Thursday, 17 November 2011

CSC takeover rumors again, but let’s not get excited yet

The Wall St Journal (WSJ) today reported fresh rumors about a possible buy-out of CSC,

The rumors involve private equity institutions as potential acquirers. This may seem like an opportunity from heaven for the long-suffering CSC shareholders, but let’s not get excited yet.  

There were similar rumors a few years ago and CSC is said to have refused bids of around $60 per share in the belief that remaining independent would generate greater shareholder value.

Things are different today. CSC’s market capitalization is only about 40% of what it was when these bids are said to have occurred. The company has a weaker market position than 5 years ago.  It has lost ground in terms of market and technology positioning.  It has become a vanilla-flavored “me too” player, overtaken by many competitors. It has a weak top management team.

A private equity buyer would de-list CSC from the NY Stock Exchange. This could be an excellent move, as it would give CSC the opportunity and breathing space to address the strategic issues it faces without being hampered by the need to publish  quarterly earnings.

But before we get that far, there are two key questions. First, how much would an acquirer be willing to pay for CSC?  The issues noted in the previous paragraph, allied to CSC’s poor financial performance, will have a negative impact on the price.  So we should not expect a large premium over the current share price.

But more important could be the uncertainties surrounding CSC. What will be the outcome of the class action lawsuits? What will be the outcome of the SEC investigations which now include Australia? What will be the outcome of the UK NHS IT discussions? In the US the Federal and Commercial infrastructures are intertwined and relaint on one another. How can a possible suitor unravel these if they intend to break up the company as has been rumoured? What are the prospects of the Public Sector business in the current economic climate?  How many of CSC’s executives are capable of doing what is needed to turn the company round?   Can employee morale and enthusiasm, see  be re-kindled to the levels needed for a successful transformation?   These are uncertainties that could make an acquirer “kick the tires” to use the WSJ expression…. then decide the risks are too great and to withdraw at least until the outcomes of these situations are clearer.

Tuesday, 15 November 2011

CSC…….What a difference a week makes

One week ago, just ahead of its Q2 FY12 earnings conference, CSC stock price was almost $33.
So what differences have we seen arising from the Q2 FY2012 results and the unconvincing performances of Messrs Laphen and Mancuso at the earnings conference?  Here are three differences one week has made:

·         The share price has slipped again, this time by almost 25% to below $26.

·         The Bloomberg index of the analysts’ target price for CSC stock over 12 months has slipped to $29.85

·         CSC’s  credit rating has been put on negative watch by S&P, who are not convinced by CSC’s earnings guidance for the rest of FY2012.

Things have to be quite bad for a financial writer to quote the impending departure of Mike Laphen (and hopefully his management philosophy with him) as a reason for optimism. For full details of Stephen D Simpson’s article, which  describes why CSC has problems “left, right and center” can be found on:

The departure of CFO Mike Mancuso is also overdue, even ignoring his performance at the earnings call and the fact that the analysts now seem to be skeptical of anything he says.  How can a company keep a CFO who has presided over 5 profit warnings/earnings misses, two major cases of intentional  accounting irregularities,  an SEC investigation, an Audit Committee investigation, class action lawsuits and having to inform the SEC that the company’s financial reporting could not be relied upon?  And all this in a period of less than 3 years.  Perhaps CSC’s Board of Directors has decided it needs to continue with Mancuso because there is no internal candidate with the skills to handle the position on an interim basis and because it feels the new CEO must be part of the selection process for a permanent CFO.

CSC also needs to signal a change in its approach to and re-establishment of its credibility with the analyst community.  It should begin by appointing an experienced Head of Investor Relations with a track record of success and credibility in the role.  VP of Investor Relations Bryan Brady’s problems in the area of interpersonal skills came through clearly last week, as well as his seeming not to have adequately prepared Messrs Laphen and Mancuso for the conference.  When the company is in struggling, it does not help to have self-inflicted difficulties with the analyst community.

Saturday, 12 November 2011

CSC’s $2.7billion Goodwill impairment charge – why it matters.

CSC wrote off almost $2.7billion of goodwill in Q2 FY12.   
Here is CEO Mike Laphen’s explanation at the November 9 earnings call:

“We have taken a noncash goodwill impairment charge (….). In our estimation, a key contributor to this charge is the fact that our stock price, which has been under pressure from both market declines and the uncertainties surrounding the MSS challenges, depending CSC investigation, the NHS program and U.S. federal budget deficits. Although we expect these uncertainties eventually to be resolved, our low stock price has persisted for a sufficient period to create a discontinuity between market price and the book value. And it is this discontinuity that necessitates the adjustment to goodwill”.

