Report contains useful guideposts. While real impact is necessarily at the programmatic level, a shift toward new development vice the maintenance of legacy systems can be anticipated, increasing uncertainty for established players and creating opportunities for well positioned firms with investments in next generation technologies. Indeed, the report calls on agencies to emphasize reprioritizing funds and consider cut and invest strategies that reallocate funding from obsolete legacy IT systems to modern technologies, cloud solutions and shared services, using agile development practices. The report laments an unwieldy and out-of-date federal IT infrastructure incapable of operating with the agility and security that is required of a multibillion dollar federal IT enterprise and prescribes the maximum use of shared services and commercial capabilities to rapidly and iteratively eliminate barriers to cloud adoption.that can deliver improved functionality and drive cost efficiencies to improve government operations. Security is natuarlly an essential component of the strategy, particularly as it relates to cloud computing, where the report calls for agencies to update relevant network security policies and architectures to focus on both network and data-level security and privacy, while ensuring incident detection and prevention capabilities are modernized to address the latest threats. The priorities identified here are not surprisingly those that feature prominently in the middle market M&A transactions we observed (and closed) over the past year and continue in our active banking projects today: cyber security, cloud computing and migration, and mission-focused national security domains. Market On Fire: Record M&A Transaction Volume, and Rising Last year, we noted an overall decline in the volume of Government IT M&A transactions, but pointed to a brisk start to 2017 as a harbinger of things to come, and the activity did not disappoint. By most measures 2017 was a record year for M&A in the sector. The 59 deals closed in 2017 is a 13.0% increase over 2016 levels and the most active market we have seen for at least five years. While some of the activity can be attributed to the release of a pent up backlog of deals heading into 2017, the explosion of deals we have already seen struck in the first two months of 2018, combined with coalescing market tailwinds and factors promoting premium valuations, leave us optimistic about the balance of the year. US Government IT Services M&A Annual Transactions by Volume # Transactions YTD Annualized Source: Capital IQ, company earnings reports and press releases, Capstone Headwaters Research 23

24 For the first three years we compiled this section of the report, middle market M&A activity was consistently focused on five targeted capability areas that offer access to high growth market subsectors or are difficult to build internally, or in many cases, both. In reviewing the activity of 2017, however, we note a marked shift toward larger transactions that feature more diversified IT and service organizations. Therefore, while niche deals in cyber security, cloud computing, and intelligence were certainly targeted, each gave way as a percentage of total deals to more diversified service providers. A notable exception to this trend was the C4ISR space, increasingly in favor in response to mission critical DoD investments, which more than doubled its share of total transactions to 11.0%. As predicted in these pages last year, M&A featuring healthcare IT, once a darling of the sector (accounting for 9.0% of all 2016 transactions), ground to a halt, reflecting the dramatic nature of shifting budget priorities. US Government IT Services M&A Transactions by Subsector IT/Services 45% Healthcare IT 1% C4ISR 11% Cyber 19% Cloud Computing 13% Intelligence 11% Source: Capital IQ, company earnings reports and press releases, Capstone Headwaters Research The shift in acquisitions toward more diversified IT and services firms is a tangible reflection of the industry s increasing confidence in the overall direction of the marketplace fueled by an emerging fiscal reality defined by larger discretionary outlays, long-term budgetary planning, and new programmatic opportunities. It should be noted here, however, that a multitude of diversified IT and services targets do participate to a degree (some to a significant degree) in the following high growth subsectors: Cyber security and operations: Once again, cyber security and cyber operations are at the top of seemingly every policymaker s priority list. The administration s official FY2019 budget requests $15.0 billion for cyber security, a 15.0% increase from FY2017 levels. If classified cyber programs are included, however, estimates are for an increase of more than 30.0% from FY2017 levels, making this segment far and away the fastest growing within the Government IT market. Niche cyber transactions accounted for nearly 20.0% of all transactions closed over the past 14 months, and were a meaningful component of several more diversified firms acquired. Cloud computing and data analytics: The migration of federal solutions to cloud platforms has been gaining speed ever since the Obama administration worked with Amazon to establish GovCloud. Key barriers to resistance center on security. As protocols are implemented to satisfy these concerns, however, Microsoft is rolling out a tailored Microsoft Azure Stack/ Government offering as a competitive offering. While federal spending on cloud computing is forecast to grow at a compound annual growth rate of 16.0% to more than $10.0 billion by 2023, we believe near-term growth may outpace this rate given the priority placed on adoption by executive directives. Pure play cloud computing and attendant data analytics firms represented 13.0% of deal volume. As with cyber security, many diversified IT firms are also leveraging their knowledge of customer s business rules and operations on cloud migration and managed services projects. Intelligence operations and support: Historically one of the most resilient segments of the discretionary budget, spending for Intelligence Community (IC) agencies has received a significant boost as a result of the administration s planning, to $81.0 billion from $73.0 billion in FY2017, or a two year increase of 11.0%. As previously discussed, companies in this sector are differentiated by security clearances, unique technologies, high customer fidelity and a prevalence of prime contract vehicles, even for smaller firms. Intelligence firms comprised 11.0% of transactions closed. C4ISR: Last year, we predicted renewed emphasis on transactions featuring C4ISR capabilities as a result of commitments to speed critical enabling technologies to the warfighter. In this subsector, an increase in drone operations, investment in intelligence gathering platforms, and the national priority placed on missile defense are driving interest. Firms in this sector are providing software, engineering, and training services that allow advanced technologies to impact mission success. C4ISR deals accounted for 11.0% of deals closed, more than twice the portion in

25 When we analyze completed deals by buyer type, a shift among the population is noteworthy. The year 2017 witnessed the entrance of a large number of non-traditional acquirers: diversified technology and service companies with a private sector focus, and a greater number of financial buyers. Diversified buyers comprised 20.0% of all deals completed, or roughly twice the portion of a year ago, and financial buyers were 23.0% of completed deals, up from 13.0% a year ago. Notable among the diversified industry buyers were deals by On Assignment (ECS Federal), Jacobs Engineering (Blue Canopy), Tetra Tech (Bridgenet), and KBR (Stinger Ghaffarian). Sector specialist private equity was quite active (Veritas Capital, Arlington Capital, DC Capital, AE Industrial Partners, Enlightenment Capital) and was joined by generalist firms stepping back into the space (HIG Capital, Hammond Kennedy Whitney). The evolution of the buyer population has proceeded a bit more rapidly than expected and is a further sign the market is heating up. How Long Will The Fire Burn? US Government IT Services M&A Transactions By Buyer Type, January 2016 February 2018 Diversified 20% PE-Backed 12% Financial 23% Strategic 45% Source: Capital IQ, company earnings reports and press releases, Capstone Headwaters Research While 2016 was characterized by uncertainty and caution, it was a period of anticipation for the M&A markets, as industry executives readied investment plans to roll out as underlying market fundamentals revealed themselves to support long-term investment theses. A strong M&A backlog promoted a high level of activity in Q and the pace of dealmaking continued throughout the year, yielding a record year for transactions. Now, as the fiscal picture has brightened considerably and the industry contemplates a two-year budget to plan around, the pace of M&A transactions has only increased. Valuations of publicly traded firms in the space are now approaching a 10-year high. Excess cash will be buoyed further by corporate tax cuts, increasing pressure on executives to deploy capital. Rather than buying back stock that is already fully priced or increasing dividends, we anticipate aggressive M&A programs will target the few remaining large scale government IT firms at the sub $2.0 billion revenue level (and possibly some larger) and fast growing middle market firms that offer superior positioning on strategic contract vehicles and capabilities in the areas of cyber security, cloud computing, data analytics, and the coveted mission areas intelligence and C4ISR. While the cuts to civil agencies may not be as draconian as once feared, this segment will display relative weakness to the defense sector due to budget prioritization. As we look toward the balance of 2018 and beyond, the elements are in place for a period of sustained strength in the Federal IT M&A market. Middle market deals are generating competitive interest yielding premium valuations on a consistent basis, and from a variety of quarters. Further and deeper involvement of non-traditional buyers and investors only serves to stretch the valuation curve further. Our own experience in the marketplace, with completed deals last year and active projects this year, bears this out as competitive intensity has driven industry-leading valuations, exceeding client expectations. Given these dynamics, we would not be surprised if 2018 was another record year for deal volume and one of the best for valuation in recent memory. While interest will continue to be focused on strategic high growth niches, we expect competitive processes will leverage a broader population of buyers to drive value for more diversified businesses 25

