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Executives

Bryan Brady - Vice President, Investor Relations

Michael W. Laphen - Chairman of the Board, President, Chief Executive Officer

Michael J. Mancuso - Chief Financial Officer, Vice President

Analysts

Karl Keirstead - Kaufman Brothers

Julio Quinteros - Goldman Sachs

Jason Kupferberg - UBS

Rod Bourgeois - Sanford C. Bernstein

Bryan Keane - Credit Suisse

Ashwin Shirvaikar - Citigroup

Shlomo Rosenbaum - Stifel Nicolaus

Melissa Moran - Thomas Weisel Partners

Moshe Katri - Cowen & Company

Computer Sciences Corporation (CSC) F4Q09 Earnings Call May 20, 2009 5:00 PM ET

Operator

Good day, everyone, and welcome to the CSC FY 2009 fourth quarter and year-end earnings conference call. Today’s conference is being recorded. For opening remarks and introductions, I would like to turn the call over to Mr. Bryan Brady, Vice President of Investor Relations. Please go ahead, sir.

Bryan Brady

Thank you, Operator and good afternoon, everyone. Welcome to CSC’s earnings call for the fourth quarter and fiscal year 2009. We hope you have had a chance to review our financial results, which were issued earlier this afternoon.

With me today are Mike Laphen, our Chairman and Chief Executive Officer; and Mike Mancuso, our Chief Financial Officer.

As usual, this call is being webcast at csc.com and we’ve also posted slides to our website to accompany our discussion.

On slide two, there’s a reminder that statements made during this call that are not historical facts may be considered forward-looking statements under the Private Securities Litigation Reform Act of 1995. Forward-looking statements are subject to know and unknown risks and uncertainties which could cause actual results to differ materially.

Additional information concerning these risks and uncertainties is contained in the company’s filings with the SEC and copies of these filings are available from the SEC, from our website, and from our investor relations department.

Slide number three acknowledges that CSC's presentation includes certain non-GAAP financial measures. In accordance with SEC rules, a reconciliation of these metrics to GAAP metrics is included in the tables of the earnings release and in an appendix to our slides.

Both documents are available for your review at the investor relations section of the CSC website.

Finally, I would like to remind our listeners that CSC assumes no obligation to update the information presented on this conference call except as required by law.

Now if you will please move to slide number four, I am pleased to turn the call over to Mike Laphen.

Michael W. Laphen

Thank you, Bryan and good afternoon, everyone. First I would like to welcome Bryan to this inaugural earnings call in his new IR role, and also express my thanks to Bill [Wackie] for his many years of service to CSC.

Last month CSC celebrated its 50th year, a significant milestone for any business. We believe that CSC's strategic direction, competitive position, and our current results provide a strong foundation for our next 50 years, and so I am especially pleased to have the opportunity today to speak with you about our 2009 fiscal year and fourth quarter results.

As slide five summarizes, our fiscal 2009 and its fourth quarter were successful and important steps in our drive to improve our financial performance. For the full fiscal year, we delivered GAAP EPS of $7.31, including tax benefits; accomplished unprecedented cash performance; achieved our margin improvement goal; successfully completed our NHS milestones; and remediated our tax accounting related material weakness, while delivering a major tax benefit to our bottom line results. Mike Mancuso will provide further details in his remarks no our EPS performance, as well as our positive tax result.

Our cash flow performance speaks to our commitment to manage all our cash levers. Additionally, given the importance of cash to every company in this current economic environment, this result is indicative of the quality of our delivery performance for our customers.

Importantly, our fourth quarter results provide CSC with a cash balance of approximately $2.3 billion, which enables continuing flexibility to fund our foreseeable business needs.

As slide six depicts, we plan to sustain our financial performance in fiscal year ’10. In particular, we plan to continue to position CSC for new business opportunities and profitable growth, and achieve earnings improvement despite an anticipated modest overall revenue decline by maintaining focus on cash management and cost management, and by removing risk and uncertainty surrounding our major benefit plans and by continuing our solid NHS performance.

Delivering results for our clients is the hallmark of CSC and as shown on slide seven, our performance for the NHS is no exception.