This  explanation focuses on the financial approach, as if the charge is driven by unavoidable accounting requirements and market factors outside CSC’s control . It does not explain what the impairment charge means in a business layman’s terms.  Here is another way of looking at it:

Over the years, CSC has acquired a number of businesses whose goodwill values  (*) totalled $4.5 billion , which is broadly what CSC  paid for them.  CSC’s management of these acquired businesses has reduced the goodwill values to some $1.8billion based on the company’s  best assessment of the situation today.   CSC hopes to improve this situation in the future , but for now it is obliged to write off the $2.7billion goodwill value it has destroyed.

Management’s poor performance has driven CSC’s share price to the point where the market value of the goodwill of CSC in total stands at $3.4billion (**) today. Continuing to value goodwill of just one part of CSC (ie those businesses which came to the company via acquisition) at $4.5billion would be absurd. Thus the need for a $2.7billion impairment charge to reduce goodwill relating to acquired businesses to a more realistic $1.8billion.

 (*) Goodwill can be defined as the underlying value of the intangible assets of a business, including their capabilities, know-how, intellectual property,  employee skills, client base, future earnings potential etc  
(**) Being CSC market capitalization less its net tangible assets

posted by Littlejohn

Friday, 11 November 2011

CSC Posts a loss - a massive one

Good Will Accounting

CSC in its latest quarter reporting has posted a loss due to 'annual review of Goodwill' a catch all for anything the management want to book to to keep the results up. But time has run out on them. Read on.

CSC Q2 FY12 earnings call– The problem is us. We have missed their thinking.

CSC produced its fourth consecutive earnings shock in their Q2 FY12 call of November 9.   Not that you would have understood that from the comments of CEO Mike Laphen and CFO Mike Mancuso which confused me and seemed to confuse the investment analysts too.  One analyst talked about “more confusing signals from you guys”.  Another asked for clarification on a key point and was told by Mike Mancuso that he had “missed their thinking”.  CSC seems to be in a mess,   maybe this is simply because I have also “missed their thinking”.

CSC reported a second-quarter net loss of $2.88 billion, or $18.56 a share, including goodwill impairment and claims settlement charges totaling almost $3billion.  This blog commented on the claims settlement in our posting of  26 August 2011 . The Goodwill impairment charge is described as a non-cash charge driven by CSC’s market capitalization level, an accounting thing, not really a business thing. We shall make a separate blog posting on this topic later. 

CSC said that, excluding those items and costs related to the ISoft acquisition, they made a profit for Q2 FY12 of 94-cents a share, beating the 68-cent analyst estimates, based on 1%  year-on-year revenue growth. This explanation is about as convincing as Mike Laphen’s  grasp of reality.  Reality is that CSC posted a loss of $2.88billion.   The goodwill impairment and claims settlement charges are due to and under the responsibility of CSC management. They are not one-off  items beyond their control.  CSC also announced that the accounting irregularity disease in CSC Nordic has now spread to Australia and that the SEC investigation has been extended to that country.

Mike Laphen gave his well-worn speech about how the company is poised for great success, they just have to solve a few one-off problems. He talked about being “encouraged” by the new business wins in the commercial sector.  He said “ Our strategic repositioning and the investments we had made to our sales and go-to-market capabilities over the last year are now delivering solid results”.  I am not sure anybody believes his speeches of “success just around corner” after the events of the past 12 months.  I do not.  Even CSC’s self-declared 94-cents per share earnings equated to a pre-tax profit margin below 3%  with just 1% revenue growth.  Hardly “solid results”.

CSC also dropped its FY2012 earnings guidance from $4.70 - $4.80 per share to $4.05 - $4.10 per share. Here again, I seem to “miss their thinking” and judging by their questions, so did some of the analysts on the call.

·         I am not convinced that it is right to continue to assume the high levels of NHS revenue and margin for Q3 and Q4 as outlined in a framework Memorandum of Understanding (MoU)  which has not been signed and for which CEO Mike Laphen admitted there is "no assurance" that an agreement with the NHS will be reached soon.

·         CSC  talks about seeing  market softness in Germany, which is Europe’s strongest economy. What about the potential risks in UK, France and Italy given their sovereign debt issues, economic austerity measures and the Euro crisis?

·         How will CSC climb to an EPS of $1.40 in Q4, given the factors above and the well known risks in the US Federal sector ?

So it was another thoroughly miserable day for CSC shareholders. A few years ago CSC was talking about double-digit future revenue growth as the reason for remaining independent and turning down $60 per share acquisition offers.  Earlier this year the shareholders started to wonder if we would see the days of $60 per share again. Today we wonder if anybody would be interested in buying CSC at any price given its present condition.

CSC non-executive directors must stand up and be counted. They must ask themselves what is the value to the company of continuing with Messrs Laphen and Mancuso at the helm even in the immediate term. The company is in crisis. They are not equipped to deal with it.  Their already damaged credibility was not enhanced by their performance at the Earnings Conference.  The prospect of another 12 months of their leadership is not reassuring.

posted by Littlejohn