Annex Newsflash 2005-05                          March 1, 2005

  

Updated 3/02/05, 4:30PM MST (adds  "Where There's Smoke..." and updates stock price)

London Sunday Times Breaks a "Story"

Rumor Lifts EDS', Fujitsu's Shares

EDS, Fujitsu Reportedly Win a $7.7 Billion U.K. Defense Contract

PHOENIX, Mar 1 - Talk about a "buyers beware" story!  Everybody is declining comment - the source, the target, the co-players, the alleged losers... Yet a London paper ran a Sunday (Feb 27) piece anyway on EDS' and Fujitsu's alleged win of a $7.7 billion (£4 billion) contract at Whitehall, the British Defense Ministry.  The London Times itself even said in it:

"A Ministry of Defence spokesman refused to confirm that EDS and Fujitsu had won and added: 'We will be making an announcement in due course'."

Yet other media, including the Wall Street Journal, Reuters, Associated Press, CBS MarketWatch...etc. all joined the feeding frenzy, citing the original London Times story based on unnamed sources whose veracity everybody is denying, or at least declining to confirm.  

As a result, some real money changed hands based on an unconfirmed story.  EDS and Fujitsu shares were both up yesterday (Feb 28).  EDS' stock rose by almost three points (on a down Dow Jones day!?); Fujitsu's by over two points (see the charts). 

In EDS's case, the London rumors lifted its market cap by about $300 million.  In Fujitsu's case, it was by about $290 million.

And what was all the fuss about?

Well, the British Defense Ministry, also known as Whitehall, has been considering competing bids from two consortiums on the Defence Information Infrastructure (DII) project, one of the world’s biggest technology contracts. It is intended to enable better communication between 100,000 civil servants and the 200,000 personnel in the Army, Royal Navy and Royal Air Force.  Creating a single network from the profusion of systems in use is initially expected to create about 2,000 jobs, the London Times said.

The two competing groups, dubbed Atlas and Radii, are led by EDS/Fujitsu and CSC respectively.  

"The award of the contract — the culmination of a three-year procurement process — is a coup for EDS," the Times claimed. "The American company has been battered in the past by bad publicity over problems with the systems it created for the Department of Work and Pensions and the Inland Revenue."

The Times never even mentioned the U.S. Navy fiasco, something that's more relevant to the Whitehall project.  EDS' bad management of that project has led to huge losses for the company.  In fact, even when and if EDS finally manages to get the multi-year nightmare under control, it will probably never make a dime on it during its initial term, according to a Feb 28 Wall Street Journal story:

"The U.S. Navy contract has produced huge losses for EDS and sapped the company's cash flow, pushing its credit rating to junk-bond status. As it works through the Navy installation and operating problems, EDS recently said it expects the contract to consume as much as $100 million in cash this year. It has said it expects no profit over the initial term of the contract."

Is that what the EDS shareholders can expect from the Whitehall "win?"  If so, sensible traders should trade the EDS shares DOWN on the day its "victory" is actually announced.  

As we've often said of such megadeals, "they are like a game of chicken; the last company to say 'no' to the deal gets stuck with it."

"Where There's Smoke..."

PHOENIX, Mar 2 - "Where there's smoke, there's fire," goes an old saw.  This morning, the British Defense Ministry officials made it official:  A consortium led by EDS has been picked for a £4 billion ($7.7 billion) contract to overhaul its IT systems.  It's the biggest EDS new contract since 2002, the last year of Dick Brown's administration.

Whitehall named EDS and partners in the Atlas consortium to take up the £2.3 billion first phase of a three-part plan to upgrade and streamline a system now reliant on more than 5,000 computer applications.  EDS's partners are Fujitsu, General Dynamics, LogicaCMG, and EADS, a unit of Cogent Defence & Security Networks.

The 10-year contract carries an option of five additional years and will link more than 300,000 personnel in 24 countries.  The project will initially manage a network of around 70,000 desktops linking the ministry's headquarters in London to defense deployments around the world, the Reuters newswire reported this morning.

So there you have it... All you need to do is screw up royally to be noticed (and then rewarded) by a royal ministry.  Playing with (one's own fiscal) death can be gratifying - if you survive.  And EDS has survived the U.S. Navy.  Her Majesty's government must have a lot of faith that EDS has learned from its missteps.  And if not, the contract provides that one of its consortium partners would step in and pick the slack - one benefit of spreading the risk around.

If there is one likely winner in the Atlas consortium, it is Fujitsu.  The company will get a chance to check out a possible acquisition target (with which to bolster its global IT services business) close up and personally.  Except that there is a "catch 22."  EDS's shares are currently grossly overpriced.  And they won't get any cheaper if the two companies' collaboration works out in the British defense deal.