Fiscal year 2009 marked another successful year for CSC and the NHS program as we accomplished our deployment objectives and met our financial objectives. We are pleased to report that we successfully achieved our major milestone for Lorenzo Release 1 in the fourth quarter, with our third early adopter, Bradford, going live in March. The corresponding cash payments were received as forecasted.

In addition, we achieved an important milestone to our ambulance solution and successfully completed the build of a contingency pack solution for the NHS in the South of England, both of which also made a positive contribution to the quarter.

To date in our work on the NHS program, CSC has successfully completed well over 1,800 system deployments in settings across the entire healthcare system -- in GP practices, communities, mental health and child health, as well as in acute hospitals and emergency care.

With over 100,000 NHS professionals currently using these systems, CSC is making contributions to the delivery of improved health services across England.

Returning now to our overall fiscal year ’09 performance, slide eight shows changes in the revenue composition of our businesses over the last two fiscal years and our fiscal year ’09 growth results. Despite the difficulties of the global economy and headwinds from several major currency swings, our fiscal year ’09 revenues of $16.7 billion reflect positive growth of 1.5% as reported and 4.3% in constant currency.

Given market conditions, we consider this positive top line growth for fiscal year ’09 a noteworthy accomplishment and are pleased that all three lines of business showed positive growth in constant currency.

On an as-reported basis, this result, however, approximately $100 million less than our last guidance. We attribute about half of this amount to further currency impacts and the other half to a shortfall in revenues from our North American public sector.

Now, to address our fiscal 2009 new business bookings, I draw your attention to slide nine. In aggregate, we achieved total bookings for the year of $16.2 billion, up 4% year over year. Early in the new fiscal year, we have already announced some important signings, including the $570 million U.K. identity and passport program, and a new $100 million outsourcing agreement with Xerox.

In the fourth quarter, BS&S held its ground in a very difficult market, achieving flat bookings while realizing an overall bookings growth of approximately 9.7% for the full year. Given the difficulty of the economic environment, we consider this result quite positive as it reflects the quality of both our client relationships and our delivery performance.

Year over year, global outsource bookings grew from $100 million to $800 million in the fourth quarter and from $2.2 billion to $4.4 billion for the full year. Our outsourcing pipeline for fiscal years ’10 through ’12 period currently stands at approximately $10 billion of qualified opportunities. Importantly, expressions of interest and outsourcing are now turning into deal flow.

NPS bookings for fiscal ’09 were $7.3 billion, our second-highest booking year of the last five years. This yields a constructive book-to-bill ratio of 1.2, even though on a comparative basis this result was down from last year’s exceptionally high result of $9.3 billion. This positive fiscal year ’09 result was achieved despite delays in several large opportunity whose award dates shifted out of CSC's fiscal year.

Our NPS pipeline for fiscal year ’10 through ’12 period currently contains some $26 billion of opportunities, of which $16 billion are scheduled for award in fiscal year ’10. We expect NPS to return to its historical growth rates of mid- to upper-single-digit in the fiscal ’10. Our strategic initiatives in areas such as healthcare, intelligence, and identity management, as well as training and simulation, generated solid growth in fiscal year ’09 and positioned us well for the new U.S. administration’s priorities and budget initiatives.

Additionally, several important wins occurred late in the fourth quarter and early in fiscal year ’10. These will contribute net new revenue in fiscal year ’10.

Turning to slide 10, our top line performance by industry for the year shows flat to positive performance in constant currency for five of our six vertical industry groups. Our public sector business grew 4% and is expected to show solid growth in fiscal year ’10, as new programs come online, such as the U.K. identity and passport program I mentioned earlier.

In constant currency, our health services business grew 30%, which includes the effect of the first consorting group acquisition in Q4 of fiscal year 2008. We expect continued growth from our health services sector in fiscal year ’10. Our Medicare Part D offerings and our claims expense management solutions were the basis of contract signings in fiscal year ’09 that will help generate growth in fiscal ’10. Additionally, the NHS program is expected to continue growth in constant currency as deployments continue as we accomplish our next release of Lorenzo.

