Satellite Industry Awaits Impact of Never-Ending U.S. Government Budget Battle

Satellite companies with exposure to Defense Department and broader government budgets in the United States should expect to see incremental headwinds as across-the-board cuts as a result of government sequestration are implemented, according to a new report from analysis firm Needham.
   The much discussed sequester, officially enacted March 1, will result in an 8 percent (or $42.7 billion) reduction in the U.S. Department of Defense’s full-year 2013 budget compared to its prior budget. The total reduction in 2013 U.S. governmental spending is $85.7 billion, which will be split equally between defense and domestic programs.    Needham Analyst Richard Valera named specific companies that would feel the impacts of sequestration. “Our most exposed name is Harris Corp., with about 70 percent of its revenue derived from the U.S. government,” Valera wrote in the report. “We note that KVH and ViaSat, which we like for their respective commercial broadband satellite initiatives, both have significant Department of Defense exposure, which does create some risk to our forward estimates in a post-sequestration world.”
   During its most recent Jan. 29 earnings call, Harris’ management stated that the company was already seeing a sequestration-like slowdown in much of their business and had lowered their forward guidance to attempt to account for the enactment of sequestration. “In fact, under orders from Deputy Secretary of Defense Ashton Carter, much of the DoD’s procurement operations already went into a sequester-like slowdown in January of this year,” said Valera. “Additionally, some of our covered companies have substantial backlogs relative to our next 12 month estimates for DoD/U.S. Government revenue, which we think could help to buffer against the sequester for at least a couple of quarters.
   Valera notes that determining how the sequester will translate to incrementally reduced sales or bookings is challenging since many companies have already been seeing some level of pre-sequester slowdown. According to ViaSat’s recently reported third quarter and full-year 2013 results, the company derived 47 percent of its revenue from its Government Systems segment in an unusually strong quarter for this segment.
   “Our next 12-month revenue forecast [for ViaSat] calls for its government revenue to represent a more moderate, but still substantial 39 percent of total revenue,” said Valera. “While ViaSat’s Government exposure is certainly significant and potentially exposed to sequestration-related cuts, we think the impact could be mitigated by a healthy funded backlog of $391 million in its Government Systems business against our NTM revenue estimate of $471 million.”
   Needham also noted that Comtech has recently seen declining exposure to the Department of Defense as its MTS and BFT programs wind down. In Comtech’s most recently reported quarter, it derived 43 percent of its revenue from the U.S. government. “We would look for more color on sequestration’s potential impact on the company on its upcoming earnings call on March 8,” Valera added.
   For KVH, Needham forecasts that the company will derive about 35 percent of its NTM revenue from U.S. military and government programs. “We believe the company’s backlog solidly supports our 2013 first half DoD-related forecast, but we see incrementally higher risk in the second half of 2013 as we would look to see some incremental DoD-related orders to support our estimates,” Valera said.
   Much of KVH’s recent TACNAV business, however, has been with non-U.S. military organizations, which should be unaffected by sequestration.