Business context and reporting period
Science Applications International Corporation (SAIC) filed this Form 10-Q for the third quarter of fiscal 2014, ended November 1, 2013. SAIC provides technical, engineering and enterprise IT services primarily to the U.S. Government. The company completed its spin-off from Leidos Holdings, Inc. on September 27, 2013; therefore, current-period results combine the predecessor businesses’ results before separation with SAIC’s consolidated results afterward. Prior-period comparisons reflect the combined businesses before separation and may not represent results as a standalone company.
Financial results and liquidity
| Metric | Three months ended Nov. 1, 2013 | Prior comparable period | Nine months ended Nov. 1, 2013 | Prior comparable period |
|---|---|---|---|---|
| Total revenue | $1,007 million | $1,213 million | $3,180 million | $3,626 million |
| Operating income | $37 million | $73 million | $127 million | $220 million |
| Operating margin | 3.7% | 6.0% | 4.0% | 6.1% |
| Net income | $22 million | $45 million | $80 million | $139 million |
| Diluted EPS | $0.44 | $0.90 | $1.60 | $2.78 |
| Operating cash flow | Not separately stated for the quarter | $58 million | $247 million |
Quarterly gross profit, calculated as total revenue less total cost of revenue, was $82 million, or approximately 8.1% of revenue, versus $112 million, or approximately 9.2%, in the prior-year quarter. The filing reports no quarterly cash-flow figure.
At November 1, 2013, cash was $157 million; current assets were $999 million and current liabilities were $599 million. Total debt and capital lease obligations were $502 million, including a $500 million term loan; net debt, calculated as debt less cash, was approximately $345 million. The company also had $200 million available under an undrawn revolving facility. Its $500 million term loan had a stated and effective rate of 1.94%; interest-rate swaps fixed the rate paid under the swaps at 1.41%. SAIC reported compliance with its debt covenants. Nine-month capital expenditures were $10 million.
Material changes versus prior comparable periods
- Third-quarter revenue decreased 17% ($206 million); nine-month revenue decreased 12% ($446 million).
- Quarterly operating income fell 49% and nine-month operating income fell 42%. Higher separation and restructuring costs and lower revenue were major factors.
- Nine-month operating cash flow declined by $189 million. The company cited lower net income, higher receivables and lower accrued payroll and benefits. Days sales outstanding rose to 64 from 56.
- Total backlog was $7.318 billion at November 1, down from $7.764 billion at January 31. Quarterly net bookings were approximately $1.5 billion, compared with $1.6 billion a year earlier.
- The company paid former Parent a $295 million separation-related dividend, funded in part by the term loan; it received a $26 million capital contribution. SAIC paid $14 million in dividends to its shareholders during the nine-month period.
Outlook, risks and unusual items
The filing provides no numerical revenue or earnings guidance. Management cited U.S. Government budget pressure, slower and delayed contract awards, reduced overseas contingency operations and program ramp-downs as headwinds. Management said it believes cash from operations, cash on hand and access to bank financing and capital markets will provide adequate resources for liquidity needs, while noting uncertainty in forecasting as a newly independent company.
Management identified the DGS program ramp-down, in-theatre force drawdown, lower Navy contract funding, and the government shutdown as factors affecting revenue or profitability. The shutdown also contributed to higher indirect costs and billing delays. Separation and restructuring expenses were $23 million in the quarter and $57 million for nine months, including advisory, banking, legal, severance, lease termination and facility consolidation costs. Nine-month contract estimate changes reduced operating income by $7 million.
Key risks include further defense and federal spending reductions, sequestration, government shutdowns or debt-ceiling disruption, competitive pricing pressure, contract award delays and the transfer or novation of government contracts from former Parent. Until novation, SAIC relies on former Parent to collect and remit certain customer payments. The company reported an $18 million liability for its share of potential indirect-cost audit refunds. It also disclosed $24 million of uncertain tax positions, $6 million of letters of credit and $17 million of surety bonds. SAIC must continue specified monitoring and compliance obligations related to former Parent’s CityTime matters. Management said other routine claims were not expected to have a material adverse effect.
Subsequent to quarter-end, the board declared a $0.28-per-share dividend payable January 30, 2014. In October, the board authorized repurchases of up to 5 million shares; the 333 shares reported as purchased during the quarter were surrendered to satisfy tax withholding, not repurchases under the public program.
Important facts for investors to verify
- How much of the revenue decline and margin compression persists after the DGS ramp-down, drawdowns and government budget disruption.
- Whether backlog converts to revenue as expected; unfunded backlog was $5.329 billion, and government customers can cancel contracts.
- Receivables collection, billing delays and working-capital trends, particularly as the company operates independently.
- Progress and timing of contract novations, and the reliability of former Parent’s payment and transition obligations.
- Debt service, covenant headroom and liquidity under the $500 million term loan and available revolving facility.
- Potential outcomes of government audits, tax reviews and other investigations or contingencies, including the $18 million audit-refund accrual.