Courtesty of Wall Street Journal interactive (powered by EDS, by the way):
Computer, Net Services Firms
Have a Tough Third Quarter
By LAURA ELIZABETH POHL
Dow Jones Newswires
NEW YORK -- For computer-services stocks, no news is being viewed as good news.
Negative preannouncements have littered the sector for the third quarter. While investors were pleased by the lack of news from bellwethers Electronic Data Systems Inc. and Computer Sciences Corp., two companies that preannounced revenue shortfalls in the second quarter, it was their Internet-related counterparts that made Wall Street cringe this quarter.
The two stalwarts of the non-Internet information-technology world, EDS and CSC, should report results in line with consensus estimates.
While Europe seems to have been a problem for technology companies like Intel Corp., growth in Europe has been and will continue to be phenomenal for the EDS and CSC.
According to SG Cowen analyst Moshe Katri, EDS's European business grew 150% in the first half of the year, while revenue from the U.S. has been flat for the past three consecutive quarters. At Computer Sciences, 60% of its bookings in the past eight months have come from Europe, Mr. Katri says.
Technological innovation in Europe, and especially in the Nordic countries, has contributed to this growth. According to Mr. Katri, IT spending in Sweden leads the U.S. in percentage of gross domestic product and the United Kingdom dedicates the third-largest portion of its gross domestic product spent on technology.
Mr. Katri said that at a conference he recently attended in Europe, experts said they expect IT spending in Europe to outpace spending in the U.S. in the next four years, with Europe growing 12% in the next four years while the U.S. will grow 9%.
"The European side is really catching up and that's where you're seeing a lot of these contracts," Mr. Katri said.
Mr. Katri expects EDS, based in Plano, Tex., to report earnings of 58 cents a share, in line with consensus expectations, on revenue of $4.8 billion. EDS reported a gain of 51 cents a share, excluding one-time charges, in the year-ago quarter. He sees CSC, based in El Segundo, Calif., reporting fiscal second-quarter earnings of 62 cents a share, which is two cents below consensus estimates, on revenue of $2.54 billion. Last year the company reported earnings of 55 cents a share.
In the Internet-related side of the sector, it's been one preannouncement after another.
"The third quarter is always a difficult quarter for computer services companies to the extent that there's a lot of vacation time in Europe which impacts billable hours," said Stephen Birer, an analyst with Robertson Stephens. "The second thing is, a lot of Internet business fell off the map this period."
In fact, the drop-off in dot-com business was the defining characteristic of the IT sector's third quarter. Boston-based Viant Corp. was one of the first companies to admit it fell victim to this drop-off. In early September Viant said its revenue would miss views by as much as 30%. Current estimates have the company reporting a loss of five cents a share compared to a split-adjusted three cents a share gain in the year-ago quarter.
In Transition
"I think that they are in a transition phase," Mr. Birer said. "The company is looking hard at how they can acquire new business in this new environment which will likely force them to build out their sales force, and in our opinion that can take a couple of quarters to get them hired and up and running."
At the time of Viant's warning, analysts had expected other companies with dot-com exposure to preannounce, too. And preannounce they did: Xpedior Inc., iXL Enterprises Inc. and US Interactive Inc. all announced revenue shortfalls this quarter, also citing the slide in dot-com business.
Razorfish Inc., once a Wall Street darling, was the most recent company to preannounce, but not because of a loss of dot-com customers. On Thursday the New York City company said its revenue would fall between $77 million and $78 million, below expectations of around $80 million, because of weakness in some European economies, particularly Sweden and Italy, and the weak euro.
Still, Mr. Birer said, "This is the one preannouncement that worries me the least. They have 14% sequential growth in the U.S. There's still strength in the U.S. market for them where other companies have seen a slowdown."
Another stumbling block for the company in the third quarter was its integration of I-Cube, which Razorfish bought in the autumn of 1999. The recent departure of the last of the senior managers from I-Cube has raised concerns that the integration of iCube isn't going smoothly. But SG Cowen's Mr. Katri said he isn't worried.
Razorfish said its third-quarter earnings would come in between one cent and four cents a share, falling shy of previous estimates of eight cents a share. In the year-ago period, Razorfish reported earnings of five cents a share.
The few companies that escaped the dot-com slide couldn't hide from a side effect of the dot-com problem: A lengthened sales cycle. As dot-com business dropped off, large enterprise customers didn't feel rushed to move to the Internet as quickly as they had before the shakeout, said Laura Browder, an analyst with A.G. Edwards & Sons Inc.
Mr. Katri said that in this environment, companies that can integrate front-end and back-end systems and develop broadband and wireless systems have an advantage over those who can't.
MarchFirst Inc., a Chicago company formed by the merger of USWeb/CKS and Whittman-Hart Inc. earlier this year, is counted among those that can. In a research note, Mr. Katri wrote that MarchFirst "has critical mass, huge scale, strong capabilities in managing large complex projects. ... We believe that MarchFirst can ultimately become a formidable competitor to the Big Five consulting firms."
"Of all companies, they're least susceptible to downturns in any one sector of the market," Mr. Birer said of MarchFirst. "They've built out a sales force and they know how to attract business. They've got a technology bent to them that large companies feel comfortable moving to them."
Mr. Birer expects the company to report earnings of 21 cents compared to analysts' consensus of 20 cents a share.
Flexibility Helps
Scient Corp., based in San Francisco, identified the dot-com shakeout early and was able to escape relatively unscathed from the fallout.
"They're flexible enough to redeploy consultants from one client to another in a very impressive manner," said Mr. Katri, who sees the company meeting analysts' consensus estimate of six cents a share for the third quarter. "They can tell you about the status of bookings in the pipeline on a weekly basis."
Chase H&Q analyst Dirk Godsey wrote in a recent research note that Scient "could slightly exceed" his expectations of six cents earnings a share for its fiscal second quarter that ended in September, and $101 million in revenue. Last year, Scient reported a split-adjusted loss of two cents a share.
"We believe Scient deserves a premium to the group as it has maintained its industry-leadership position by continuing to put up strong results despite a pause in the demand environment," Mr. Godsey wrote in the note.
Write to Laura Elizabeth Pohl laura.pohl@dowjones.com |