26 CYBER SECURITY: ESCALATION AND CONSOLIDATION Continued Growth Amid Record Breaches Exponential growth in the importance of information security continues as the world becomes ever more reliant on constant internet connectivity and secure data flow. Rising in lock step with internet reliance, cyber crime continues to wreak havoc on intellectual property secrets, consumer PII, cryptocurrency assets, elections, and general well being. All sectors of the economy have been victimized with business, healthcare and banking being favorite targets. In 2017, cyber criminals deployed more sophisticated strains of ransomware, cryptoworms and malware. Multiple variants of WannaCry and NotPetya increased attack rates on companies across the globe to every 40 seconds. Cyber defenses proved to be vulnerable with 71.0% infection rate for companies targeted by ransomware. The Yahoo and Equifax breaches were the largest ever reported with more than 3.0 billion accounts compromised. Looking ahead, vulnerabilities and risk will be compounded by the proliferation of the Internet of Things including connected homes, cars, trucks, factories, combat vehicles, etc. By 2021, annual cyber security damages are predicted to reach an astonishing $6.0 trillion. Medical / Healthcare 28% Government 5% Hacking Attempts During 2017 Educational 9% Banking / Credit / Financial 6% Business 52% Source: Barkly, Must-Know Ransomeware Statistics 2017 Expanding Cybersecurity Market The sheer magnitude of these losses is driving double digit corporate and government cyber security budget increases with spending on cyber security products and services projected to exceed $1.0 trillion over the next five years and a compound annual growth rate of 12%-15% during the five year period. Continued rapid growth in cyber security is to be expected as threats increase, more devices become connected, and compliance requirements strengthen Government spending outpaced market growth in 2017 climbing by 36.0% from $14.0 billion in 2016 to $19.0 billion in Federal resources are being marshalled to support broader-based strategies for securing critical infrastructure and government operations. Global Security Spending by Segment, Total Spending Consumer Security Security Services Network Security Infrastructure Protection Identity Access Management 0 20,000 40,000 60,000 80, , ,000 ($s in millions) Source: Gartner, Gartner Forecasts Worldwide Security Spending Will Reach $96 Billion in 2018, Up 8 Percent from

27 From 2016 to 2017, total cyber security spending increased by 8.0%, from $82.0 billion to $89.0 billion with this number expected to reach $96.0 billion by the end of By order of magnitude, Security Services represents the largest Cyber Security market segment at $58.0 billion followed by Infrastructure Protection at $18.0 billion projected for Although Network Security Equipment and Identity Access Management are smaller at $12.0 billion and $5.0 billion, respectively, they represent sizable sub-markets. All sectors are growing with Network Security Equipment increasing most quickly at 11.0% year-over-year. Surging M&A As Sector Consolidates Cyber security deal making accelerated in 2017 as venture capitalists, private equity and strategic acquirers aggressively pursued opportunities in the sector. In 2017, the volume of M&A transactions increased by 47.0% from 137 in 2016 to 201 in At the same time, the value of deals more than doubled from $19.0 billion to $42.0 billion. The increase in the average size reflects the continued evolution of the industry as start-ups mature into larger enterprises and consolidators seek to build broader solutions and increase market share. The heightened transtion activity in 2017 was driven by several large acquisitions. Thales acquisition of Gemalto for $6.8 billion or 1.8x LTM revenue was last year s largest transaction. Other notable transactions include: Symantec Corporation acquired LifeLock for $2.5 billion or 3.6x LTM revenue of $758 million. Thoma Bravo acquired Barracuda Networks for $1.4 billion or 3.8x LTM revenues of $367 million. ID Watchdog was acquired by Equifax for $63 million or 5.6x LTM revenues of $11 million. Other M&A highlights include: Mercury Systems acquisition of Themis Computer for $180.0 million; Prooftpoint s acquisition of Cloudmark and Weblife for $110.0 million and $60 million, respectively; Capital Management s acquisition of Actiance for $100.0 million; and Growth by Cybersecurity Segment 14.00% 12.00% 10.00% 8.00% 6.00% 4.00% 2.00% 0.00% 14,000 12,000 10,000 8,000 6,000 4,000 2, % Network Security Equipment 9.40% Identity Acc ess Management 8.70% Security Solutions Total Spending Growth (8.4%) 7.00% Infrastructure P[rotection Protection 1.40% Consumer Security Soft ware Source: Gartner, Gartner Forecasts Worldwide Security Spending Will Reach $96 Billion in 2018, Up 8 Percent from $9, M&A Review 48 $12,290 $6, $13,067 Q1'17 Q2'17 Q3'17 Q4'17 Total Transaction Value Total Transaction Volume Source: Capital IQ and company press releases StarHub s acquisition of D Crypt for $90.0 million. Managed Security Services Providers (MSSPs) were the most actively targeted group of cyber security companies in 2017 accounting for 14.6% of all transactions up from 12.0% in The next category of sellers was Identity & Access Management providers at 14.0% in 2017 up from 9.0% in

28 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% 12% 15% 14% 13% 17% 11% 2017 M&A Activity: Relative Transaction Volume by Industry Sector % 8% 8% 7% 6% 5% 6% 6% 6% 5% 5% 5% 6% 6% 4% 3% 3% 4% 3% 3% 3% 2% 2% 2% Source: Capital IQ and company press releases Venture Capital Activity Venture capitalists continue to actively pursue growing companies with differentiated value propositions in the cyber security sector. In 2017, 326 venture capital financings totaling $4.5 billion were completed representing a significant increase from 2016 during which 268 VC deals totaling $4.3 billion were done. Notable venture capital financings include: SmartSky s Networks raise of $170.0 million from a syndicate of investors including Meritage Funds. Skybox Security raised $150.0 million from CVC Capital Partners and Pantheon Financing Activity: Relative Transaction Volume by Industry Sector , , $13, ,000 $12,290 $9,975 8, ,000 $6,889 4, , Q1'17 Q2'17 Q3'17 Q4'17 BlueteamGlobal raised $125.0 million from a syndicate of investors including DNS Capital. Total Transaction Value Total Transaction Volume Source: Capital IQ and company press releases Illumino raised $125.0 million from a syndicate of investors including Andreessen Horovitz, General Catalyst, 8VC, Accel and Data Collective (DCVC). 28

