Ramping Up

f you had surveyed the government market for homeland security technology a year ago, you would have found a traffic tie-up. The Homeland Security Department had yet to officially open its doors, but technology companies, especially those savaged by the dot-com collapse, were jammed outside waiting for the federal government to unleash new spending and open roads for doing business.

Those paths developed slowly, and at first, many companies were stuck on local byways as huge technology firms sped by them to clinch most of the deals with the department's 22 agencies. As budgets remained stuck in appropriations battles, agencies subsisted on continuing resolutions and couldn't initiate new purchases. When the department got on its feet, it was isolated, unable to directly touch the outside world of contractors.

Today, things have changed. Homeland Security has its first budget-$29.4 billion for fiscal 2004-about 10 percent to 13 percent of which will be spent on security-related technology, according to various analyses. Billions of dollars more are being parceled out as grants to states and localities. Homeland Security's technology budget is second only to the Health and Human Services Department's among civilian agencies, so it's a bellwether for the government market.

But the homeland security market is far from mature. DHS only recently has begun to set up a central procurement operation. Greg Rothwell, formerly a senior procurement official at the Internal Revenue Service, leads the office, but it's hardly controlling purchasing. More than a half dozen component agencies of the department had their own procurement shops before they migrated, and they're still conducting purchases.

Also, Homeland Security officials spend more time on day-to-day administration than on planning contracts. Without central control, companies have had to get innovative.

To win homeland security business, companies are building on-ramps into the market, helped along by federal officials. They are tapping their long-standing ties with Homeland Security's agencies, forming partnerships with (and, in some cases, acquiring) well-positioned firms, and using research and development channels outside the department, primarily through the Defense Department.

The road to success in the market still is bumpy. But for the companies that know how to navigate, the getting's good.

MAIN THOROUGHFARE

All roads to homeland security spending start on Capitol Hill. An analysis of Homeland Security's technology appropriations for fiscal 2004 shows that legislators' and the Bush administration's priorities-and the biggest business opportunities-lie in transportation security, border-control technology and investments in the Coast Guard.

The Transportation Security Administration controls one of the largest funding blocks, with $400 million to continue installing explosive detection systems at airports. TSA also has snared $198 million to buy information technology for its Washington headquarters. Another $45 million is available for research into next-generation explosives detection. That's a 450 percent increase over fiscal 2003, revealing lawmakers' concerns about the ability of current technology to keep up with terrorists' efforts to conceal bombs, says Ray Bjorklund, vice president of market intelligence at research firm Federal Sources Inc.

The Coast Guard eats up another large slice of IT spending, with more than $250 million covering, among other things, a national distress and response system and additional funding for an ongoing fleet upgrade known as Deepwater. Also, the Automatic Identification System, a new technology designed to synthesize navigational information-such as the position, speed and course of vessels-aboard Coast Guard ships is receiving a 290 percent spending boost.

Finally, the Bureau of Customs and Border Protection will receive nearly $700 million to pay for tasks such as forming wireless connections between handheld computers and databases, an ongoing shipping container security initiative and the upgrade of the former Customs Service's goods tracking system.

Collectively, these three agencies are spending upwards of $1.3 billion, about one-third of the entire Homeland Security IT budget.

BUSINESS MAP

Of that $1.3 billion, more than $542 million will fund projects and systems that were in place before the Sept. 11 terrorist attacks. The contractors running those projects have a built-in advantage over their competitors, providing an example of the first of several routes companies are taking into the homeland security IT marketplace.

1. Building on what's there.

Homeland Security officials prefer to expand existing systems, rather than build new ones, to save both time and money. They also tend to favor working with large established firms.

Computer Sciences Corp. of El Segundo, Calif., for instance, has won a number of task orders through the former Immigration and Naturalization Service's Starlight contract for border control technologies. In October, CSC snagged an $88 million job with the Bureau of Immigration and Customs Enforcement, which now manages the contract.

Defense contractor Lockheed Martin Corp. is capitalizing on having built an INS fingerprint identification system that will figure centrally in the entry-exit tracking system known as US VISIT, slated to be awarded next year. Homeland Security must begin the first phase of the project by the end of this month, and companies such as Lockheed likely will be called upon because of their previous experience.

While big contracts such as US VISIT have yet to be awarded, some notable deals already are in place. For instance, in July, Homeland Security inked a software licensing agreement making Microsoft Corp. the exclusive provider of the department's desktop computer and server software. The contract reflects officials' desire to standardize the use of specific technology products.

Homeland Security likely will continue awarding direct deals such as the $90 million Microsoft agreement, which also includes Dell Computer Corp. as the provider of day-to-day management of the licenses. That reflects the department's desire to keep its constituent agencies from buying redundant or incompatible systems.

Forging a contract with one or a few vendors for a wide range of work "really is a model for how the department will run," said Scott Hastings, chief information officer of the Bureau of Immigration and Customs Enforcement, at a briefing for technology executives in October.

