While M&A involving government contractors continues to attract strategic buyers and sponsors, with these deals comes a different level of diligence than a typical commercial transaction. The reason is straightforward: when a company does business with the government, contract performance, compliance, and enforcement risk are often closely linked. In addition to creating operational friction, a diligence issue may affect valuation or future eligibility for work or expose the buyer to inherited liability.
A few issues tend to matter most. Below we summarize these issues as originally covered in our recent Morgan Lewis M&A Academy session Government Contracts in M&A: Navigating Compliance and Risk.
Small Business Status Can Change Overnight
Many targets win work through small business set-asides or preferences. That status may disappear after an acquisition because size is measured not only at the target level but also across affiliates.
In practice, this means that revenue or employee counts may be aggregated with the buyer or other portfolio companies. Buyers should test both the historical basis for the target’s small business representations and the forward-looking impact of losing that status. If the company can no longer compete for the same work after closing, the effect on value could be significant.
Cybersecurity Compliance Is Now an Enforcement Issue
Cybersecurity is no longer just an IT diligence topic. Federal contractors must comply with increasingly specific cybersecurity requirements, including contract clauses tied to safeguarding government information, Cybersecurity Maturity Model Certification (CMMC) assessments, and in some cases FedRAMP obligations. Those requirements are often backed by certifications.
If the target’s actual controls do not match what it represented to the government, that gap may create breach-of-contract issues and potential False Claims Act (FCA) exposure. The Department of Justice’s continued focus on cybersecurity-related fraud makes this area a particularly important diligence topic.
Organizational Conflicts of Interest Can Limit Future Business
Transactions can also create organizational conflicts of interest (OCIs), especially where one company advises the government, evaluates products or services, or helps shape procurement requirements while an affiliated company performs related work.
In those circumstances, the government may bar contract awards unless the conflict is mitigated or waived. For buyers with existing government-facing businesses, OCI analysis should start early as the issue could have an impact on not only the target’s contracts but also the buyer’s broader portfolio.
FCA Changes the Risk Calculation
The FCA remains one of the government’s most powerful enforcement tools. It applies to both obvious fraud as well as some forms of regulatory or contractual noncompliance when claims for payment are tied to false certifications or misleading representations.
Whistleblower suits add to the risk, and the statute’s lookback period means buyers may inherit exposure tied to conduct that predates the deal by years. In government contractor transactions, diligence should be designed to identify not only known investigations but also the compliance gaps that could become future FCA theories.
Deal Mechanics Matter Too
Federal prime contracts raise a separate issue under the Anti-Assignment Act. If contracts are being transferred, the parties may need to complete a post-closing novation process with the government. That timing issue often requires careful post-closing covenants and in some cases pre-novation arrangements to maintain performance continuity.
What Deal Teams Should Focus On
At a minimum, buyers should be asking:
- Will the target remain eligible for its core government work after closing?
- Are cybersecurity controls and certifications supportable?
- Could the transaction create an OCI that affects future awards?
- Are there past compliance issues that could develop into FCA exposure?
- Do the transaction documents adequately allocate these risks?
In this market, government contracts diligence is often central to pricing, structure, and execution.
Learn more about Morgan Lewis’s M&A Academy.