CSC has just laid out the financial targets of the standalone business which will retain the CSC moniker when the U.S federal company, CRSA, breaks off.  As well as CSC’s global commercial business, it includes non-U.S. public sector businesses (~$700m revenues in FY15).

In its FY15 (ending March 31, 2015) this part of CSC achieved revenues of $8.1bn, and an adjusted operating margin of 10%.  

However, H1 FY16 revenues were just $3.55bn, and guidance for FY16 is $7.5bn. So this is a company still in negative growth, with no sign of topline recovery in either division: GBS revenues were down 13.4% y/y (down 5.7% in CC) to $1.8bn and GIS down a painful 19.8% (down 13.2% in CC) to $1.754bn.

Yet management is now talking about a resumption of organic growth (of 1%-2% in constant currency) by H2 FY 2017, with acquisitions expected to bring an additional 1% - 2% per year. Is organic growth likely? We think not.

While we believe CSC may well resume topline growth by H2 FY17 (for the first time in many years) we believe this will be driven by acquisition activity.

Since the arrival of Mike Lawrie as CEO, there has been a sharp improvement in profitability - and the drive continues. For example over the next three years CSC is targeting a margin improvement of 125 to 175 bps from delivery and workforce optimization. And in procurement, it is looking to take out another $300m in spend

But achieving topline growth in the legacy business? Let’s look briefly at the current portfolio.

GIS: still impacted by red contracts; may shed its data centers

While the number of red contracts in Global Infrastructure Services (GIS) is far fewer than the 45 when CEO Mike Lawrie, a handful still remain – and their impact continues: they will represent a revenue decline of 200m to $250m in FY 2017.

GIS has changed its market approach, only going after large deals very selectively. But strengthening the sales culture, for both hunting and farming, and account management is not something that can be done speedily, particularly in a global organization like CSC. The company has increased sales-related expenses to 5% of revenues and claims it is both retraining and hiring aggressively. However, it is hardly an employer of choice currently.

In recent years, GIS has standardized and streamlined its portfolio, and repositioned from large asset transfer deals to smaller deals, in line with a general market shift. CSC has sought to reduce delivery fragmentation across clients, and drive hardware, software, tool and process standardization. As it admits“[previously] we had volume but we did not have scale”. This will help in pricing – but enough to win enough new business to drive topline growth?

In what would be a dramatic move to move to an asset-lite model, CSC is now considering shedding its large estate of datacenters and moving to a co-location partner model.

GBS: Turning around US consulting and growing Celeriti Fintech both key

Within Global Business Services (GBS) the consulting unit has recently seen mixed performance in terms of topline growth and profitability. In Q2 FY16, the U.K. was back to growth (18% in CC) whereas the U.S. consulting was (down 5%). CSC is confident it can replicate its success in its U.K. consulting practice in the U.S. We are not convinced.

Elsewhere, GBS is expecting slight organic topline growth (up to 2%) in its Industry Solutions and Services (ISS) business in the banking, insurance and healthcare/life sciences sectors.

Key to this will be the JV with HCL Technologies (‘Celeriti FinTech’) in which CSC has put Celeriti and Hogan, and which addresses modernization opportunities in the banking sector.  It is too early to tell how successful this JV will be - but speed is of the essence, both in the platform development and in the sales efforts.

CSC did not address in the investor day how it is going to address its fast decline (~7% in CC in H1 FY16) in its application management and software testing businesses. Traditional application management continues to prove tough, even for some of the larger IOSPs. And the AppLabs acquisition has not helped CSC achieve the kind of growth in software testing that other vendors have been enjoying recently.

“Next-Gen” Offerings: Targeting 30% CAGR

CSC claims its “next-gen” offerings will represent ~$700m of its FY16 revenues (or just over 10%). They comprise

• Cloud $210m
• Cybersecurity $150m
• Big data $80m
• “Other next-gen”: $260m.

A targeted 30% CAGR means revenues of over $1.5bn by FY19 - excluding any contribution from acquisitions. And here the targets for the legacy business get a little cloudy, particularly in “other next gen”, also what is in scope in “cloud” (e.g. does it include BPaaS).

Overall, the aspiration to achieve organic revenue growth seems optimistic.

Acquisitive Growth Will Reshape the Portfolio

CSC is essentially a company that continues to look to reinvent itself. We believe any profitable growth in the next few years will be dependent on acquisitions.

The four that CSC has recently closed or is actively considering (we have written separately about all of them in other blogs) indicate where CSC is looking to reshape its portfolio:

• Fixnextix and (if it completes) Xchanging will boost the ISS and industry-specific BPS business in the BFSI sector
• UXC (again, if it completes) brings in additional scale in Australia, plus useful practices for ServiceNow and Microsoft Dynamics
• Fruition Partners brought in ServiceNow integration capabilities.

Together, these will mean an investment of ~$1.2bn…. above CSC’s guidance of acquisitions accounting for 15% of its capital allocation.

Before, CSC was talking about acquiring in areas such as cyber (for commercial, enterprises, not just in the federal). The emphasis now appears to be more strongly on GBS, and on industry IP, domain expertise and BPS in a few target sectors. While CSC has longstanding experience in both insurance software business and in insurance BPO, it has not historically really leveraged the former to build a BPS business: this would mean a shift in focus.

Another area where we might expect to see inorganic growth is in analytics.

We recognize that organic topline is not the Holy Grail when it comes to shareholder value: CGI provides a great example of a company that is superb at managing and integrating very large acquisitions every few years without achieving organic growth. In comparison, CSC’s track record in acquisition is mixed, and it does not have CGI’s “Management Foundation”. 

But CSC knows it needs to move fast. Will it reach $8.5bn revenues by FY 19? Possibly. Will it achieve this through organic growth? Probably not.

Dominique Raviart and Rachael Stormonth