29 Public Companies The cyber security-focused Exchange Traded Fund (ETF) HACK, climbed 20.0% from 2016 to 2017, with a peak of $32.0 on December 18th. During the year, the mean Hack Enterprise Value/EBITDA multiple decreased from 29.5x to 20.1x, while the average Enterprise Value/Revenue multiple decreased from 3.7x to 3.4x. Cyber stocks generally outperformed the broader market by a few points, owed to strong growth from Palo Alto Networks (NASDAQ:PANW) and Check Point Software (NASDAQ:CHKP). In 2017, significant initial public offerings (IPOs) from cyber security companies included: Okta IPO, which debuted in March at $38.07 per share but fell to $32.71 per share by the end of the year; ForeScout IPO, which priced at $22.0 per share in October and jumped to $31.89 per share by the end of the year; SailPoint IPO, which initially priced at $13.0 per share in November increasing to $14.50 per share by the end of the year. A maturing of the industry points to an ongoing consolidation as suppliers broaden their customer offerings and the need to outsource continues 2018 Outlook Looking ahead, emerging trends include: Growth in the Internet of Things to more than 20.0 billion connected devices by 2020, leading to significant venture capital investment and M&A transaction activity; Increased compliance activity including the European Union s (EU) passing of the General Data Protection Regulation (GDRP) will force further spending increases on cyber security. GDRP is a broad measure aimed at every business with a web presence or marketing campaign in the EU. This will impact U.S. based companies across many industries, requiring data breach notifications within 72 hours. Note that the EU is not alone in stepping up regulatory requirements as existing cyber regulations significantly beefed up in 2017 in the United States, as well. The increasing compliance requirements globally should be a boon in business for large consulting firms and drive consolidation activity in the services sector. Rationalization of the total number of cyber security firms from the current total of approximately 1,440 unique cyber security companies across 35 countries currently. A reduction in the total number of vendors would help purchasers of security products and services in their decision making process and allow vendors to have economies of scale. Increased outsourcing to MSSPs to enable the shift from capital expenditures to operating expenditures while maintaining or improving the quality of network and data security. Cyber security remains critical to allowing global economic growth in the years ahead. The critical and universal need for this protection is driving growth rates for a market that is already enormous. Investors and deal makers view this as a fruitful area ripe for high returns on investments. 29

30 MILITARY AND COMMERCIAL SIMULATION AND TRAINING Simulation & Training has seen significant activity bringing improved technology capabilities and cost advantages to both commercial and military markets. Large strategic and private equity players have made acquisitions in commercial flight simulation to access a sizeable market and target pilot shortages, while strong growth has been seen in military adoption as improved reality and gaming technologies have met greater training needs and increased availability. From an M&A perspective, the most notable recent activity again involved United Technologies announced $30.0 billion acquisition of Rockwell Collins, a major Simulation & Training (S&T) player that has multiple business units. While such broad-based blockbuster transactions are difficult to predict from solely an S&T vantage point, look for sector M&A activity to continue. Transactional activity involving service providers to the military will likely favor situations relating to innovative uses of simulation and training technology that either enhance product fidelity, integrate different training activities or facilitate and control access to training content. From a commercial perspective, we expect acquisition demand to continue for S&T businesses that help address the looming pilot shortage as well as those that support the up-cycle in orders and production of new aircraft that is occurring throughout the globe. Military training activities have evolved over the past decade and notably the use of virtual training products and services has increased. This in-part reflects the on-going need to help troops be battle-ready or perform other defense-related functions regardless of the availability of funding. It also reflects the recognition that high fidelity S&T is not just cost-efficient but is valuable and can be tactically used along with other training media. Overall, increases in spending levels outlined in the FY19 U.S. Defense Budget will benefit this sector over the near term, but the prior funding disciplines imposed on the DoD no doubt have impacted how mission critical needs for the military are presently supported by S&T and particularly how technology will be leveraged to support them. The importance of S&T activities is recognized by the highest levels of the military. In fact, in a recent speech by Former National Security Advisor and retired three-star general H.R. McMaster at the U.S. Naval Academy, he addressed the importance of training to help warriors overcome the debilitating effects of fear in combat. Such needs are on-going for every generation of warriors and must be addressed through S&T methodologies. McMaster generally noted that confident, cohesive teams are built through tough, realistic training and specifically noted, Confidence and cohesion serve as psychological protection and bulwarks against combat stress and fear in battle. Much of the stress that soldiers experience in combat stems from uncertainty and doubt. Training must, therefore, replicate the conditions of combat as closely as possible. While such needs do not change since sequestration, the ability of the military to replicate the conditions of combat has been impacted, both negatively and positively, by cuts to the defense budget as well as by technology advances. While the cost-prohibitive and riskier nature of live military training has limited its availability, the increased fidelity offered by virtual training products today and their enhanced ability to suspend disbelief are offering economically viable and attractive training alternatives that have grown in use. Virtual S&T programs provide immersive environments and experiences for soldiers that can be PC-based or involve the use of simulators and enable routine training. This type of training cannot completely replace live exercises but it offers valuable replicability and does substantially reduce the need for training that puts human lives at risk. The T&S market is now trending towards mixed reality training involving not just live, virtual, and constructive simulation but also the use of gaming technology. We expect continued activity as improved reality technology and cost effectiveness satisfy flight training needs of commercial pilot shortages, and create new training methods for the military 30

31 Technology continues to improve the functions of classroom instruction and is complemented with growing use of instructional software, access to higher fidelity weapons engagement simulators, improved force on force training products and integrated joint exercises. Computer-based training systems now regularly include e-learning and live streaming and there are even stored military training options, which include serious war games and war apps. These solutions also are offering increased ability not just for greater immersion, but for performance-based measurement and individualized instruction too with intent to improve overall training effectiveness. The virtual simulations also help perfect activities subsequently performed at Combat Training Centers and aid success in activities such as major mission rehearsal exercises. Given the natural linkages between the manufacture of military equipment and the need for training to use it, the large players in the T&S market include major defense contractors serving air, land and naval needs, but particularly those serving aviation-related markets. Major players include Boeing, Lockheed Martin, General Dynamics, Northrop Grumman, Raytheon, L-3, Textron, and Rockwell Collins. The market also includes more training-focused niche players such as CAE and Cubic and technology-focused players like Bohemia Interactive, a portfolio holding of The Riverside Company, that supports military simulations using video game technology. In addition to The Riverside Company, companies that have been active acquirers of military S&T operations include Dos Rios Capital, Cubic, Havelsan, Rockwell Collins, Esterline, and Textron. On the commercial end of the market, both private equity and large corporate players have recently been active acquirers of S&T businesses, most often to target the opportunity to address pilot shortages. Notably, Airbus just announced the acquisition of Strategic Simulation Solutions and both L-3 and CAE have completed sector acquisitions within the past 24 months. Private equity players currently with flight training investments include Sterling Partners, J.F. Lehman and Renovus Capital. According to conventional estimates, the global military S&T market in the U.S. is estimated at $11.0 to $14.0 billion and is estimated to grow annually in the % range. Demand remains strongest in the U.S., dominated by flight simulator products. However, the use of virtual and gaming-based simulation is expected to increase in demand at much greater rates than the overall market (i.e. 70.0% growth over the next decade) due to increased adoption with growth in demand for more traditional simulation equipment tied closely to equipment modernization and upgrades. PEO STRI, the U.S. Army s acquisition and contracting center of excellence for Simulation, Training and Testing solutions identifies training technology as a key readiness enable of the armed forces. Its announced present intension is to be focused on maintenance of Army training devices (TADSS) and to create Synthetic Training Environments (STE) that enable commanders to train the way one fights no matter where trainees are located. It also announced its intent to establish a training and readiness accelerator to gain quicker access to leading edge technologies that can enhance mission effectiveness for soldiers. 31