US VISIT will follow that strategy. One company will be selected to implement the border control program and to devise a new method of immigration processing, since the government has never attempted such an ambitious effort, Hastings explained.

This approach means big companies "will control all of the activity as far as new technologies" are concerned, says Tim May, president and chief executive officer of Advanced Interactive Systems Inc., a Seattle designer of virtual reality simulators and training facilities for the government. AIS worked for Boeing on a TSA contract to train airport passenger screeners.

Mays says that despite the fact that his company was part of a high-profile security deal, once the work was completed, AIS was "back to square one" and scrapping for new business as fiercely as most other small companies. This points to the second reality smaller companies must face: Large firms are the gatekeepers.

2. Teaming up and selling out.

For several years, the commercial technology market has been in a dismal state, and the once-hot pace of mergers and acquisitions in the industry has slowed considerably. "The long season of deprivation began three years ago with the bursting of the [dot-com] bubble," Erick Schonfeld and Om Malik explained in an August story for Business 2.0 magazine. "It has, of course, been the worst famine in tech history, starving thousands of companies of customers and capital, and it still shows only sporadic signs of relenting."

Not so in the federal arena, where the prospect of increased technology business-especially in homeland security-has led to a spate of mergers and acquisitions that has shaken up the market. A recent Federal Sources study found a "significant increase" in mergers and acquisitions in 2002, with more than 70 such transactions. Most of the firms purchased were privately held.

Buyouts continued in late 2002 and 2003, with such high-ticket acquisitions as Northrop Grumman's purchase of TRW Inc., intended to expand the company's already formidable government technology presence; CSC's acquisition of DynCorp., which garnered a pool of employees with valuable security clearances; and network computing contractor DigitalNet's purchase of Getronics Government Solutions, continuing the company's habit of collecting top-tier players. (DigitalNet has hired a number of former senior government officials.)

But acquisitions of niche players also have been key to some companies' market strategies. For example, in October, TSA contractor Unisys Corp. bought the identity management division of security company ePresence Inc., based in Westboro, Mass. Unisys already runs a biometrics research and development lab for TSA and thinks this acquisition will expand its foothold.

Acquisitions also can bring new contracts. When Markland Technologies Inc. of Ridgefield, Conn., which focuses on border and infrastructure protection, purchased Virginia-based Science and Technology Research Inc. in October, Markland took over the company's contract to supply the Navy with shipboard chemical agent detectors. Now, Markland plans to market its wares to security agencies, as well as state and local governments.

Most smaller companies have tried to team up with large contractors rather than sell out to them. But it appears that acquisition is an increasingly popular strategy, especially since some of the big firms are eyeing niche companies. As Northrop Grumman chairman Ron Sugar told Financial Times newspaper in October, technology is a central component of its national security business, which makes smaller companies more attractive. "I'm not going to buy a tank maker," Sugar said.

3. Going through the Pentagon.

While big military contractors may be looking to buy out smaller firms, other companies are finding that the best way into the security market is through the channels carved out by those giant firms over the past half century.

For decades, Battelle, a Columbus, Ohio-based R&D organization, has scouted out technologies primarily for military use, helping small companies that don't do business with the government become Defense contractors. Today, the firm is using a global network of more than 16,000 scientists and more than 100 labs and facilities to make technology available to Homeland Security.

Steve Kelly, the head of Battelle's national security division, says Homeland Security can't afford to wait out the lengthy R&D and acquisition cycle that has characterized military work, so Battelle is helping agencies put promising innovations on the fast track.

For example, about two years ago Battelle invested in a technology for the Marine Corps, that lets military and civilian disaster response units communicate with each other and also track incidents-such as chemical spills or biological outbreaks-in a graphical format.

Kelly likens it to the popular online mapping service MapQuest. Administration of the project has since been transferred to the Federal Emergency Management Agency, under Homeland Security, and now Battelle is pitching the technology to state and local governments and first responder groups.

Another R&D group with historic military ties has set up shop in Southern California. The Center for the Commercial- ization of Advanced Technology (CCAT) is a combination venture capital group and company incubator, and seeks out firms that haven't thought about doing business with the government.

Funded by Congress, CCAT finds companies with prototype technologies and gives them money for market research and product development, says Lou Kelly, the group's chairman.

Companies that pass an initial screening are invited to meet with venture capitalists and corporate and government officials. A select few are then funneled into an entrepreneurship program, where experts help them craft business models and make introductions to some of the leading systems integrators, most of whom are seasoned Defense contractors.

Military contractors are running much of the innovative technology research, particularly in chemical and biological detection, Kelly explains. Homeland Security hasn't yet issued a set of requirements for this type of technology, nor has it fully organized its R&D outfit.

CCAT's aim is to get niche companies linked up with military contractors, or acquired by them, so that when Homeland Security is ready to buy their products, the companies already will be in the government contracting channel.

