LDOS

Business Context and Reporting Period

Company: SAIC, Inc. (formerly Science Applications International Corporation)

Filing Type: Form 10-Q (Quarterly Report)

Reporting Period: Three months ended April 30, 2007

Business Overview: SAIC provides scientific, engineering, systems integration, and technical services to U.S. military branches, Department of Defense agencies, the intelligence community, Department of Homeland Security, and selected commercial markets. The company operates through three segments: Government, Commercial, and Corporate and Other.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Growth: Consolidated revenues increased 6% year-over-year, driven by 2% internal growth and 4% acquisition-related growth. Government segment revenues rose 7%, while Commercial segment revenues declined 4%.
• Profitability Decline: Net income decreased 25% to $80 million. Diluted EPS from continuing operations dropped 33% primarily due to a $15 million decrease in interest income and a 20% increase in diluted weighted average shares outstanding following the October 2006 IPO.
• Cash Flow Reversal: Operating cash flow swung from a $79 million inflow in the prior year to a $134 million outflow. This was primarily due to timing differences in customer receipts and vendor payments, cash payments for fiscal 2007 bonuses (previously paid in stock), and a change in the presentation of tax benefits from stock-based compensation.
• Segment Performance: Commercial operating income fell 43% to $8 million due to lower margins on a fixed-price IT outsourcing contract in the U.K. Government operating income decreased slightly by 3% to $136 million.

Guidance, Outlook, Risks, and Contingencies

Outlook and Management Commentary

Management anticipates that operating cash flows, existing cash, and borrowing capacity are sufficient to meet requirements for the next 12 months. Net bookings were approximately $1.5 billion for the quarter. Total negotiated backlog decreased by $0.5 billion to $14.555 billion, largely due to reclassifying $0.3 billion of work from a definite delivery contract to an indefinite delivery/indefinite quantity (IDIQ) vehicle.

Material Risks and Contingencies

• Greek Government Contract: SAIC has recorded $123 million in losses on a firm-fixed-price contract with the Greek Government for a C4I system. A March 2007 contract modification required the customer to pay $34 million; only $27 million was paid, leaving $7 million unpaid. The customer also rejected one subsystem, which SAIC views as a breach. Significant uncertainties remain regarding the final outcome, and the company is using the completed-contract method for the development portion, recognizing no additional revenue until completion.
• Telkom South Africa Arbitration: SAIC's former subsidiary, Telcordia, is in the second phase of arbitration against Telkom South Africa seeking damages in excess of $200 million plus interest. Telkom agreed to pay $7 million in uncontested damages. The final award amount is not determinable, and no assets or liabilities are currently recorded.
• Tax Contingencies: Following the adoption of FIN 48, the liability for uncertain tax positions was $50 million as of April 30, 2007. The IRS is currently auditing fiscal years 2005 and 2006.

Investor Verification Checklist

• Verify the status of the $7 million unpaid balance and the rejected subsystem acceptance under the modified Greek Government contract.
• Monitor the September 2007 arbitration hearing regarding damages from Telkom South Africa.
• Review the impact of the $123 million recorded loss on the Greek contract and potential for reversal or additional losses.
• Assess the sustainability of operating cash flow given the $134 million outflow in the quarter driven by working capital timing and bonus payments.
• Confirm the utilization of the $650 million available capacity under the revolving credit facility, noting the $100 million reduction due to standby letters of credit for the Greek contract.