Computer Sciences Appears Serious About Pursuing a Sale

In 1959, Fletcher Roseberry Jones, a marketing whiz, and Roy Nutt, a technical expert, quit their aerospace jobs, pooled together $100 in start-up capital and launched what would become a new industry.

Nearly five decades later, Computer Sciences Corp. is one of the world’s largest information technology firms, employing 78,000 people and generating $14 billion in annual revenue.

But the El Segundo-based company, known as CSC, may be up for sale, and Wall Street has been abuzz over the prospect that the company could fetch as much as $12 billion. That price would represent one of the highest in recent years in the information technology industry.

With an anticipated slowdown in Pentagon spending on weapons, defense contractors in particular have set their crosshairs on CSC and the company’s lucrative government IT business. The U.S. government in recent years has stepped up outsourcing of computer and other technical systems work to IT firms like CSC.

The company has been mum about the prospects of a sale, but CSC has talked with defense contractor Lockheed Martin Corp. and a consortium of private investment firms about a deal.

The talks, which were preliminary and have since ended, according to the Wall Street Journal, signaled for the first time CSC’s willingness to be sold. In 1998, the company successfully fended off a hostile takeover bid by Computer Associates International Inc.

“Management seems ready to accept the right offer,” said Edward Caso, an analyst with Wachovia Securities, in a report to investors. “We base this on conversations we have had with industry sources, the announced stepping aside of longtime [Chief Financial Officer] Lee Level and management’s tone on the recent September call.”

Executives at CSC declined to comment, but analysts said the company’s sale would culminate years of consolidation within the IT industry. Most of the acquisitions have been among smaller companies.

CSC has acquired more than 13 companies since 2000 but has been unable to reach the size and scale that would allow it to go after very large federal IT contracts. In terms of contracting work with the government, CSC, with $2.8 billion in annual sales, is a distant fourth behind Lockheed ($5.97 billion), Century City-based Northrop Grumman Corp. ($4.74 billion) and Science Applications International Corp. in San Diego ($3.78 billion).

After surging more than 20% on the possibility of a buyout, CSC shares fell about 12% last Monday on reports of the collapse of the potential Lockheed deal. Since the drop, the stock has recovered slightly, rising 63 cents Friday to close at $48.60.

It isn’t clear who else might be interested in buying CSC. Some analysts said that there were few companies that could afford the $12-billion price tag and that the company would be more attractive broken apart. A Northrop executive who asked not to be identified said the company “looked at CSC” in the past but backed off because of concerns over absorbing CSC’s non-government businesses.

CSC wanted to sell itself in one piece to Bethesda, Md.-based Lockheed, which has been trying to expand its government information technology business, the Journal reported.

Lockheed would have kept CSC’s government contracting business and sold the rest to a group consisting of Warburg Pincus, Texas Pacific Group and Blackstone Group. Government-related work, including managing computer systems for the Army and Navy as well as the Environmental Protection Agency, accounts for about a quarter of CSC’s revenue.

Lockheed wanted to divide the company and sell the pieces simultaneously, a move that prompted CSC to balk. CSC’s largest business is developing software and managing computer systems for companies, including 5,200 financial institutions.

The buyout talks came as Lockheed, which is better known for building fighter jets and military satellites, is trying to transform itself into an information technology company amid what is expected to be a slowdown in U.S. weapons spending.

Developing computer networking systems and providing technical services now account for more than half of Lockheed’s annual profit and revenue.

Lockheed executives declined to comment on the talks with CSC, but in conference calls with analysts last week, the company talked about spending $4 billion over the next several years to buy small-to-medium-size information technology companies.

“The hardware contractors are all interested in the federal service business, and information technology is the largest fraction,” said Richard Phillips, vice president for the aerospace and defense group at investment bank Houlihan Lokey Howard & Zukin. “The interest is growing because the [U.S.] government is outsourcing to a greater extent than ever before.”

In the most recent quarter, CSC said, revenue grew 5.3% to $3.57 billion as sales in its federal government business climbed 7.5% to $1.24 billion. Revenue from work it does for the Pentagon surged nearly 20% to $835.4 million.

In a filing with the Securities and Exchange Commission, CSC said the revenue growth in its federal government business was “principally driven” by gains in the company’s Pentagon-related business.

CSC has about 800 people working at the El Segundo headquarters, with the rest of the 78,000 employees working at thousands of customer sites worldwide. The largest concentration of CSC employees, about 11,000 of them, are in the Washington area working on federal government contracts.

When Jones and Nutt, both in their 20s, formed the company in 1959 from an office above a Palos Verdes bakery, there were fewer than 4,000 computers in the world and even fewer engineers who could coax them into doing anything.

The duo figured that there would be a market for software that could help businesses operate the computers more easily. The company’s creation spawned a new industry in computer science. In 1963, CSC became the first software company to be listed with a national stock exchange.

Jones died in a plane crash in 1972; Nutt died of cancer in 1990.

Jack Kyser, chief economist for the Los Angeles County Economic Development Corp., said a sale of CSC would bring to an end a storied local company and one of the few Fortune 500 companies still headquartered in Southern California.