32 A LOOK TO FUTURE M&A ACTIVITY The structural factors underlying sector M&A activity, namely an industry dominated by an airframe duopoly, powered by a handful of engine makers, and the reactive efforts a vast fragmented but consolidating supply base are likely to continue for years to come. However, the level of activity over any given period is inevitably driven by the economic temperature and ambitions of industry participants. Suppliers building-out systems and combining to become increasingly important to OEMs is likely to continue, and private equity players in the near term have ever larger amounts of capital to put to work, pursuing their favored aggregation and consolidation strategies. The very nature of consolidation, however, is that there are ultimately fewer players left to transact. Structural factors underlying sector M&A including dominant OEMs and a consolidating supply base are likely to continue for years to come. However, the level of activity is driven by the economic temperature and ambitions of industry participants, and is particularly sensitive to potential Asia Pacific shocks News from commercial aerospace has continued to be strong with record levels of passenger traffic, aircraft orders rebounding, and industry backlogs at exceptional levels, particularly for single aisle planes. However, the sector is highly dependent on two customer categories each responsible for 40.0% of sales where shocks could have a significant impact, namely: Rapid expansion of the Asia Pacific fleet; and Continued capital inflows to aircraft leasing, which have also been increasingly from Asia. Increases in defense spending are fueling expectations of increased M&A in defense and defense IT, while technology advances are also driving acquisitions. In defense, in addition to M&A in C4ISR, cyber, and enabling technologies, large primes are likely to use acquisitions as a tool to fill gaps in areas of the Pentagon s Great Power spending priorities including hypersonics, autonomy, space, directed energy, electronic warfare and artificial intelligence. Increases in defense spending are fueling expectations of M&A in defense and defense IT, while technology advances are also driving acquisitions as: prime defense fill gaps in Great Power; IT providers access growth areas; cyber players consolidate solutions; and simulation methods evolve In government IT services, we expect the rapid pace of transactions to continue through the balance of the year as an improved outlook for the sector drives M&A activity and strong valuations for well positioned middle market firms. While interest will continue to be focused on strategic high growth niches, we expect competitive processes will leverage a broader population of buyers to drive value for more diversified businesses as well. Continued rapid growth in cyber security is be expected, as threats increase, more devices become connected, and compliance requirements strengthen. In response, from an M&A perspective, a maturing of the industry points to an ongoing consolidation as suppliers broaden their customer offerings and the need to outsource continues. Within Simulation & Training, we expect continued activity as improved reality technology and cost effectiveness satisfy flight training needs of commercial pilot shortages and create new training methods for the military. 32

33 AEROSPACE & DEFENSE COMPONENT MANUFACTURING Date Target Description Acquirer 01/01/17 Integral Aerospace Manufactures flight subsystems & components for military & commercial aircraft Admiralty Partners 01/04/17 Overhead Door, Aviation Specialty Manufactures & builds airplane hangars Reddi Industries 01/23/17 ACAF Systems Fire suppression systems for aviation, marine, military, other Platanen Holding AB 01/26/17 Mega Machine Shop/ Mega Arms Manufactures firearm weapons for left and right handed shooters ZEV Technologies 01/27/17 Superion Manufactures metal cutting tools for aerospace, defense, other Allied Machine & Engineering 01/27/17 AMK Welding Welding and machining services to aerospace Meyer Tool 01/30/17 Puris Titanium powder for additive manufacturing for aerospace, other Carpenter Technology 02/01/17 Quatro Composites Manufactures advanced composite components for aerospace, defense AIM Aerospace [Liberty Hall] 02/01/17 Helac Corp. Hydraulic actuators, construction equipment attachments for military, mining, other Parker-Hannifin 02/01/17 BMB Solutions Composites Composite materials & supplies to aerospace, transportation, industrial Synergy55 02/02/17 Terra Bella Technologies Designs, builds, operates imaging satellites Planet Labs [Multiple VCs] 02/08/17 ETI Tech Electro-mechanical flight hardware & ground support equipment for A&D Soaring Pine Capital 02/16/17 Brek Manufacturing Manufactures machined parts & sub-assemblies including structural for aerospace Aernnova Aero 02/16/17 LMI Aerospace Structural assemblies, kits & components for aerospace & defense Sonaca SA 02/21/17 IAP Research Electromagnetic metal forming technology & processing of metals & ceramic powders BAE Systems plc 02/22/17 L-3 Coleman Aerospace Air & ground launched ballistic missile targets & planning for US missile defense Aerojet Rocketdyne 02/22/17 SCHROTH Safety & TAKATA Protection Restraint systems, seat belts, other safety for aircraft, defense, race cars, other TransDigm Group 02/28/17 Ibis Tek Defense & protection products including bullet resistant glass, armor RockWood Equity Partners 03/02/17 Ti Nanotech Titanium covered & nanomaterials for armored shields/military, consumer Syndetix 03/16/17 Scott Technologies Respiratory, personal protection equip for military, homeland sec, fire, police 3M Company 03/28/17 Aircraft Fasteners International Distributes high performance fasteners for aerospace, electronics, defense Audax Private Equity 03/28/17 Aerospace Holdings/ GroupAero Design & machining of complex parts & tooling for aerospace & defense Harlow Aerostructures 03/28/17 BVR Technologies Motion controls, avionics, gears, actuators for aerospace, other Kaney Group 03/29/17 PAS Technologies Manufacturer & MRO for aerospace blades & engine components StandardAero, Inc. [Veritas] 03/29/17 Bulova Technologies Ordnance Systems Manufactures fuses, arming devices, explosive simulators, ammunition for US govt Arc Technologies 04/03/17 Whitcraft Machined & fabricated sheet metal aerospace components Greenbriar Equity Group 04/03/17 Applied Technology Integration Engineering services for aerospace, defense, vehicles Groupe SEGULA Technologies 04/05/17 Jiffy Air Tool Air tools for aerospace industry - fastener installation, drilling, tab shears P&F Industries 04/11/17 Adcole Maryland Aerospace Micro & cube satellites, space borne components Adcole Corp. 04/18/17 Manufacturing Support Industries Manufacturing services for military avionics, ground & space vehicles, weapons Craig Technologies 04/19/17 First Tactical Functional gear online for law enforcement, fire, EMS Point Blank [JLL Partners] 04/28/17 PolyAero Supplies military & aerospace fasteners Park-Ohio Holdings 04/30/17 Advatech Pacific, Tactical Cross Domain Products enable secure communication of classified information General Dynamics 05/01/17 Tecomet Metal components for aerospace, defense, medical, industrial Charlesbank Capital 05/02/17 AIRCO Group Aircraft components & related services Air T, Inc. 05/15/17 Classic Precision Aerospace fuel delivery & combustion turbine engine components Stratadyne 05/19/17 Open Water Power Undersea power generation for UUVs, ocean-floor sensors, sonobuoys L3 Technologies 05/24/17 NOVAerial Robotics Manufactures unmanned aerial drone helicopters Global UAV Technologies 06/01/17 Qualiseal Technology Custom-engineered mechanical seals for aerospace EnPro Industries 06/05/17 Engine assembly maint' Lockheed Martin Facilities comprises defense engine assembly & aircraft maintenance StandardAero [Veritas] 06/05/17 North Lansing Plant of Demmer Armored equipment & vehicle manufacturing operation for defense Loc Performance Products 06/05/17 Graco - Ball Ground Sealant Repackaging Aircraft sealant repackaging business H.B. Fuller 06/06/17 Fore Machine Company Aerospace component manufacturing P4G Capital Management 06/06/17 Aero Components LLC Manufactures & supplies aircraft components & parts P4G Capital Management 06/06/17 Halo Industries Manufactures precision machined components for aerospace Elite Aerospace Group Source: Capital IQ 33

