CSC Contract Woes... Is Dividend Now At Risk? (CSC)

If you ever run a “value screen” in the world of stock strategies, Computer Sciences Corporation (NYSE: CSC) shows up all the time as a “cheap tech stock.”  Unfortunately, this is a situation where “value” is really a “value trap.”  Fresh news of a contract charge is taking a serious bite out of CSC’s share price and it brings up other serious questions.

An SEC filing from Tuesday shows that things have not improved on its contract negotiations.  Things have deteriorated.  The age of austerity may be at fault.  For CSC investors, the hope is that this is just austerity.

The company disclosed all the way back in May 2011 it had “substantially completed negotiation of the terms of a memorandum of understanding with NHS which set forth the key terms of a reduction in the scope and related contract value of the parties’ agreement relating to the NHS IT program.”  Between May 2011 and the end of September 2011, U.K. government reviews of the NHS IT program occurred and U.K. government officials confirmed that they would continue to work with existing suppliers to determine the best way to deliver services in a way that allows the local NHS trusts to exercise choice while delivering the best value for the expense. 

It was further disclosed that the parties have been engaged in further discussions relating to the MOU since mid-November 2011, including a proposed contract amendment with different scope modifications and contract value reductions than those contemplated by the MOU.  The problem is here: “CSC recently was informed that neither the MOU nor the contract amendment then under discussion would be approved by the government.”  The company said that it expects that the parties will continue discussions in January 2012.

Due to the circumstances, CSC will recognize a material impairment of its net investment in the contract in the third quarter of fiscal year 2012… the company is unable to estimate the amount of such impairment… The failure of the parties to enter into a contract amendment, a significant delay in entering into a contract amendment or the execution of a contract amendment on terms unfavorable to CSC would result in a material impairment of CSC’s net investment in the contract and could have a material adverse effect on CSC’s consolidated financial position, results of operations and cash flows.

• “However, depending on the terms of such an amendment or if no amendment is concluded, such impairment could be equal to the Company’s net investment in the contract, which, as of November 30, 2011, was approximately £943 million ($1.5 billion).”

As you might have expected, CSC has withdrawn its previously disclosed fiscal year 2012 financial guidance.  Shares are down over 7% at $24.44 and the 52-week trading range is $22.80 to $56.61. With shares under $25.00 and with Thomson Reuters having (prior) earnings estimates of $3.73 EPS in March-2012 and $3.88 EPS in March-2013, the “value stock” screen shows a blended forward 2012-2013 price/earnings ratio of about 6.5-times expected earnings.  The problem is that those figures will come down greatly now. 

Our question is whether or not the $0.20 per quarter dividend, now 5 straight quarters in, is safe.  When the first $0.20 payout was made in December 2010 the CSC share price was around $47.00.  Now that price is under $25.00 and the new dividend yield is now 3.2%.

CSC now has a market capitalization rate of only $3.8 billion.  Its net tangible assets and total equity have come down this year while its long-term debt had increased slightly in the last two quarter-end reports.

Unfortunately, this is just not good regardless of how you measure it… Unless you were selling this one short.

JON C. OGG