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Get Four
|  | OCTOBER 12, 2004
 FOCUS STOCK By Stephanie Crane Computer Sciences' Savvy Strategy This provider of outsourced info-tech services is capitalizing on strong demand in key markets, earning S&P's highest rating Standard & Poor's Equity Research Services expects Computer Sciences (CSC; recent price, $49) to benefit from upward momentum in demand for so-called business-process outsourcing and for info-tech infrastructure. We also expect Computer Sciences to take advantage of solid demand from government, where a focus on defense, homeland security, as well as cost savings and operational efficiency, is driving IT outsourcing contracts. We also believe Computer Sciences' ability to use global positioning technology to leverage cost and pricing efficiencies across emerging markets will help it bolster operating margins in the face of competitive pricing. The stock carries S&P's highest investment recommendation of 5 STARS, or buy. Computer Sciences offers a broad array of services to clients in global commercial and government markets. It specializes in complex IT -- such as business-process outsourcing, IT applications, and professional services -- to help its customers achieve their strategic objectives. In fiscal 2004 (ended March), 67% of revenue came from the U.S., 25% from Europe, and 8% from other countries. DOING IT ALL. In March 2003, Computer Sciences acquired DynCorp, a provider of systems, services, and outsourcing to the U.S. government. In our view, the deal bolsters its position in the federal marketplace and provides an opportunity for diversification into new markets. Outsourcing (45% of revenue in fiscal 2004) involves operating all or a portion of a customer's technology infrastructure, including systems analysis, applications development, network operations, desktop computing, and data-center management. Computer Sciences also provides business-process outsourcing, which involves managing key functions for clients such as claims processing, credit checking, logistics, and customer call centers. IT and professional services (55%) includes systems integration, consulting, and professional services. Systems integration involves designing, developing, implementing, and integrating complete systems. Consulting and professional services includes advising clients on the strategic acquisition and utilization of IT, and on business strategy, security, modeling, engineering, and business-process reengineering. BIG CHECK IN THE MAIL. Computer Sciences also licenses sophisticated software systems for health-care and financial-services markets, and it provides a broad array of end-to-end e-business services to meet the needs of large commercial and government clients. The customer base is divided between the global commercial market (58% of fiscal 2004 revenues) and the U.S. federal government (42%). The former offerings are marketed to clients in a wide variety of industries, including aerospace/defense, automotive, and consumer goods. Computer Science's largest commercial contract award in fiscal 2004 was a 10-year, $2.4 billion deal to manage the IT operations of Royal Mail, Britain's postal service. In the U.S. federal government market, Computer Sciences provides traditional systems integration and outsourcing for complex project management and technical services. It has extensive experience in developing software for defense and civil agency applications, and it provides systems engineering and technical assistance in network management, satellite communications, aerospace, and related high-tech fields. SKITTISH CIOs. One factor in S&P's favorable opinion: recent comments from Computer Science's management reaffirming that it sees signs of stability within the consulting industry, which, specifically in Europe, had been showing some weakness. It also noted continued upward momentum in IT and business-process outsourcing in Europe and the U.S. The weakness in consulting contracts, in our opinion, comes from corporate CIOs' hesitation to devote capital spending beyond the needs of security, disaster recovery, and Sarbanes-Oxley compliance. As a result, demand for consulting contracts is increasing within these three specific segments. We also believe CIOs are paying attention to replacing existing IT assets (particularly systems in operation prior to 2000) and transforming existing IT infrastructure to provide for operating efficiencies. Both of these trends are providing sustained demand for companies such as Computer Sciences. At S&P, we see the IT services industry as a whole beginning a shift in the typical business model, which we believe should benefit Computer Sciences. According management, contracts are being negotiated so that clients take more ownership of the assets from the beginning, instead of the IT service provider having to make a capital outlay up-front. This change should significantly benefit Computer Sciences and others, as the new model eases some pressure on the balance sheet and free cash flow, and allows for the contract to see a higher return on investment (ROI) and an earlier payback period.
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