Given the extreme distress in the financial services and manufacturing industries globally, we consider our flat but positive results for the year in constant currency as constructive. Chemical, energy, and natural resources continue to be an area of strength for CSC as we server a number of the world’s major resource companies and we saw growing demand in our utilities business.

Our technology and consumer sector had strong growth in its high technology segment, offset by declines in its communications and its consumer and retail businesses.

Looking forward to 2010, slide 11 depicts some of the major market trends that will shake CSC's future.

In our markets, we see real opportunity for CSC. Our commercial and public sector healthcare businesses, along with our track record at NHS, establish CSC as a major player in the global healthcare reform movement. As I just mentioned, our outsourcing pipelines are growing and the quality of the opportunities is strengthening. We have offerings, such as remote infrastructure and virtualization, as well as application management services that addresses the immediate needs of clients to reduce costs and limit capital requirements while providing a rapid return on investment.

We believe we are well-positioned for this next growth phase of the outsourcing market.

As one of the few companies that has significant businesses in both public and commercial sectors, we are strongly, if not uniquely, positioned as a leading competitor in the growing cyberspace and identity management markets. Again, our recent win of the U.K. identity and passport program is evidence of this competitive strength.

Not only are we managing our business for strong operating results and cash performance, but many of our product lines enable our clients to do so as well. Our BPL businesses in the property and casualty industry are coming off a strong year and we believe that our BPL offerings for the life insurance industry are becoming even more compelling, given the current environment.

In the health services sector, our claims management solution provides another example as it enables healthcare payers, including self-insured companies, to manage their claims more effectively.

Today, regulatory uncertainty, complexity, and compliance are increasingly important issues across many industries. Many of our health and financial services solutions help our clients deal directly with the myriad of issues of regulatory compliance, as well as the need for consistency in the applications of rules and guidelines when interfacing with individual consumers and citizens.

For example, CSC's early resolution product as a software-as-a-service offering that enables loan services and consumers to address individual mortgage issues, including restructuring and default avoidance. With more than a 40% market share, this innovative business-to-consumer solution has earned CSC a strong position with major financial institutions and has helped keep borrowers in their homes.

For companies in the chemical, energy, pharmaceutical and manufacturing industries, the movement and tracking of hazardous or restricted chemicals and materials is a complex issue with significant regulatory oversight. Within the European Union markets, reach compliance is now required. [inaudible] and CSC is at the forefront of providing companies the services and solutions required to support their enterprise compliance and sustainability programs.

Whether our products and services are used within consulting arrangements, as web-based services, licensed products, components of an outsourcing agreement, or internally within a BPL relationship, our clients rely on CSC to help them achieve regulatory compliance and operating efficiency.

In summary, there is growth opportunity for CSC in this market.

Turning to slide 12, for fiscal year ’10, we expect new business bookings to be in the range of $17 billion to $18 billion, an increase of 5% to 11% over our fiscal year ’09 result. However, significant currency headwinds in the first half and macroeconomic conditions will continue to pressure the top line. Accordingly, we expect revenue to be in the range of $16 billion to $16.5 billion. We are raising free cash flow guidance to between 90% and 100% of net income. We anticipate a further expansion in operating margin of 25 to 50 basis points, and to grow earnings between $4.20 and $4.30 per share.

At this point, I would like to turn the call over to Mike Mancuso for further details on this quarter’s, as well as the full year’s, financials.

Michael J. Mancuso

Thanks, Mike and a good afternoon to all. I want to echo the sentiment and characterization of the fourth quarter and full year results that Mike Laphem expressed during his opening remarks.

I believe by any standard we recorded a very solid quarter, particularly in light of the difficult worldwide economic environment. In addition to our strong performance in the quarter, we have also fixed some things that needed fixing and eliminated near-term and potential long-term volatility surrounding asset performance and funding uncertainty in our major benefit plan, and I will talk more about this in a few minutes.

So if you will turn to slide 14, cash is the big story for the quarter. Free cash flow in the quarter totaled $850 million, bringing the full-year total to just over $1 billion, an increase of almost $850 million.