Fujitsu, the second largest IT services company in the world[1] (we expect it to surpass EDS in its fiscal 2005 year - see "Recovery Continues", Nov 2004, and "Fujitsu: Back in the Black, But...", Aug 2004), may have been also a lynchpin in EDS's clinching the Whitehall deal.  The company partnered with Capgemini in December 2003 to win another big U.K. government deal - away from EDS - at Inland Revenue! (see "Biggest Feather in Cap's Cap", Dec 2003).  So the Japanese company that acquired the British services company ICL in 1990, once owned by the British government, evidently has an inside track with Her Majesty's government.

It is worthy of note that the consortium led by IBM and the U.S. defense contractor Lockheed Martin had dropped out of the British DII race earlier, suggesting that the profit margins on this deal were thin to non-existing.  So " sensible traders should trade the EDS shares DOWN on the day its 'victory' is actually announced," we wrote three days ago.  

That day has now arrived.  Back to our "game of chicken" comment from the original story (see above).

Happy bargain hunting!

Bob Djurdjevic


[1]  That Fujitsu is the second largest IT services company in the world is one of the best kept IT industry secrets.  That’s because most of its business is in Japan, and the visibility of its services business in the U.S. is minimal.  Which is the reason we thought its eventual acquisition of EDS, a well recognized though now tarnished global brand, would help increase its profile in the IT services sector.

P.S. The EDS stock ended the day (Mar 2) right where it started - unchanged at $21.05 - after trading as high as $21.48 around noon.  Maybe the reality about its "big win" is finally setting in?

For additional Annex Research reports, check out... 

2005 IT:  Rumor Lifts EDS', Fujitsu's Shares (Mar 2005);  Capgemini: Turning the Corner (Feb 2005);  IBM Servers to Grow Again (Feb 2005);  Carly's Fickle Fans (Feb 2005);  CSC: Gearing Down on Purpose (Feb 2005);  EDS: Grossly Overpriced Stock (Feb 2005);  IBM Historical Update: 2004 Shot in the Arm (Feb 2005); New HeadTurners Series #1 (Feb 2005); IBM: A Crescendo Finale! (Jan 2005); Accenture: Strong Finish, Better Start (Jan 2005); Annex Coverage 2004: IT Services Dominate (Jan 2005)

2004 IT: EDS: The Titanium Stock (and other Wall Street tales) (Dec 2004); IBM PC: Good Riddance (Dec 2004); Fujitsu: Recovery Continues (Nov 2004);  IBM Server Renaissance (Nov 2004);  HP Hits Home Run (Nov 2004); Capgemini: Revenue, Stock Soars (Nov 2004); EDS: Jordan's Swan Song? (Nov 2004);  To Russia with Love and $ (Oct 2004); IBM: Slow Quarter No Longer (Oct 2004); Accenture: Revenues, Profits Up, Stock Down (Oct 2004); Capgemini: A Takeover Target? (Oct 2004); Sellout of America (Oct 2004); Spy Wars (Sep 2004); Outsourcing Boomerang (Sep 2004); EDS to Cut Up to 20,000 More Jobs (Sep 2004); Capgemini Stock Plummets on Unexpected Loss (Sep 2004); HP Savaged by Wall Street (Aug 2004); Moody's Lowers the Boon on EDS (July 2004); HP: Delivering Value Horizontally (June 2004); Accenture: Revving Up a Notch (June 2004); Beware Your CFO! (May 2004)IBM: Changing of the Guard (May 2004); Capgemini: Texas-size Home Run (May 2004); Following the Money (May 2004);  EDS: On a Wink and a Prayer (Apr 2004); HPS Wins by a Nose! (Octathlon 2004); Accenture: Burning the Track (Mar 2004);  IGS: "Crown Jewel" Restored? (Mar 2004); HP: Still No Cigar (Feb 2004); Cap Gemini: Another, Smaller Loss (Feb 2004); CSC: Good Quarter Gets Boos (Feb 2004); EDS: "Hot Air Jordan" Flaunts Flop as Feat (Feb 2004); IT Industry: Whither Goeth It? (Jan 2004); Cronyism Is Alive and Well at EDS" (Jan 2004)

Or just click on and use "financial engineering" or similar  keywords.

Volume XXI, Annex Newsflash 2005-05
March 1, 2005

Bob Djurdjevic, Editor
(c) Copyright 2005 by Annex Research, Inc. All rights reserved.
e-mail: annex@djurdjevic.com

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