After much heated debate and citizen exasperation and nail biting, a deal has been struck to increase the federal debt limit. Both Republicans and Democrats have inundated the airwaves stating that neither is fully happy with the final deal, and stress the fact that in the final hour there was compromise. As a citizen, I'm interested in what this means for the country, but as an analyst I instinctively put on my analysis hat to try to distill this down to the basics of what this deal means for federal contractors. The short answer: discretionary spending caps mean potential impact but exactly where that will occur remains to be seen. They've taken the hatchet approach (vs. the scalpel) and left the details of reduction targets until later.

The least fun part of my job is reading legislation, which is not exactly written like a Danielle Steel novel. This particular piece of legislation, the Budget Control Act of 2011 , is no exception, but read it I did. For those readers who refer to leave the eyes glazing over work to analysts, here is a summary of the key points that will impact contractors here:

• Debt Ceiling – authorizes President Obama to increase the limit by $2.1T. If after it is increased by $900B and it seems that we are within $100B of the new limit, the President can submit a written certification to Congress, which would trigger the Treasury Secretary's authority to raise the limit again by $1.2T. As in incentive, if a joint committee bill is passed to reduce the deficit by $1.2T or more, then the limit can be raised by $1.5T instead.
• Deficit Reduction – requires deficit reduction of nearly $1.0T over 10 years. OMB will calculate the amount required amount each year.
• Discretionary Spending Caps – sets discretionary spending limits for the next 10 years to achieve deficit reduction goal. However, if there is a joint committee bill that facilitates $1.2T in deficit reduction, the caps will be reduced (see table) in FY2013.


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• Sequestration - Within 15 days of a session of Congress ending, there will be a period of "sequestration" where CBO, OMB, the President, and Congress play different roles in determining if discretionary spending caps have been breached. If they have been, reductions must take place (usually within the same account) to bring it back under the limit.
• Emergency Spending - If, after June 30 of a given year, there are additional appropriations that occur, the discretionary limit for the category in question (this is often the functional category such as national defense, health care, etc.) will be reduced for the following fiscal year to make up for it. This sounds like a means of offsetting the impact of any emergency supplementals or Overseas Contingency Operations (OCO) appropriations that might push spending over the limit.
• Joint Committee – a joint committee will be created to develop plans to reduce the deficit by an additional $1.5T from FY2012 to FY2021. It will consist of 6 members from the House and 6 from the Senate (3 Republicans and 3 Democrats on each side). They have to move fairly quickly; there is a deadline of 11/23/11 for a vote on the report that will contain their recommendations.
• Reporting – OMB and CBO will be much busier, with mandates for additional reporting and adjustments for estimates and reports.

Observations

The important question now is how this impacts contracting, and IT contracting in particular. Here are my preliminary observations:

• While all contractors should pay close attention, the bill does not call out specific programs, functions or budget categories to cut. The only specific program mentioned was the HHS Health Care Fraud and Abuse Control program, which would have limits on additional new budget authority.
• It's interesting to note that for FY2012 and FY2013, the discretionary dollar limits are broken out into "security" and "non-security" but a total dollar limit is noted for subsequent years through FY2021. I wonder if that means that there will be some latitude for the administration to move some money around as long as it doesn't exceed the cap. However, there are limits to increases at the budget account level so if shuffling is possible it would have to be done very carefully and would need to be offset by cuts elsewhere.
• The discretionary caps set by the bill are 8% lower than the estimates provided in the President's FY2012 Budget Request for FY2012 to FY2021.
• Most importantly, as we've stated before in our forecasts, we don't believe that IT will take a major hit relative to other areas of spending for a few reasons:

• If Vivek Kundra has done anything in his tenure as Federal CIO it's been selling the idea that IT is an enabler of efficiency and cost-savings, which Congress likes.
• While IT is certainly not immune (and we will likely see some collateral damage as cuts happen in other areas), it is not a big enough target to warrant unbalanced scrutiny.
• There are other areas that are larger targets, such as defense and aerospace, construction, as well as some of the perceived runaway spending below view (e.g. below the reporting thresholds) that could add up to some significant dollars.

Recommendations

• Revisit the programmatic biases that emerged during the FY2011 appropriations debate. This will give some indication about the key areas that Congress and the administration think are bloated and therefore possible targets for additional cuts.
• Examine your marketing message and pursuit strategies. Everything – I repeat EVERYTHING – is about efficiency and cost savings so your messaging must prove how your offering helps government achieve that.
• If your solution is something that could be used across organizations, make that clear. Investments that can be shared across organizations or that deliver a broad scope of benefits to an agency are attractive.
• Share best practices around streamlining and increasing efficiency.
• If you can reduce prices without reducing value, consider doing so. Cost will become increasingly important in this environment.
• Be prepared for timidity within agency ranks when it comes to big programs. It used to be that going over budget meant extra scrutiny (sometimes) and not much else. With this deal, everyone down to the program manager must be diligently aware of spending because if enough programs go over budget and other costs aren't under control, the ramifications are automatic cuts (and embarrassment for agency leadership).
• Perform, perform, perform (and don't overpromise). The last thing any program manager wants now is unnecessary scrutiny.

Times are definitely tough but there will still be opportunity – it just will be tougher to capture. The government will still be spending over $1T per year, and with a flat workforce and plans to make it flatter, a significant amount of that $1T will go to contractors. But make no mistake – it is the survival of the fittest. Those contractors that have a compelling message, powerful solutions, excellent customer service and impeccable execution will be those that not only survive but thrive in the coming years.

Stay tuned – Deltek's Federal Industry Analysis team will be tracking where discretionary budget cuts may occur.