Days outstanding, or DSOs, improved by six days and free cash flow for the year is 92% of net earnings. Frankly, we did much better in the quarter than our previous guidance suggested and as Mike said, we did achieve the major NHS milestones and collected the payments we had anticipated. But NHS is not the full story, as many of our other businesses were significant contributors.

Last quarter in our press release, our revenue guidance for the year was $16.8 billion, which implied $4.2 billion for the fourth quarter. For the full year, we recorded $16.74 billion, which resulted in a $4.1 billion achievement in the fourth quarter. Of the rounded one-tenth of a billion that we were off, roughly $50 million was currency related.

Reported EPS of $7.31 for the year and $2.51 in the quarter significantly exceeded our guidance of $6.30 for the year and $1.50 for the quarter. You may recall that we did note in the press release last quarter that we were undergoing several tax audits, both domestically and internationally. Many of the audits were concluded in the quarter, obviously yielding a favorable EPS impact. So excluding the tax gain and the unanticipated good will impairment charge of $0.12, we came in just about in line with the guidance we gave you.

As the chart suggests OI margin in the quarter and full year has improved. We remediated the tax accounting material weakness. It has been downgraded to a significant deficiency and we have a road map in place to eliminate the deficiency in our current fiscal year. Our balance sheet is stronger, including a significant reduction in net debt.

Moving to slide 15, I have addressed most of these numbers. The good will impairment of $19 million was taken against one of our Asian businesses. Normally the company does their annual impairment testing in the second quarter, which was completed with all reporting segments passing the phase one screen. The economic turmoil of the last several months triggered the need to reevaluate several reporting segments during the fourth quarter, resulting in one of the businesses incurring the charge. And as I said, the EPS impact was $0.12.

Slide 16 addresses revenue and revenue growth. In constant currency, quarter over quarter and year over year revenue increased, as reported full-year revenue grew modestly at 1.5%.

Slide 17 breaks down revenue by line of business for the quarter. As you can see, NPS drove the growth with declines in GOS and BS&S on a GAAP basis.

Slide 18 addresses operating income in the quarter, with the overall margin rate up about 90 basis points. Here both NPS and BS&S were the growth drivers in both absolute terms and margin rate growth.

Slide 19 displays our full-year results for selected measures. The message here is that revenue, operating income, and margin rate improve year over year and on a GAAP and non-GAAP basis, EPS improved.

Slide 20 displays selected balance sheet accounts -- cash has increased substantially as a result of our strong fourth quarter and the impact of last October’s draw-down of our revolver credit line. Also keep in mind we paid $300 million of term debt in March and funded an additional $50 million into our defined benefit plan. Accounts receivable has also improved dramatically year over year and as you can see, net debt to total capital is now under 20%.

Slide 21 addresses cash flow. The overall improvement drivers are net income, working capital, and CapEx. The supplemental charts are included. I’m not going to comment on them. If you have any detail questions on these, Bryan Brady will be available after the call.

The last two items I want to address are pension and quarterly guidance. As Mike Laphen said in the press release, we decided to freeze our defined benefit plan in the U.S. in favor of enhancing our defined contribution plan. This action eliminates most, not all, but most of the future uncertainty around contributions and P&L expense.

In fiscal year ’09, the under-funding in our combined plans increased $600 million to just about $1 billion -- again, to remind you, we are talking about our main U.S. plan. We have undertaken a review of our international plans but are not in a position to comment on what if anything will change.

For the U.S. plan, this action should yield an FY10 improvement of about a $30 million reduction in both estimated contributions and expense, after factoring in the increase in our defined contribution plan. This change will take effect in the second quarter.

Beyond fiscal year ’10, the cost reduction or avoidance grows since contributions are expected to increase substantially and of course we will see the full year benefit of the change.

With regard to the EPS guidance, the midpoint of our range is $4.25 and the quarterly profile should look like -- something like $0.50, $1, $1.25, and $1.50 for the fourth quarter.

