Researchers: Firms Should Reconsider Value of Government Contracts

Is it profit or loss when it comes to government contracts?

Conventional wisdom suggests that companies contracting with the government enjoy long-lasting financial windfalls, but new research published in the Journal of Business Logistics suggests the arrangement is not as valuable as many firms might think.

While the government contracts signal legitimacy for the winning bidders and bring in short-term financial returns, contracting ultimately can lead to long-term performance declines for companies, according to researchers at Florida Atlantic University and two other schools.

Government contracting is a lucrative business, particularly for firms in the aerospace, defense and high-tech industries. The United States government spent $6.27 trillion contracts in 2022 alone, making it the world’s largest buyer, according to USGovernmentSpending.com.

The researchers studied 198 publicly traded manufacturing companies in the U.S., compiling data from three different data sets over an 11-year period.

Researchers then tested their hypotheses using various statistical methodologies, finding that a higher return on assets from government contracts increases initially, then erodes over time and leads to a drop in market value for firms.

“The general perception is that entering into a contract with the government has an infinitely positive financial upside,” said Steven Carnovale, Ph.D., an associate professor of supply chain management with FAU’s College of Business. “Our results show that there certainly is a positive impact in the short term, increasing a firm’s returns. But in the long run, the administrative demands and complexities of these public-private partnerships ameliorate these gains, ultimately resulting in a decline in market value.”

Carnovale partnered on the study with Ellie C. Falcone, Ph.D., of the University of Oklahoma, and Brian Fugate, Ph.D., and Brent Williams, Ph.D., of the University of Arkansas.

One way to mitigate the negative effects is to partner with other companies that have substantial government contracting experience, according to the researchers, who found that the partnership can increase short-term benefits and limit losses.

The study’s findings are particularly timely, given the Biden Administration’s discussions of infrastructure, green energy and various large-scale spending bills that will necessarily involve private firms, Carnovale said.

“Companies should consider the overall picture, not just the value and the initial upside of the potential contract,” he said.

-FAU-