EDS cites 'problem contracts' for pretax loss

Electronic Data Systems last week reported a quarterly net loss of $126m, blaming "problem contracts" and a whopping $334m pretax...

Electronic Data Systems last week reported a quarterly net loss of $126m, blaming "problem contracts" and a whopping $334m pretax loss stemming from difficulties with the multibillion-dollar US Navy/Marine Corps intranet program.

EDS chief financial officer Robert Swan said the two primary causes of the loss associated with the N/MCI contract were lower profit margins on N/MCI seats and deployment delays.

The average N/MCI seat price dropped by 4%, a significant hit resulting from the Navy's decision to place more orders for cheaper N/MCI seats and fewer for higher-priced seats that are configured differently, said Jeffrey Baum, an EDS spokesman. The order therefore fell short of EDS estimates on the number of high-margin seats that the Navy would require.

That shortfall was offset somewhat by a recent improvement in the number of seats deployed and concessions from EDS subcontractors and suppliers. But Swan said the combination of lower margins on N/MCI seats and deployment delays that reduced the time EDS had to generate revenue per seat produced a loss that could not match the increase in the number of deployed seats.

N/MCI is a $6.9bn IT outsourcing contract, often referred to as seat management, that will give the Navy and Marine Corps secure, universal access to integrated voice, video and data communications. EDS won the contract in October 2000. However, technical difficulties, deployment delays and user complaints have hampered the program since its inception.

During the first quarter, EDS made what Swan called "reasonable progress" in the number of N/MCI seat orders received, but he said the company fell behind in the number of seats actually "cut over" to N/MCI.

Swan added that EDS has "good visibility" into second-quarter orders for seats but that "we need to accelerate the cut-over seats to a rate of approximately 900 a day and hold this level throughout the year."

EDS now expects to have $1.9bn in free cash flow, compared with its previous estimate of $2.1bn.

Swan assured financial analysts that EDS has been taking steps to improve the operating controls of the N/MCI account. So far, EDS has made improvements to the cost estimation process, assigned additional financial personnel to the contract and made staff changes at the program management office.

EDS has also conducted a detailed review of at least a dozen so-called problem contracts, said Swan. "While we continue to pursue megadeals as a key element of our strategy, we are being more selective in the deals we are looking at," he noted.

EDS chief executive officer Michael Jordan said that EDS has backed away from contracts that would put the company in a position of too much negative cash flow.

"This is, in fact, a cash-generating business," said Jordan. "We have to re-establish the company's credibility with the financial community."

Details on EDS's strategic transformation plan will be released next month.

When a financial analyst asked if there was a chance that the N/MCI contract would not be part of EDS's portfolio in the near future, Jordan responded, "I wouldn't think so."

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