So in summary, we had a good quarter, we met or exceeded expectations in most if not all of the important categories, we strengthened the company, and we are better positioned to continue to add value for our shareholders. We are focused on continuous improvement and we look forward to sharing our success with you.

That being said, I will turn it back to Bryan to start your questions.

Bryan Brady

Thank you very much, Mike. Operator, we are now ready to being the Q&A session. If you could please advise the callers for the protocol.

Question-and-Answer Session

Operator

(Operator Instructions) We’ll take our first question from Karl Keirstead with Kaufman Brothers.

Karl Keirstead - Kaufman Brothers

Good afternoon. Thanks for taking my call. Mike, the quarterly EPS guidance you just provided, if I heard you correctly, you mentioned $0.50 for the first quarter. If I’m right, that’s kind of a slow start to the full year. I’m wondering if you might add a little color.

Michael J. Mancuso

It is, Karl. I think last year, as a matter of fact, we were up around $0.75, $0.79 for the first quarter. To remind you, last year we had -- overall we had an extra fiscal week in the quarter. Of course, what you are looking at now are the impacts of currency. I think roughly we are projecting a decrease in revenue in the quarter in round numbers of about $600 million, of which $300 million or so is related to currency declines and the other 300 rounded is a result of just a seasonal step-down among other things and a slow start in some of the new awards that we have. So what you should see for the year going forward is we expect the second quarter to pick up a little bit relative to obviously the first quarter, then the third quarter should exceed last year and by the fourth quarter, we should be in the neighborhood of $4.5 billion in sales for hitting the midpoint in the range that Mike talked about.

Karl Keirstead - Kaufman Brothers

Okay, and I haven’t run this through the model yet obviously but on a year-over-year basis, would you expect in the first fiscal quarter that the margins would be flat or perhaps given that revenue pressure you just outlined, maybe they would be somewhat down year over year?

Michael J. Mancuso

You know, Karl, I haven’t honestly looked at that so I really don’t have a good answer for you but I am happy to provide it to you afterwards.

Karl Keirstead - Kaufman Brothers

Okay, great. Thank you.

Operator

We’ll hear our next question from Julio Quinteros with Goldman Sachs.

Julio Quinteros - Goldman Sachs

Thank you for the time here. One real quick question on the tax rate that’s implied in your fiscal year 2010 guidance, and then would you mind just rehashing the pension impact for fiscal year ‘010, both from the U.S. and the international side?

Michael J. Mancuso

The first part of your question on the tax rate, you should plan on about 37.5% to be the nominal tax rate to use in your model for the year.

Julio Quinteros - Goldman Sachs

Got it. Okay.

Michael J. Mancuso

And as far as pension contributions are concerned, we normally would have contributed something in the neighborhood of an overall $160 million to $200 million of pension contributions next year if we hadn’t frozen the U.S. plan. Now that 160 is all plans, including international plans. That number should drop this year to the tune of about a $30 million benefit cash flow wise in the quarter after the freeze.

The absolute pension contribution number isn’t going to drop to 30 but the benefit, if you will, from the freeze would be $30 million for the year -- I’m sorry, not the quarter.

Julio Quinteros - Goldman Sachs

Okay. And then the international part, there’s no -- there was no comment on that?

Michael J. Mancuso

We’re not adjusting contributions or expense or the plan internationally at this point. We are looking at it. We haven’t gotten to a point where we are prepared to comment on that. So overall pension contributions probably for total CSC for FY10 should be in the neighborhood of about $100 million, round numbers.

Julio Quinteros - Goldman Sachs

Got it. Great. Thank you.

Operator

We’ll hear next from Jason Kupferberg with UBS.

Jason Kupferberg - UBS

Thanks. I just wanted to start off with a question I guess on the EPS guidance and understand what the impact of lower pension expense might be here. I mean, and the guidance range I guess is really tight for the year and there’s still a fair amount of uncertainty in the macro environment, so can you talk about the visibility on the guidance and maybe as part of that, the big step up from Q1 to Q2 -- I think there’s a doubling of EPS there. And then as I mentioned, just highlight for us kind of year over year delta in pension expense so we can isolate that impact on the P&L. Thanks.

