Leidos Losses: Due Diligence Failure or Anti-Merger Discretion?

By Chris White

You can follow Chris on Twitter @FamousFlipper

On January 26th, 2016, the defense company Leidos published a news release regarding its merger with former Lockheed Martin’s Information Systems & Global Solutions Business (“IS&GS”).[1] The U.S. Securities Exchange Commission (“SEC”) requires companies to publish news releases covering relevant uncertainties present during a merger. As a result of Leidos’ release, the U.S. Government Accountability Office (“GAO”) opted to support an Army contracting officer’s October 5th, 2016 decision to remove the combined IS&GS and Leidos team from consideration for a $564 million contract.[2] While substantially smaller in value than the earlier $5 billion deal that was rescinded by the National Nuclear Security Administration (“NNSA”),[3] the GAO decision creates a troubling trend for Leidos and other companies whose primary industry is contingent on government contracts. A company would have to remove itself from bidding for any potential contract during all merger discussions for it to fully avoid the risk of being removed from consideration or to have a contract rescinded. This however, would turn potential economic uncertainties into guarantees.[4]

While companies can and do attempt to minimize the actual uncertainty created by all mergers, companies are limited in what disclosures they are allowed to make before a finalizing an agreement. The attorneys conducting due diligence during a merger and the team submitting bids during solicitation have to carefully navigate the restrictions on disclosures during a merger, while still adhering to direct notification requirements for a bid solicitation. In this situation, Leidos announced the merger to the entire world eight months before the GAO and NNSA contracting officers made their final decisions.[5] Unfortunately for NVS3T, IS&GS, and Leidos, the failure to directly notify the contracting officers of the merger is exemplified as an apparent failure in due diligence rather than a strategy by contracting officers to cool the prospective bid pool with merger-targeting discretion.[6]

The GAO and NNSA articulating that Leidos was removed from consideration for one contract and had a second contract rescinded due to uncertainty derived from “unquantifiable risks”[7] and substantial questions impacting belief that Leidos could execute the contract as bid. Additionally, the NNSA proposed that NVS3T merging with other government services companies could “significantly impact the evaluation of the proposal. . . .”[8] Both of these concerns could appear far-fetched when describing a company as heavily involved and experienced in the government contract business as Leidos.[9] Companies are now pinned between legal restrictions regarding which merger details they are allowed to discuss, a mandatory press release regarding their uncertainties, and the discretion of contracting officers to evaluate and classify their merging proposals. Ultimately, Government Agency contracting officers are at risk of adversely impacting pools of potential bidders, as any company considering a merger will be hesitant to absorb the cost of preparing a bid if it will have to succumb to a contracting officer’s discretion. As a result, the competitive diversity that generates the best prices and quality through a larger pool of potential contractors disappears.[10]

[1] http://investors.leidos.com/phoenix.zhtml?c=193857&p=irol-newsArticle&ID=2132192 (informing shareholders that the combined company will face potential “economic, competitive, legal, governmental and technological factors” uncertainties.

[2] Daniel Wilson, Leidos Deal Losses Are Cautionary Tale For Contractor M&A, Law360 (Oct. 14, 2016), http://www.law360.com/governmentcontracts/articles/851073/leidos-deal-losses-are-cautionary-tale-for-contractor-m-a?nl_pk=f9ab5e5e-3cf2-46d3-8591-41e27b7f6a2e&utm_source=newsletter&utm_medium=email&utm_campaign=governmentcontracts (last visited Oct 23, 2016).

[3] Bryan Koenig, Ownership Change Costs Co. $5B Nuke Site Contract, Law360 (Sept. 1, 2016), https://www.law360.com/articles/835460 (last visited Oct 23, 2016).

[4] Wilson, supra note 2 (“the option of stopping federal contracting bids during the pendency of a deal impractical, especially for companies that derive much of their business from government. . . .”)

[5] Wilson, supra note 2.

[6] Natalie Olivo, Leidos Protests $5B Nuclear Site Award Rescindment, Law360 (September 15, 2016), https://www.law360.com/articles/840230 (last visited Oct. 23, 2016).

[7] Wilson, supra note 2.

[8] James Beach, Moody’s: Loss of nuclear security site contract ‘not significant’ for Leidos, Washington Business Journal, (Sept. 7, 2016), http://www.bizjournals.com/washington/news/2016/09/07/moody-s-loss-of-nuclear-security-site-contract-not.html (last visited Oct 23, 2016).

[9] Id. (“the now-largest government services company in the industry.”)

[10] Wilson, supra note 2 (“[e]xcluding an otherwise-qualified potential bidder from consideration would create its own problems for the government, such as the risk of lowering competition, they argued.”).

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