For now, the Defense Department is simply better equipped than Homeland Security to quickly procure technology-especially in areas such as biometrics, which the Defense has researched for years, says Grant Evans, CEO of A4Vision, a Cupertino, Calif., maker of three-dimensional biometric face identification technology.

Evans says his company realized there was a "gaping hole" in the security market for mobile biometrics identifiers, particularly along U.S. borders. But rather than get in line behind the hundreds of companies trying to get Homeland Security's attention, Evans went to a Defense agency and pitched his product for use by troops.

The agency liked the idea and directed A4Vision to Unisys, which had a contract with the agency for biometrics development. Now that A4Vision has secured $420,000 in funding through Unisys, Evans hopes to use the military as a springboard into the homeland security market.

4. Getting in on grants.

Besides the military R&D circuit, another channel-the homeland security grants-making process-holds a lot of promise for small companies and nontraditional government contractors. But it's also one of the hardest to exploit.

The Homeland Security budget calls for nearly $4 billion in grants to state and local governments, primarily for equipping emergency responders with communications technology and protecting critical infrastructure, such as electrical grids. However, officials and executives complain that process of awarding grants is so complicated that much of the money isn't getting through the pipeline. Testifying before the Senate Governmental Affairs Committee in May, Detroit Mayor Kwame Kilpatrick, co-chairman of the U.S. Conference of Mayors' Cities and Borders Task Force, fingered the Byzantine process as a reason "we lack a coordinated, proactive and long-term strategy to lead our nation's homeland security efforts at the local, state and federal levels."

"We could create 50 full-time jobs across the states to track federal homeland security grant opportunities," Art Cleaves, the director of emergency management for Maine, told lawmakers.

Some experts say the problem with tracking grants stems from the fact that, for years, they were used primarily by lawmakers as a way to funnel money to their districts. Now, the money actually needs to be dispersed strategically, to pay for technology and other equipment, and the bureaucracy hasn't adapted to the need for accountability, says Shirl Nelson, a former senior procurement executive with the Commerce Department.

Tim Mays, whose company worked with Boeing training TSA passenger screeners, says his sales staff frequently meets with local officials who have no idea how to get the grants. So his firm offers itself up as a guide, instructing officials about the process, telling them which forms to fill out and which agencies to contact. It's likely that other companies also will make grants education part of their service.

Federal funds also are being used to support R&D outside the federal government altogether. In Florida, law enforcement agencies are developing an identification database called Matrix, which they say has potential for counterterrorism use. Officials have indicated that U.S. intelligence agencies could take advantage of the system, which pinpoints individuals' locations based on a variety of data in public records.

BARRIERS TO ENTRY

While there's more than one way into the security market, a number of persistent barriers will make it difficult for any firm, big or small, to conduct business.

Chief among them are the concerns about civil liberties and privacy that accompany so many counterterrorism projects. Former National Security Adviser John Poindexter's attempts to scour public and private databases for signs of terrorism-a project called Terrorism Information Awareness (TIA)-set off a national outcry. Criticism that Poindexter, then a director with the Defense Advanced Research Projects Agency, was creating a Big Brother system helped end his government career. He had hoped Homeland Security would use TIA.

Grant Evans of biometrics maker A4Vision says some projects are too politically sensitive for companies to touch. Poindexter's outfit, for instance, had researched ways to identify people in a crowd by their faces. Evans says flatly there's "no way" his company would participate in such a controversial scheme. "That's just not happening."

The debate over whether to hold companies liable if their counterterrorism technologies fail also might have a chilling effect on the market. Under the 2002 Safety Act, companies can apply for liability protection. However, as of October, Homeland Security had received only a small number of applications. Industry groups say the applications are so laborious as to dissuade companies from doing business with the government. Firms that already are struggling to stay afloat may not have the resources to spend qualifying for protection, let alone putting together a sales force that knows how to market to federal agencies and navigate the large gatekeeper contractors.

Ultimately, experts say, it's not that Homeland Security officials don't want to be more responsive to industry, or bring in new companies. It's just that they're so burdened by the daily bureaucratic hassles of merging agencies, setting up new systems and responding to new mandates that they don't have time to focus on their procurement operations. The department's budget is "still not really under the control . . . of Secretary [Tom] Ridge," says Dendy Young, president of technology reseller GTSI, who has long-standing personal and business contacts in government and the IT industry.

Of the 22 agencies that comprise the department, seven came in with their procurement operations intact. By and large, those organizations are still doing their own purchasing, Young notes, and until next year, he doesn't believe the department will release centralized procurements, with the exception of a few big deals, such as US VISIT.

The lack of organization can be maddening. "You complain about bureaucracies, until you find yourself in a place where there is none," says Chip Mather, a former Air Force contracting officer whose company, Acquisition Solutions Inc., helped TSA write its IT contract with Unisys.

Still, that lack of control may be more responsible than anything for the flurry of clever strategies companies are using now. In the near future, that kind of innovation will shape the homeland security market.