34 AEROSPACE & DEFENSE COMPONENT MANUFACTURING (CONTINUED) Date Target Description Acquirer 06/07/17 Cobra Systems Barbed tape, security deterrents for military operations, industrial, prisons Atkore International 06/20/17 Carbon by Design Manufactures unmanned systems, space systems, advanced materials HEICO Corporation 06/23/17 Automated Dynamics Composite structures & processing equipment for A&D, other Trelleborg AB 06/27/17 Terrafugia Research, development, manufacture, marketing of flying cars Zhejiang Geely Holding 06/29/17 Universal Stainless & Alloy Products Semi-finished, finished specialty steel products for aerospace, other Synalloy Corporation 06/29/17 Honeybee Robotics Robotic systems for aerospace, planetary exploration, other Ensign-Bickford Industries 06/30/17 Astro-Tek Industries Manufactures aircraft parts, machinery White Wolf Capital 07/05/17 CPI International Microwave, RF, control products for defense, communications, other Odyssey Investment Partners 07/05/17 Gemini Technologies Designs & manufactures firearm silencers & sound suppressors American Outdoor Brands 07/18/17 Mechtronic Solutions Airborne technical packages, aerospace test systems, laboratory apparatus Sierra Peaks 07/20/17 LaserMax Corp - Commercial Business Develops laser sighting & tactical lights for defense & protection Crosman Corp 07/24/17 SAFE Aviation Solutions Testing, repair, overhaul, modification of fuel systems & hydraulics B&E Group [MPE Partners] 08/01/17 Syncroness Product development engineering services including for aerospace Alten SA 08/01/17 Performance STOL Double-slotted flap system for small aircraft Airframes Alaska 08/08/17 Cyalume Technologies Reflective, chemiluminescent, photoluminescent materials to military Arsenal Capital Partners 08/10/17 C&A Tool Engineering Metal components including for aerospace, motion control, flight simulation MinebeaMitsumi 08/14/17 Wellman Dynamics Aluminum & magnesium sand castings & components for aerospace TCTM Financial FS 08/21/17 Sierra Bullets Manufacture & sale of bullets for shooters Clarus Corporation [Kanders] 08/24/17 Tex Tech Industries Manufactures ballistic protection armor products for military, law enforcement Arlington Capital 09/01/17 WestWind Group Engineering, manufacturing, warehousing, distribution, services to aerospace Strata-G Solutions 09/01/17 The Govmark Testing Services Fire and flammability testing services including for aircraft interiors SGS SA 09/02/17 Royal Adhesives & Sealants Manufactures adhesives, sealants, coatings for aerospace, defense, other H.B. Fuller 09/10/17 B&F Design Precision engine assembly equipment & repair tooling Cyient Limited 09/11/17 Connecticut Coining Manufactures precision metal parts for aerospace, defense, other MavenHill Capital 09/11/17 Lightning Diversion Systems Lightning protection products for military & commercial Ducommun 09/14/17 Triumph Processing - Embee Division Metal-finishing, inspection, testing for commercial & military aerospace Watson Family Investments 09/14/17 Heart of Georgia Metal Crafters Manufactures machined and sheetmetal aerostructure & engine components Kencoa Group 09/15/17 NUMATX Manufactures hydropneumatic actuated riveters for aerospace P&F Industries 09/17/17 Orbital ATK Flight, defense & space systems Northrop Grumman 09/18/17 Shortbark Industries Manufactures military tactical apparel, gear, uniforms, assault packs, tactical vests Point Blank [JLL Partners] 09/24/17 Colfax - Fluid Handling Business Fluid handling systems manufacturing business CIRCOR International 09/27/17 TiNi Aerospace Design, manufacture, test using shape memory alloy materials for A&D Ensign-Bickford Industries 09/28/17 Test Devices Develops & manufactures rotational testing systems & equipment Dürr Aktiengesellschaft 09/29/17 Lumenier Holdco Drone equipment & components for consumer & military Pfingsten Partners 09/29/17 MW Industries Springs, fasteners, machined parts to aerospace, military, other American Securities 09/29/17 Shade R&D engineering for aerospace & marine Koji Yokota 09/29/17 Wolverine - DoD Footwear Business Military footwear manufacturing business The Original Footwear Co 10/02/17 Ferguson Perforating Manufactures, supplies perforated metal solutions for aerospace, other Reliance Steel & Aluminum 10/05/17 Aurora Flight Sciences Develops & manufactures unmanned systems & aerospace vehicles Boeing 10/05/17 Aero Colors Distributes aircraft paints, primers, specialty coatings for aviation Akzo Nobel NV 10/09/17 Butterfield Industries Fuel pan, oil separator, collection systems, anti-ice kit, floor panels Raisbeck Engineering 10/12/17 Fortner Engineering & Mfg Hydraulic component aftermarket MRO for commercial & military aerospace 10/16/17 Bombardier - C Series Aircraft Aircraft component manufacture - Bombardier Cseries Airbus SE Wencor Group [Warburg Pincus] Source: Capital IQ 34

35 AEROSPACE & DEFENSE COMPONENT MANUFACTURING (CONTINUED) Date Target Description Acquirer 10/30/17 Westone Laboratories Custom hearing protection & communication earpieces including for military HealthEdge Investment 11/01/17 F.M.I. Inc. Manufacturer of large aerospace structural components & subassemblies AE Industrial Partners 11/03/17 Talon Innovations Precision machined products for aerospace, semiconductor, medical device Ichor Holdings 11/13/17 Surrey Satellite Technology US Manufacturing & integrating facilities of satellites General Atomics 11/14/17 Cadence Aerospace Component manufacture & overhaul for aircraft & defense Arlington Capital Partners 11/21/17 Arc Drilling Components and dies for aerospace engines & gas turbines Washington Equity Partners 11/29/17 GEMCITY Engineering & Mfg Contract manufacturing, machining, equipment including battlefield robots CapitalWorks 11/29/17 True Position Technologies Precision machined manifolds, bodies, housing, valve block parts for aerospace HBD Industries 12/01/17 Malabar International Manufactures & supplies ground support equipment for aircraft maintenance Tronair [Golden Gate] 12/01/17 AeroParts & Supply Southwest Aircraft parts distribution RBR Maintenance 12/06/17 Fabric Development, Textile Products Manufacture custom fabrics for aerospace & other industries Haci Ömer Sabanci Holding 12/08/17 Oxford Performance Materials - A&D biz Thermoplastic, carbon fiber 3D printed parts for commercial aerospace, defense Hexcel Corporation 12/15/17 West Penn Non-Destructive Testing Non destructive testing services for aerospace, nuclear, military, metals, other Mistras Group 12/22/17 EnCore Composite Structures Composite components & assemblies for aerospace AC&A [AE Industrial] 12/22/17 Nelson Fastener Systems Distributes fasteners and fastening system components - incl. aero. Sale by Doncasters Stanley Black & Decker Source: Capital IQ 35

