Rough Sailing For EDS's Navy Contract

May 8, 2003

Erin Joyce

A major outsourcing contract with the U.S. Navy led to a first quarter net loss of $126 million for computer services giant EDS, largely due to a write-off of $334 million from the Navy deal.

The Plano, Texas EDS, said it had to recognize a $334 million pre-tax loss on its $7 billion multi-year contract to build an intranet for the Navy and Marine Corps.

Because of the contract issues, and problems with other contracts such as bankrupt clients USAirways and Worldcom, EDS reported a net loss of $126 million (26 cents per share) in the first quarter. During the same quarter last year, EDS declared a profit of $354 million, or 72 cents per share.

Total revenues were $5.37 billion, which was up by about 2 percent from $5.48 billion during last year's same quarter. But, at constant currency, the revenues were down by 3 percent overall, officials said.

During a conference call Wednesday to discuss the company's results, Bob Swan, EDS's chief financial officer, said he didn't expect the U.S. Navy contract to become cash-flow positive until mid-2004.

Delays in "cutting over" seats, or bringing workstations live in the Navy unit's intranet, as well as the lower-cost to purchase workstations, cut into EDS's expected profit on the contract, officials said. EDS officials describe "cutover" as a point at which Navy's Marines network users actually receive new desktop computers, operating systems and software and are fully connected to the network services of the new intranet.

EDS is currently transferring, or "cutting over" to the Navy's network 160,000 computer terminals that had been upgraded but held up for testing.

Although Swan said the Navy contract is expected to become cash flow positive during second half of 2004, for now, as part of a strategic review of its contracts and balance sheet, the company is assuming that the contract may never be profitable for EDS.

Because of its ongoing strategic review, expected to be complete in six months, EDS declined to give guidance on its outlook for the second quarter, only to say it expects results to come in below expectations.

EDS has been weathering a tumultuous six months, which included the ouster in March of former CEO Dick Brown. He was replaced by former CBS chief executive Michael Jordan. EDS is also facing a regulatory probe and over how it accounted for its outlook last year.

In another sign of the difficulties the company is weathering, EDS said new contracts for outsourcing and computer services were $3 billion, down by more than half from the $7.2 billion worth of contracts it took in during the same time last year.

But during a conference call with analysts Wednesday, company executives said EDS is being more selective in contracts it signs in order to avoid cash flow issues on contracts that become stalled, such as the one with the U.S. Navy.

EDS Chairman and CEO Jordan said "while no one likes reporting a loss, we believe we have addressed our major exposures. Now we can focus on growing our core outsourcing business in a long term growth industry where we are one of the two global players."

Other charges that depressed earnings for EDS were a $48 million pre-tax ($31 million after-tax) charge related to the severance package paid to Brown when he resigned. Changes in accounting on some contracts also resulted in a $17 million after-tax charge.


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