Defense contractors have been contemplating the effects of the budget cuts that were enacted on March 1, 2013 as part of the Budget Control Act f 2011. The cuts, which are also known as “The Sequester,” could affect hundreds of thousands of jobs for both government employees and its supporting defense contractor workforce. The defense industry in particular, which has a significant amount of exposure to the cuts, is realigning its resources to be more competitive as dollars spent on in this area get tighter.

While the wars in Iraq and Afghanistan have provided plenty of opportunities for contractors, protecting the home front is an area where new prospects are emerging. The Department of Homeland Security [DHS] which is lead by Secretary Janet Napolitano is charged with five homeland security missions.

The Core Missions

  1. Prevent Terrorism and Enhancing Security
  2. Secure and Manage Our Borders
  3. Enforce and Administer Our Immigration Laws
  4. Safeguard and Secure Cyberspace
  5. Ensure Resilience to Disasters

The first and fourth mission objectives, which highlight preventing terrorism and enhancing the nation’s security, are the areas that I think offer the most opportunity for growth. The Boston bombing attack illustrated the country’s vulnerability to these types of attacks; so I wanted to look at companies that could support the DHS goals in this area. Let’s look at some companies that could offer significant opportunity for investors and in doing so, promote the DHS’s objectives.

Some of the larger caps winning homeland security business are Harris Corporation (HRS) and SAIC, Inc (SAI). Both companies boast market caps above $5B. Harris is up over 27% in the last year and is trading at around $50 per share. The company was recently awarded a $45M contract by the DHS to support Department of Homeland Security Immigration and Customs Enforcement [ICE] tactical communications networks. Harris is a full scale defense play but balancing its portfolio with homeland security programs is smart business. The company also pays a 2.9% dividend which isn’t too bad in today’s market.

SAIC just signed an agreement with the DHS to be a Commercial Service Provider to provide enhanced cyber-security protection to the United States’ critical infrastructure. The company is also posting a respectable 1 year increase of almost 47%. This stock also pays a nice 3.1% dividend. The stock is trading around $15.50 a share with a PE ratio of about 10. The PE suggests that they might not be growing revenue but at given the low share price and dividend, an investment in this stock seems practical.

Now if you’re looking for more of a spec-play, SAIC, and the Boeing Company (BA) for that matter, have a rather interesting technology partner in the company PositiveID Corporation (PSID). PositiveID develops molecular diagnostic systems for bio-threat detection and rapid medical testing. According to the company’s 10-Q they aren’t earning any revenue but seem to have strong prospects with the DHS’s BioWatch Generation 3, Phase II program, which has been estimated to be worth $3.1 billion over five years.

The company has over 20 patents and patents pending in its intellectual technology portfolio, which it hopes to monetize through licensing and use in its own product lines. The company’s major products include:

  1. M-BAND: Microfluidics-based Bioagent Autonomous Networked Detector – a bioaerosol monitor with fully integrated systems with sample collection, processing and detection modules.
  2. DragonFly –a series of cartridges for biological sample processing and detection. Examples include differential extraction cartridges, sample processing and amplification for biodefense applications, and clinical sample processing and detection.
  3. Firefly Dx – the system combines sample analysis, purification, PCR analysis, and the identification for nucleic acids of interest. The system will be capable of processing a variety of sample types, including whole blood, buccal and nasopharyngeal swabs, urine, and environmental field samples. It is designed to be a cost effective and simple to use screening tool that can be used for multiple applications and deployed in a wide range of environments.

PositiveID, through its subsidiary MicroFluidic Systems [MFS] has done extensive research and development work for a multitude of government agencies including the Department of Defense, FBI, NASA, DARPA and as mentioned above the DHS. If BioWatch Gen 3, Phase II comes to fruition for PositiveID, you could likely see a significant rise in the issue.

The DHS is providing a source of very lucrative opportunities for defense contractors. Investors often look to the defense industry contractors to provide stability and growth for their portfolios, so it’s important to understand if revenue can be sustained and where new opportunities may exist.

The businesses mentioned have significant exposure to many market forces as they offer diversified products and services. Also, micro-caps add more risk because of their volatility and trading volume. You should consider these notes when making your investment decisions.