CSC - an analyst's view

Finally someone else is becoming publicly skeptical about CSC’s outlook

It  sometimes seemed that we were almost alone is having serious doubts about the sustainability of CSC’s so-called recovery. The only people who seemed to share our view were many of CSC’s  employees.

No longer! An article from iStockAnalyst datelined December 20 highlights the weaknesses we have talked about. Further, Deutsche Bank analyst Bryan Keane, who has followed CSC for some time and is a regular attendee at CSC’s quarterly  earnings analyst calls has publicly expressed his skepticism about CSC’s ability to make its financial targets.

Full details of iStockAnalyst’s article can be found on:

http://www.istockanalyst.com/finance/story/6694487/computer-sciences-corporation-nyse-csc-csc-may-miss-fy2014-revenue-target

Here are some extracts of the key points it raises:

·      CSC may miss its fiscal 2014 and 2017 revenue goals, as the next phase of turnaround gets more difficult. The company's margin expansion and cost takeout has tracked ahead of the plan, but revenue has fallen short of expectations.

·      Although there is some potential remaining for margin improvement due to cost savings over the next few quarters, these will become more challenging to achieve over time. CSC will soon need to improve revenue growth to drive profitability improvement. Bryan Keane is skeptical that CSC can accomplish a revenue turnaround near-term especially given the recent significant business model and organizational changes.

·      CSC targets revenue of about $16 billion in fiscal 2014 and $18 billion in fiscal 2017. The company is expected to generate sales of $13.07 billion for the year ending March 2014, which is implying a drop of 12.9 percent from last year. Keane also believes CSC will clearly miss its fiscal 2017 revenue goal of $18 billion.

·      While CSC's pipeline in Cloud and applications has grown significantly, the company is not responding fast enough to other opportunities including moving to a consulting partnership model, improving cross-selling and focussing away from software licenses towards a services based BPO model.

·      The company plans to refresh the sales force (currently 1,200 employees) with new hires and aim for deeper client relationships. Additionally, it is re-evaluating its pricing strategy as it is losing deals because of price. It also expects to expand margins beyond fiscal 2014 by operating leverage, standardization of offerings, mix changes towards higher value services, offshoring, leveraging shared services, resetting the pyramid structure, as well as automation. (Blog editor’s note: all this makes us think that what CSC needs is a true transformation program!!).

·      CSC would need to report some revenue growth in its commercial business to achieve its fiscal 2014 forecasts. The IT services demand environment remains relatively healthy, but CSC has to go out and actually win the deals! This is especially important as US Federal government budgets still remain weak and may prove to be a headwind for CSC, which derives almost 40 percent of its annual revenue from federal contracts.

When you put all of this together, it reinforces our view that it is difficult to be optimistic about the outlook for CSC unless or until it starts generating revenue growth. And for the moment we do not see many signs of that happening in the near-term.

Is CSC really transforming itself or just running round in circles?

Only time will tell if CSC’s management is transforming the company fast enough and in the right way to avoid its profitability collapsing as significant changes occur and as Nemesis in the form of the Securities and Exchange Commission and aggrieved investors doggedly continue investigations into the company.
 We see three themes emerging which ought to concern employees, investors and customers.

Firstly: with the cost reduction program well under way it is now obvious that CSC is targeting old-style outsourcing and consulting as it slashes headcount across the board and closes facilities. We do not argue that much of this needs doing but continue to question the intelligence that has gone into what look like pretty crude changes. Many would say ‘the baby is being thrown out with the bath water’.

Secondly: new business is just not being signed up.  See our post on this from July 2013 and the later one in October. According to CSC’s own press announcements not a single significant contract has been signed outside the USA this year. Those signed within the USA are all US government focused and part of multi-supplier deals where CSC is one of 15 and more in a single contract. No revenue has been attributed by CSC in any of these contracts, which means we do not know just how big, or little, they really are. Therefore as far as we can see the new business has to come from the acquisitions of which there have been many. The question is do they fill the gap in terms of revenues and profitability lost elsewhere? Another question is, why is CSC’s commercial business in apparent decline? Even current customers are walking away.  We have commented on that and wondered why CSC seems to be letting this happen. The latest being Tryg a longstanding customer in Denmark who has served notice to close a contract and transfer the business to Tata. This story has appeared in on-line news in both the The Business Standard and in The Times of  India. 

 Thirdly: the SEC has served yet another Wells notice, story (link here) this time to the company itself, not an individual. CSC has not chosen to comment on this matter as it has the right to do. But for the sake of its reputation and good relationships with customers and employees they ought to say something, even if it is only to acknowledge such an event has occurred and that it is dealing with it. Whatever happened to the investigation into irregularities that was mandated by CSC's own Audit Committee? Were the findings too embarrassing to be published? To cap it all,  CSC’s alleged involvement in flights of rendition, story link here from the German press, has almost certainly caused potential and current customers to question whether they wish to be viewed as a business partner of a company like CSC.

 As calendar year 2013 closes there are just three months left for CSC to show good solid financial results (not smoke and mirrors) to investors. CSC may still be able to put together a good story as the loss-making business are closed, overheads are reduced, and the integration of newly acquired businesses provide the opportunity to restate financial comparators.  

At the beginning of this post we asked, is CSC really transforming itself or just running round in circles confusing motion for progress? Only time will tell.