36 SUPPORT SERVICES & MRO Date Target Description Acquirer 01/01/17 Sterling Aviation Aircraft management, charter, maintenance, acquisition support in Milwaukee Gama Aviation plc 01/02/17 BAE Systems San Francisco Ship MRO modernization services for US Navy & govt Puglia Engineering 01/11/17 Starport USA Aircraft maintenance support services for aviation Nextant Aero 01/17/17 KMR Aviation Aircraft charter, management, sales services West Coast Aviation Services 01/20/17 New Horizon Security Services Armed & unarmed professional security for defense, home sec, commercial SOS Security [ZS Fund] 01/30/17 Washington Aerospace Partnership Aerospace Industry Advocacy in Washington State Aerospace Futures Alliance 02/01/17 ACS Inc. Compliance testing for military, defense, aerospace other TÜV SÜD AG 02/08/17 Tempus Jets Aviation services for NGOs, humanitarian in remote hostile areas Jackson River Aviation 03/09/17 TC-CIT Aviation Ireland & U.S. Aircraft leasing services Tokyo Century Corporation 03/13/17 Centerra Group Nuclear security & protection services for govt, commercial Constellis Holdings 03/14/17 Air Methods Corporation Air medical transportation, aeromedical technology, helicopter tours, charters American Securities 03/20/17 Universal Asset Management, Inc. Asset management, aircraft disassembly, component sales for commercial aviation Aircraft Recycling [Sky Cheer] 03/22/17 PalAmerican Security Professional security & support services for govt, commercial Paladin Security 03/23/17 Garda World Security Security services safeguarding people & assets, airport security screening services Rhône Group 04/03/17 FCi Federal Operations management & professional services to federal government agencies Pacific A&E [Platinum Equity] 04/03/17 MISTRAS Arizona Services Non destructive services, chemical processes for aerospace, military, commercial Mistras Group 04/06/17 Schafer Corporation Technology services for aerospace, national security, and private sector Belcan Corp. [AE Industrial] 04/17/17 Discovery Air Fire Services Fire detection, air transport, charter for cargo, passenger, govt, natural resources MAG Global 04/28/17 North Star Air Air transport carrier & services for charter, passenger, cargo, fuel The North West Company 05/02/17 GAT Airline Ground Support Ground support services for airlines and airports Atlantic Street Capital 05/02/17 ACTS-Aviation Security Security solutions for aircraft & cargo screening ICTS Europe 05/04/17 Dallas Aeronautical Services Repair & support services for corporate & commercial aircraft West Star Aviation 05/09/17 International Safety Research Chemical, biological, nuclear, explosive (CBRNE) counter terrorism & response Calian Group 05/11/17 ECN Capital Aviation advisory & asset management platform services Stellwagen Group 05/11/17 Supreme Group (USA) Food & fuel supply & site services & logistics to US military The GC Companies 05/31/17 MilitaryOneClick Multimedia content information to military families online Lafayette Media Group 06/07/17 NewLeaf Travel Company Air travel company Flair Airlines 06/13/17 Northstar Group Services Facility services, abatement, demolition, disaster response, nuclear decommissioning J.F. Lehman & Co 06/23/17 American K-9 Detection Services Working dogs & handler training to civil, defense, govt Constellis Holdings 06/27/17 Vortex Aviation Repair & maintenance of turbine engine & aircraft Kellstrom Aero [AE Industrial] 06/30/17 7 Companies Co's provide aerial photography, image storage, flying services incl for govt Verisk Analytics 07/05/17 V1 Analytical Solutions Intelligence & specialized training for defense & intelligence National Technologies Assoc. 07/07/17 Vector Aerospace MRO services for fixed & rotary wing aircraft engines DAE Aviation [Veritas Capital] 07/11/17 Computational Engineering Int. Software visualization of scientific data such as aerospace fluid dynamics Ansys 07/18/17 KMS Solutions Analytical support, workforce, strategic planning, consulting services to govt Subsystem Technologies 07/31/17 CDI Corp. Engineering, IT, and staffing including for A&D, govt AE Industrial Partners 07/31/17 OMNIPLEX World Services Security and background investigations for govt Constellis Holdings 08/01/17 Jet Quest Sells new and used aircraft jetaviva 08/07/17 American Medical Response Ground & air-based emergency medical transportation Air Medical Group 08/09/17 CrossResolve Government advisory services in biometrics, forensics, identity programs KeyLogic Systems 08/14/17 Orion Jet Center FBO including fuel & ground support, hangar storage, customs Macquarie Infrastructure 09/01/17 R&R Trucking, TNI USA "Freight services of arms, explosives, radioactive material for DoD & DoE " Daseke 09/05/17 Silverback7 Training, exercise development, analytical services to defense Patriot Defense Group 09/12/17 Patriot Outfitters Distributes tactical military & law enforcing gear, footwear, accessories Galls [CI Capital] 09/12/17 Doss Aviaton Flight training, aircraft maintenance, aviation logistics to US army L3 Technologies 09/14/17 Infotech Aerospace Services, Inc. Technical services center supporting aircraft engines & airframe systems Pratt & Whitney [UTC] Source: Capital IQ 36

37 SUPPORT SERVICES & MRO (CONTINUED) Date Target Description Acquirer 09/18/17 Skyservice Investments Private jet charter, aircraft management, FBO and maintenance services InstarAGF Asset Management 09/19/17 Premier Aviation Overhaul Two aircraft repair & maintenance facilities AAR Corp. 09/21/17 Global Tech Services & Contract Contract & direct hire staffing solutions to aerospace, defense, other Novume Solutions 09/25/17 Howard Ball Moving & Storage Moving & storage services for military personnel Zippy Shell 10/10/17 Trace 1 Calibrations Calibration, repair, test & inspection services for aerospace J.A. King 10/26/17 JetFleet Management Manages, leases, sells aircraft AeroCentury 10/30/17 Avenge Aviation specialists, system operators, flight operation management professionals MAG Global 10/31/17 HNZ Group Helicopter transport on/offshore & related MRO & support services PHI, Inc. 11/01/17 Applied Composites Engineering Maintenance, repair, overhaul & manufacture for aerospace, military & UAV AC&A [AE Industrial Partners] 11/01/17 Bristow Academy Professional helicopter flight training services Not Disclosed 11/01/17 Jackson Hole Aviation Airport services, maintenance, hanger, line services, & parking Jackson Hole Airport Board 11/02/17 Advanced Technical & Educational Emergency services, training, exercises for military & govt L2 Defense 11/13/17 ERMC II Surveillance monitoring, airport baggage handling systems, boarding bridges SecurAmerica 11/14/17 Whitney, Bradley & Brown Financial & management consulting to federal government H.I.G. Capital Partners 11/22/17 ADI Aerodynamic Scheduled & charter flights as Great Lakes Jet Express Carlsbad-Palomar Airlines 12/11/17 CDI Corp - aerospace division Division comprises aerospace engineering, recruitment, staffing Belcan [AE Industrial] 12/11/17 Front Range Aviation Aircraft leasing & brokerage services Wetzel Aviation 12/14/17 MN Airlines Airline operating as Sun Country Airlines Apollo Global Management 12/18/17 Janus Global Operations Security, stability, risk, munitions operations to oil, govt, maritime, mining DC Capital Partners 12/19/17 Island Air Airline operating certificate & assets Hawaiian Holdings 12/29/17 Apollo Aviation Group Commercial aircraft & engine investment management leasing & trading H&K Entities 12/29/17 PrimeFlight Aviation Services Ground handling, aircraft appearance, terminal services to airlines, air carriers, airports The Carlyle Group Source: Capital IQ 37

