Northrop's Loss, VARs' Gain

When Northrop Grumman announced that it would drop its reseller business in January, the market pondered what it meant for government customers--contractors big and small--and for Northrop Grumman itself. The systems integrator (SI) has yet to announce whether it will sell or dissolve the segment, but regardless, it poses great opportunity for VARs that already tout a footprint in the defense market.

During the company's 2005 earnings call, Northrop Grumman president and CEO Ronald Sugar told analysts, shareholders and other interested parties that the company would exit the reseller business--dubbed Enterprise IT--which fell within its information-technology segment. While IT saw 4 percent growth in 2005 compared to last year, from about $5.1 billion to $5.3 billion, the reseller business stifled growth, Sugar said.

"I have seen prime contractors choose to resell and change their minds before," says Adam Robinson, CEO of Irvine, Calif.-based Govplace. "The most apparent reason is to avoid the perception of a conflict of interest. These companies have so much control in the customer [site] that selling that same customer hardware at a markup could be perceived as sending the goat to tend the cabbage."

Northrop Grumman recently won a five-year $650 million contract to outsource IT for the County of San Diego; Robinson says that win may have played into Northrop Grumman's decision to quit the reselling business. "This is just speculation, but [exiting the business] might have been a requirement or have been encouraged by that contract. It was a huge win for the company."

Conflicts of interest aside, Northrop Grumman's decision allows the company to focus on its strengths and most lucrative areas of business. The SI entered the reseller business in 1997 almost by accident, with the acquisition of IT company Logicon. The company, which functioned as a wholly owned subsidiary, was part of a long-term plan by Northrop to focus on security technologies. Over the next five years, the SI integrated seven more companies into Logicon, eventually renaming the segment Northrop Grumman Information Technology.

"[Northrop Grumman] ended up with a reseller arm that they probably didn't even want, because it was part of the purchase," says Mike Atlee, director of the Government Systems Group at GE Access. "Typically, integrators don't care about the reseller end; they'll supply their customer, but they focus on services."

Northrop Grumman's reseller business saw three-quarters of $1 billion in sales, but with low margins. The company incorporated a margin requirement in an attempt to increase revenue. In a market where bottom line determines wins, margin requirements made it all the more difficult to compete.

"What Northrop found is that the reseller model doesn't fit with the SI model," says Dawn Duross, director of federal channels at Cisco. "Here's one of the largest defense contractors in the world who bought a VAR, only to decide it doesn't fit in its business model. It's an interesting statement about integration [in the] long term, versus the VAR as a selling agent. There's huge consolidation going on in this industry, but you have to wonder if there are times when it doesn't make sense."

With its latest decision, Northrop Grumman will mimic the business model of competitors such as Lockheed Martin, Raytheon and Booz Allen Hamilton, providing IT only as it relates to service contracts. That leaves the contracts that Northrop maintained under its Enterprise IT business--focusing essentially on product fulfillment and support--up for grabs. Even if the SI does indeed sell off the business, a lapse in time will act as a window of opportunity for VARs.

"This certainly does create opportunities for resellers--the obvious one being the chance to subcontract procurement from Northrop and to pick up the contracts they are dropping," Robinson says. "I suspect the largest contracts will end up being grabbed by the usual suspects--Dell, CDW Government and so on, but there will inevitably be some opportunity for the smaller shops and some attendant confusion in the market the rest of us can capitalize on."

As for Northrop Grumman, if the company sticks to its knitting, there are endless opportunities for the defense contractor within its core competencies. That will simplify and clarify its message to Wall Street."