Jon Stout

Entrepreneurial Dominion

Polish and Spit

Turn-around veteran Jon Stout is looking for down-and-out military contractors in the Washington area that he can polish up and spit back into the marketplace.

If you want to get a feel for how Jon Stout plans to make money at the Shawmark Group, you need look no farther than the example of Hadron, Inc. Stout invested $2 million of his own capital into the drifting, money-losing defense contractor, stemmed the bleeding, refocused the company, brought in a new CEO to execute a growth strategy and cashed out – all within three years.

Hadron was a classic turn-around situation. The founders had lost their way. They’d let their overhead get out of control, and they were chasing the wrong kinds of business just to keep the cash flowing. Taking over as CEO, Stout moved quickly. He cut administrative expenses by $1.2 million, negotiated with creditors to convert debt into equity and tightened up receivables – basic financial “blocking and tackling,” as he describes it.

In the second year, Stout brought on a new CEO, Sterling Phillips, who made two key acquisitions and won some major contracts, including a 10-year, $220 million deal with NASA. By year three, the reinvented company earned more than $3.5 million. As a turn-around expert, Stout figured he wasn’t needed anymore. He sold his stake in December 2003, retaining only some shares held in a trust.

Now Stout is on the prowl for more under-performing contractors in the defense-intelligence sector. This time, he brings to bear a bigger war chest, a proven management team and, of course, the credibility that comes from two money-making ventures – Hadron/Analex and an earlier business, DPC Technologies. “Over the years,” he says, “I‘ve found that a disciplined approach to business management, coupled with strong financial controls … yields the best return to shareholders of defense contracting companies."

Under the banner of the Middleburg-based Shawmark Group, Stout is combing the Mid-Atlantic region for government contractors in the $20-million to $50-million range. He doesn’t care if they’re publicly or privately owned just as long as they meet the paradoxical requirements of being in serious financial trouble while showing potential for long-term growth – in other words, situations where he can replicate the Hadron experience.

The ideal candidate is a company that’s losing money and in violation of its banking covenants. The problems have to be systemic, not a temporary reversal that existing management can correct itself. Stout is looking for a company whose top executives have lost their stomach for digging their way out and regard a sale to him as the best way to preserve their equity. “If they want to protect their capital,” he says, “they’re motivated to negotiate.”

Stout started out the hard way, helping build a company from the ground up. His wife, Patricia, Hong Kong Chinese by birth, served as president and CEO of DPC. As a company with 8(a) minority status, the company grew rapidly, doubling sales over four consecutive years. The Maryland-based IT contractor was generating $70 million in revenue when Northrop Grumman purchased it for the inroads it had made in the intelligence community.

“That worked out nicely,” says Stout, who used some of his funds from the transaction to buy a home on the spectacular Seven Mile Beach in Grand Cayman. Indeed, that’s where VA Newswire caught up with him for this interview. As he answered questions, he gazed out an office window with a view of dazzling white sand and turquoise water.

After cashing out from Hadron/Analex, Stout and his partners have built up a handsome stash of cash to underwrite any new venture. “Our own personal pool of capital is substantial,” he says. Thanks to relationships built over the years, he also maintains a Rolodex of defense contractor executives who have cashed out or retired yet want to stay in the game. Furthermore, he notes, “we’ve developed some very nice banking relationships.”

Stout anticipates no problem pulling together management teams for any companies he acquires. He recently asked his wife, who runs a foundation for abused native-American women and children, if she'd be interested in becoming a CEO again. Her response: "No way!" But he's grooming his daughter Shawna for senior executive responsibilities.

The younger Ms. Stout graduated with a business degree from the Wharton School. Now, after playing key financial roles at both DPC and Hadron, she is entering the second year of an MBA program at the University of Chicago. When she graduates, she will help him run the company. “My daughter is very analytical, very numbers oriented,” Stout says. “She’s very, very qualified.”

Other key players on the Shawmark team include Alan Kaplan, a CPA knowledgeable in forensic accounting – a particularly valuable expertise when dissecting where a company went wrong – and Ellen Hyslope, a veteran in human resource management. Both worked for Stout on the Hadron turn-around.

Here’s the game plan you can expect when Stout finds the right opportunity. He will convene his team to hash out a business plan. Stout or another Shawmark partner will take over as CEO for a minimum of a year, heavily involved on a day-to-day basis. Only when he has stabilized the situation will he will bring in a professional CEO – there’s no lack of talent in the Washington region -- to guide the company towards long-term growth. “That’s how we distinguish ourselves [from other private equity funds],” he explains. “We’re more hands on. You can’t just make big-picture pronouncements.”

In Stout’s analysis, the greatest growth opportunities – and the field he’d most like to play in -- are in the intelligence sector. The convergence of military “transformation” and the war on terrorism put a premium on the gathering, analysis and dissemination of intelligence.

Superior intelligence gives the United States military greater advantages on the battlefield than do weapons systems emphasizing armor and firepower. Stout likens the difference between the militaries of the U.S. and its opponents to two teams playing basketball – one with blindfolds and the other without.  “You have to know where the bad guys are. You have to know what they’re doing.”

Some 14 different federal agencies, from the Central Intelligence Agency to the National Security Agency, are involved in processing human, image and signal intelligence employed against terrorists. The beauty of this niche, from the defense contractor’s point of view, is that there are high barriers to entry. “You can’t just show up and say I’m a Fortune 500 company, give me your business,” Stout says. “You have to know what their problems are.” But once you break in, profit margins are higher.

Stout understands the unique challenges facing both the intelligence community and the private-sector contractors serving it. He’s lined up capital and management expertise. All he needs now is a company to rescue.

- June 23, 2004

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