38 AEROSPACE & DEFENSE ELECTRONICS Date Target Description Acquirer 01/09/17 FluxData Multispectral & polarimetric imaging systems for aerospace, defense, other Halma plc 01/26/17 Power Distribution Smiths Interconnect data center equipment divestiture includes military transformers Dunes Point Capital 02/12/17 Microwave Circuits Microwave components, filters for military, commercial Gowanda Components 02/24/17 EaglePicher Lithiumstart Lithium ion energy storage systems (ESS) for aerospace, marine, govt, other Vectra Corporation 02/28/17 SANTIER Microelectronic housings, assemblies for aerospace, defense, other Egide S.A. 03/03/17 KITCO Fiber Optics Fiber optic connectorization products to military, communications Marmon 03/07/17 Daylight Solutions Molecular detection imaging systems for defense, other Leonardo S.p.a. 03/08/17 Air Cost Control USA Distributes electrical parts for aerospace HEICO Corp. 03/17/17 OceanServer Technology Underwater robots, digital compasses, battery system for military, commercial L3 Technologies 03/20/17 Zephyr Photonics Optoelectronic technology & interconnects for DoD, aerospace, intelligence Inneos 04/03/17 Delta Microwave Microwave filters & components for space flight, military, GPS, commercial Mercury Systems 04/03/17 Custom Control Concepts Digital in-flight entertainment & cabin management systems for general aviation Astronics 04/11/17 IDSNA High technology services & integrated system solutions in defense, civil Not Disclosed 04/24/17 TEAC Aerospace Technologies Airborne mission data, video recording, and debrief products for defense Extant Components 04/28/17 Neya Systems Unmanned systems technologies for DoD and commercial Ara Holdings 04/28/17 Microphase Microwave electronics components for radar, electronic warfare, communications Digital Power Corporation 04/30/17 BEI Precision Systems & Space Encoders & motion control components for space, military, commercial J.F. Lehman & Co 05/02/17 Smiths - Microwave Telecoms Bus. Components, antennas, test systems for comminutions, defense, other Infinite RF [Genstar Capital] 05/04/17 Thinklogical Video-rich big data systems for defense, intelligence, security, other Belden 05/11/17 Apollo Video Technology Mobile video surveillance for mass transit, military, govt, law enforcement Luminator Holding 05/31/17 Cablecraft Motion Control A&D Manufactures control systems for aerospace & defense TransDigm Group 06/01/17 Three Add On Aerospace Products Manufacture aerospace controls, couplings, communication electronics TransDigm Group 06/05/17 Berriehill Research Antennas, computational electromagnetic, RF measurements for aerospace Ara Holdings 06/16/17 Meggitt - Piezotech & Piher Three sensor related businesses including sensor manufacturing Amphenol 06/19/17 Moving Vessel Profiler Global rights to moving vessel profiler product line of Rolls-Royce Canada AML Oceanographic 06/20/17 Secure Point Technologies Sensors & systems for security, safety, defense industries Vivos BioTechnologies 07/05/17 Richland Technologies Hardware, software, certification for aerospace, defense, other Mercury Systems 07/07/17 Sparton Corporation Design, development, manufacturing services for electromechanical devices Ultra Electronics 07/23/17 UltiSat Network & satellite communication services to govt & defense SpeedCast International 08/30/17 Ingenicomm Architecture, implementation, deployment of satellite ground systems The O'Neil Group Company 09/04/17 Rockwell Collins Designs, produces, supports communications and aviation systems United Technologies 09/05/17 CORWIL Technology Semiconductor assembly, test for military, aerospace other Integra Technologies 09/08/17 Adaptive Methods Delivers undersea & anti-submarine warfare capabilities for U.S. military L3 Technologies 09/09/17 Advanced Defense Technologies Develops systems & technologies for defense & homeland security Star Jets International 09/20/17 Icarus Technologies Manufactures electronic warfare products IXI Technology 09/24/17 Chassis Plans Industrialized & rugged computer systems for aerospace, military, government, other Aeronautics 09/28/17 Honeywell - flight printers Flight deck printer manufacturing license AstroNova 10/02/17 Novati Technologies Contract R&D, silicon wafer fabrication for aerospace, defense, other Skorpios Technologies 10/10/17 Nielsen-Kellerman Electronic instruments including for shooters, military, lifestyles Clearview Capital 10/10/17 iosafe Disaster proof hardware and recovery services including aircraft black boxes Iddriven 10/18/17 Scott Instrument Company Repair & overhaul of aircraft instruments Sunvair, [Blue Sea Capital] 10/18/17 Excelitas Technologies Optoelectronics and advanced electronic systems to OEMs serving A&D & other AEA Holdings 10/23/17 Coban Technologies Law-enforcement tools including interview room systems, in-car video recording Safe Fleet Acquisition 10/27/17 ViTechnology Optical inspection solutions for PCB assembly in aeronautics, space, defense, other Mycronic AB 10/31/17 MesoScribe Technologies Manufactures heaters, antennas, wiring, sensors for aerospace & defense CVD Equipment 11/03/17 Rvision Video products & physical security to borders, ports, nuclear, military Transform-X Source: Capital IQ 38

39 AEROSPACE & DEFENSE ELECTRONICS (CONTINUED) Date Target Description Acquirer 11/06/17 Interface Displays & Controls Electronic control & display, lighting for military & commercial aviation HEICO Corp 11/08/17 Anodyne Electronics Designs & manufactures electronics for aerospace Structural Monitoring System 11/09/17 WHP Workflow Solutions Video recording software for law enforcement, public safety, other MiTAC-SYNNEX Group 11/27/17 Astrodyne TDI Power solutions, adapters, converters, EMI/RFI filters for military, aerospace, other Tinicum 12/01/17 Anaren RF components for satellite communications, space, defense, electronics TTM Technologies 12/20/17 C&M Corporation Standard & custom cable products for military, industrial, medical Winchester Electronics 12/21/17 Themis Computer Computing products for aerospace, teleco, military, industrial Mercury Systems Source: Capital IQ 39

