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The Most Overlooked Technology Bargain: Computer Sciences (CSC)

September 23, 2011 | About:
Computer Sciences Corporation (CSC) carries a 4-Star GuruFocus rating for business predictability.

Founded in 1959, Computer Sciences is one of the largest and oldest providers of IT solutions. The company has a dominant position in most of the key markets worldwide, and while many technology companies could be value traps, CSC is a huge value play.

Let's take a look...

CSC's sales have consistently increased over the last decade from $11 billion to over $16 billion, while at the same time, the company has bought back over 10% of their outstanding shares, which has helped it boost EPS from $2.01 back in 2002 to $4.51 over the last year.

More importantly, the Buffett indicator shows the management has done a great job allocating capital to build book value, taking it from $21.17 to $48.58 in the last decade.

On September 14, Computer Sciences (CSC) announced that it will be acquiring AppLabs, an Indian firm it refers to as "the world's largest pure-play software testing and quality management service provider." The company sees the purchase improving its testing capabilities, and if the estimates are close, a 21% average annual growth for the market.

This was a great move, and the reason I mention it is because over the last three years, the stock has traded with a very low P/E. At the beginning of the decade, CSC had a P/E of 20x and a price to book over 2x. Today, the company has a forward P/E of 5, a price to book (P/B) ratio of 0.5, and price to cash flow (P/CF) ratio of 2.5. And, it's the best of the breed.

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The challenges for Computer Sciences, which could already be priced into the stock, include sluggish government spending. It's not a secret that the country is broke and all the spending that it is doing is coming out of money it prints, not real savings or tax income. However, in the case of CSC, I feel they are insulated from huge cuts because over the next 10 years, terrorism will not be bombs on the metro, but attacks on government data and intelligence.

So, while CSC derives most of its revenue outside the realm of public services, the government will still spend on IT. This is exactly why it will thrive while companies like L3 (LLL), General Dynamics (GD), Northrop Grumman (NOC), and other defense contractors will suffer.

Analysis

The market is a finicky place where one minute traders are willing to pay up for a company's earnings and another they discount them too far. In the case of CSC, the current multiple is too low, in my opinion, and could easily be 10x in a year. That would put the stock around $45 - $47 per share, an increase of close to 100%. Plus, with the recent decline in the overall market pushing all stocks lower, this could be a perfect time to buy into the company.

For long-term investors, if the company keeps up with share buybacks and it’s able to generate higher net income from strategic acquisitions, you could see a $7 or $8 per share number 10 years from now, giving the stock a price over $100. That’s a four-fold increase from yesterday’s closing price.

The Guru Play

The largest position in the company is held by Dodge & Cox (10% of the outstanding shares), with Brian Rogers, and Richard Snow also owning a small piece of the company. All own the stock in the high $30s, and if they hold onto the company, you will be up 42% when they are breaking even.

About the author:

Jonathan Poland
Since 2002, I've worked with investors all over the world. Between 2009 and 2010 worked with GuruFocus to start their investment newsletter service.

Visit Jonathan Poland's Website


Rating: 3.8/5 (11 votes)

Comments

pravchaw
Pravchaw premium member - 3 years ago
I have had my eye on CSC for a couple of months. Good to see this article which validates my opinion. Morningstar gives the company a 5 star. Valuation is astounding a earning yield of 18.4% , low debt (credit rating of A-). The stock is now selling at the same price as in the depth of the 2009 crisis. A greek panic may drop the stock even further but downside appears to be limited.
tonyg34
Tonyg34 - 3 years ago
I have concerns about competition in the IT and cloud services space from smaller competitors focused on specific client services like ACN or SAI (in medical health care sector and gov't IT programs), and also from larger IT providers who offer integrated services like HPQ and EMC. So if you factor in the stalled or (at least) possible decline in government contract spending with increased competition, I don't know if you can assign CSC a market multiple (or any of the rest of them).

IT contractors have very low expectations, and rumors abound about delayed/cancelled programs and contracts. You know the rule: Buy the rumor, sell the truth.

Can't fault your thesis (fears of gov't spending are way overblown), I would just need more info about the industry dynamics to follow your lead. I've taken the same thesis in a different direction: defense contractors are some of the cheapest industrial conglomerates (ITT, UTX, HON).

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