40 DEFENSE IT & TECHNOLOGY Date Target Description Acquirer 01/01/17 Alcyon Engineering & IT services to federal agencies & system integrators Afognak Native Corporation 01/03/17 Enlighten IT Consulting Mission critical IT services to DoD & intelligence Macaulay-Brown 01/03/17 Sintel Group Mission-critical defense intelligence and analysis solutions VOR Technology 01/18/17 Vector Software Software testing solutions for safety in avionics, A&D, other Vector Informatik GmbH 01/18/17 Unity USA Virtual site monitoring software & hardware for govt, security agencies, other EarthCam 01/19/17 Intelesys Corporation Computer network operations & cyber to Intelligence Community Polaris Alpha [Arlington Capital] 01/24/17 Certon Software IT solutions for aerospace, avionics, transportation Cyient Limited 01/26/17 Peraton Technology services, solutions to space, intelligence, defense, civil Veritas Capital 01/30/17 Advanced Technology International Organizes industry & academic partners to produce technology solutions for govt 02/02/17 Robbins-Gioia IT consulting services for defense, national security, govt, civil RG5 Analytic Services 02/02/17 MSC Software Simulation software solutions for engineers in aerospace, defense, other Hexagon AB 02/06/17 Information Innovators IT services for DoD, other govt agencies Salient CRGT [Frontenac ] 02/08/17 Endgame U.S. Federal Gvt. Services Bus. Cyber defense, hunt-as-a-service, red teaming, for govt Accenture 02/09/17 Phacil IT, facilities support, security & intelligence for civilian, defense agencies, commercial ESOP - Phacil 02/24/17 DigitalGlobe Provides earth-imagery, data, analysis from own satellites & third-party providers Maxar Technologies 03/08/17 Sotera Defense Solutions Technology-based systems, solutions, services for national security agencies KEYW Holding 03/16/17 General Scientific Corporation Engineering, technical, & management services for DoD, govt & commercial VISTA Technology [Prudent Mngt] 03/24/17 Norsat International Satellite terminals, microwave antennas, RF filters for navy, police, air transport Hytera Communications 03/27/17 Critical Technologies Web-based records management including aircraft maintenance records, processes General Electric 04/10/17 Human Solutions, Inc. R&D, IT, engineering, air traffic consulting for govt, civil Oasis Systems [GF Fund] 04/11/17 The Reports and Requirements Co. Consulting services, intelligence collection, reporting, analysis for national security Buchanan & Edwards 04/18/17 InfoReliance Corp. IT cyber consulting services for DHS, DoD, intel security, govt, civil ECS Federal [Lindsay Goldberg] 04/28/17 Guavus Big data analytics applications for communications, aerospace Thales S.A. 05/01/17 MTS Technologies Training solutions to defense, civilian, govt, commercial Innové LLC 05/16/17 C4i Training and Technology Simulation & training software for disaster management & military simulation Bartragh Services 05/22/17 NES Associates IT services to DoD & other federal govt agencies CSRA Inc. 05/31/17 By Light Professional IT Services Hardware, software, engineering, IT integration to defense, civil Sagewind Capital 07/02/17 NCI IT, professional services for defense, intelligence, other HIG Capital 07/28/17 Airbus DS Communications Develops, integrates, supports mission critical communications Motorola Solutions 08/02/17 Control Point Corporation C4ISR systems engineering, cyber security, vehicle management systems Ricardo plc 08/28/17 RedOwl Analytics Cyber security platform for information security & regulatory surveillance Raytheon 08/31/17 Blue Canopy Group IT consultancy services for DoD, homeland security, intelligence communities Jacobs Engineering Group 09/11/17 Defense Group Inc. Research, development, analysis, operational support for national security, defense SOS International 09/15/17 InfoZen Provides cloud managed services, software development, for US govt ManTech International 09/27/17 Solidyn Solutions Information technology consulting services to aerospace & defense Polaris Alpha [Arlington Capital] 09/27/17 Exa Corporation Simulation software & services for vehicles, aerospace aerodynamics & aeroacoustics Dassault Systèmes 10/03/17 FedBid Online marketplace for DoD, govt, business, education Compusearch Software [ABRY] 10/03/17 Data Center Services IT consultancy services to DoD Intelligence Systems Group Source: Capital IQ 40

41 DEFENSE IT & TECHNOLOGY (CONTINUED) Date Target Description Acquirer 10/17/17 SkyTrac Systems Develops flight following, flight data, communications for aviation Drew Marine 10/18/17 The Omnicon Group Engineering consultancy for hardware & software in aerospace, defense, other Spectris plc 10/19/17 SureID, Inc., Commercial Business Identity authentication technology solutions for DoD & govt Sterling Infosystems 10/25/17 No Magic Modeling, simulation, analysis including to aerospace & govt Dassault Systèmes 10/25/17 RallyPoint Networks Online career network for current and former US military personnel Student Veterans 11/14/17 Hypori Cloud-based functional command, control, mobility to govt Intelligent Waves 12/06/17 GAP Solutions Operation programs & consulting to defense, homeland security, govt System One Holdings 12/07/17 ACTA Inc Risk management services to space, defense, anti-terror, aeronautical, petrochemical Advanced Core Concepts 12/21/17 GCR Inc. Consulting & technology for aviation, security, disaster management, govt, other Hammond, Kennedy, Whitney Source: Capital IQ 41

42 CITATIONS 1. The White House, National Security Strategy of the United States of America, December 2017, accessed April 16, U.S. Department of Defense, Summary of the 2018 National Defense Strategy of The United States of America: Sharpening the American Military s Competitive Edge, accessed April 16, U.S. Department of Defense, Office of the Under Secretary of Defense (Comptroller)/CFO, Fiscal Year 2019 Budget Request, comptroller.defense.gov/portals/45/documents/defbudget/fy2019/fy2019_budget_request.pdf, accessed April 16, U.S. Department of Defense, Remarks by Secretary Mattis on the National Defense Strategy, accessed April 16, Northrop Grumman, Northrop Grumman to Acquire Oribtal ATK for $9.2 Billion, northrop-grumman-to-acquire-orbital-atk-for-9-2-billion, accessed April 16, Curtiss-Wright, Curtiss-Wright To Acquire Teletronics Technology Corporation, news-release-details/2016/curtiss-wright-to-acquire-teletronics-technology-corporation/default.aspx, accessed April 16, TTM Technologies, TTM Technologies, Inc. to Acquire Anaren, Inc., accessed April 16, Teledyne e2v, Teledyne Completes Acquistion of e2v, accessed April 16, Washington Technology, Ultra calls off Sparton acquisition, accessed April 16, Israel Defense, Aeronautics Acquires US Company Chassis Plans for $6 Million, accessed April 16, Cision PR Newswire, MDA Completes Acquisition of DigitalGlobe, Creates Industry Leader in Satellite Systems, Earth Imagery, Geospaital Solutions and Analytics, accessed April 16, Capstone Headwaters, Headwaters MB Advised Solidyn on its Sale to Polaris Alpha, a portfolio company of Arlington Capital Partners, accessed April 16, Cision PR Newswire, Polaris Alpha Expands Space Capabilites in Acquistion, accessed April 16, Capstone Headwaters, Headwaters MB Advised GPS Source on its Sale to General Dynamics, accessed April 16, Cision PR Newswire, CPI International Holding to Be Acquired By Odyssey Investment Partners, accessed April 16, Laser Focus World, Excelitas Technologies to be acquired by AEA Investors, accessed April 16, AM General, SF Motors to Acquired Commerical Automotive Assembly Plant, Preserving 430 American Auto Worker Jobs, accessed April 16, Disclosure: This newsletter is a periodic compilation of certain economic and corporate information, as well as completed and announced merger and acquisition activity. Information contained in this newsletter should not be construed as a recommendation to sell or buy any security. Any reference to or omission of any reference to any company in this newsletter should not be construed as a recommendation to buy, sell or take any other action with respect to any security of any such company. We are not soliciting any action with respect to any security or company based on this newsletter. The newsletter is published solely for the general information of clients and friends of Capstone Headwaters. It does not take into account the particular investment objectives, financial situation or needs of individual recipients. Certain transactions, including those involving early-stage companies, give rise to substantial risk and are not suitable for all investors. This newsletter is based upon information that we consider reliable, but we do not represent that it is accurate or complete, and it should not be relied upon as such. Prediction of future events is inherently subject to both known and unknown risks and other factors that may cause actual results to vary materially. We are under no obligation to update the information contained in this newsletter. Opinions expressed are our present opinions only and are subject to change without notice. Additional information is available upon request. The companies mentioned in this newsletter may be clients of Capstone Headwaters. The decisions to include any company in this newsletter is unrelated in all respects to any service that Capstone Headwaters may provide to such company. This newsletter may not be copied or reproduced in any form, or redistributed without the prior written consent of Capstone Headwaters. The information contained herein should not be construed as legal advice. 42

43 AEROSPACE, DEFENSE, GOVERNMENT & SECURITY TEAM Aerospace & Defense Outlook 2018 Annual Report Ian Cookson Managing Director Tess Oxenstierna Managing Director David Brinkley Managing Director Tom McConnell Managing Director Ted Polk Managing Director Scott Farnsworth Managing Director Beau Roy Managing Director Lisa Tolliver Director US MIDDLE MARKET INVESTMENT BANK OF THE YEAR BOUTIQUE RESTURCUTING INVESTMENT BANK OF THE YEAR MIDDLE MARKET INVESTMENT BANK OF THE YEAR TOP 10 MOST REFERRED INVESTMENT BANKS 43