Michael J. Mancuso

Total pension, as I said, pension expense year over year should be about $100 million decrease year over year -- that’s total pension expense. The benefit from the action we’ve taken in FY10, keep in mind that that action, that change will not be effective until the second quarter, so you are looking at three quarters worth of benefit, so it’s roughly a $30 million improvement over three quarters, so factor $7 million pretax into each quarter, both in cash flow effect and P&L effect, pretax.

Jason Kupferberg - UBS

Okay, and then just the tightness of the range here? I mean, you’re I guess only a couple of percent here from the low-end to the high-end looking a year out.

Michael J. Mancuso

Jason, we could have said between 420 and 480 or for 390 to 470 -- this is an awful economy to try and stick your neck out and start to give broad guidance. We are commenting on the things we think we know and have nailed down, so beyond that, your guess is as good as ours as to what’s going to happen in a macro economy.

Jason Kupferberg - UBS

Okay, and just one clarification on the cash contribution -- total CSC pension wise, I think last quarter at the time you had hypothesized that that number might increase $100 million, maybe even $150 million year over year and that would have put you kind of in the 300 to 350 range, if I’m not mistaken. Now if I heard the answer to the last question correctly, you’re talking about only 160 to 200, so actually being down year over year -- did I get those numbers right?

Michael J. Mancuso

Well look -- let’s go back to fiscal year ’09 and in the fourth quarter, we contributed overall $50 million to the pension plan and it was fairly linear in FY09, so a rounded $200 million of contributions in ’09. We expected that to go up. We based it on the asset values at the end of December and projections we had then. As it turned out, the expected contributions were not going to be quite as high as we had anticipated back then, so the effect of the -- so the contributions, all other things being equal and no action taken, would probably have been somewhere in the neighborhood of 200 to 250 overall, for where our -- all of our pension plans.

Jason Kupferberg - UBS

And now instead they are going to be what with the actions? I’m sorry.

Michael J. Mancuso

We are going to improve the contributions to a net benefit in the U.S. of the action we took of $30 million, so you can reduce the pension contributions by $30 million because as I said, we are taking some of the pension contribution for the defined benefit plan and putting it into the defined contribution plan.

Jason Kupferberg - UBS

Right. Okay, so you are basically flattish year over year -- I think I got it. Okay, thanks, guys.

Operator

We’ll hear next from Rod Bourgeois with Bernstein.

Rod Bourgeois - Sanford C. Bernstein

Yes, I wanted to inquire about the NHS and the impact that NHS had on the financials and on the year-over-year change in the financials. I guess specifically what would be helpful, can you specify for the March ’09 quarter what the revenue, EPS, and free cash flow contribution was from NHS? And then if you can juxtapose that with how that changed over the last year, that would help us understand the impact of that important contract. Thanks.

Michael W. Laphen

We don’t give contract specific data, whether it be NHS or any other contract, so we are not going to respond to that specific request.

Rod Bourgeois - Sanford C. Bernstein

Okay. Can you give us an idea of what percentage of revenue that is now? I mean, it appears that in your BS&S segment that that contract had a meaningful change, or a meaningful impact on the year-over-year changes in the revenues and probably in the margins as well, if I’m reading that correctly.

Michael W. Laphen

Again, Rod, we really don’t want to get down into that level of detail for the NHS contract.

Rod Bourgeois - Sanford C. Bernstein

Okay. Is there lumpiness in your year-over-year change in financials because of the NHS deal? Can you give us that amount of detail? Because if we look at the BS&S segment, which is in large part systems integration and software, it had a meaningful year-over-year improvement in the margins and the revenues, which sort of defies the logic that’s happening in the market, so it raises a question as to where that came from and I’m assuming NHS might have had an impact.

Michael W. Laphen

It may have had an impact but again, we’re not going to get contract specific or quantify the NHS impact.

Rod Bourgeois - Sanford C. Bernstein

Okay, got it. And then can you talk about on NHS kind of the outlook for fiscal 2010? You’ve given us guidance -- I mean, are there certain milestones that are critical in fiscal 2010 that are assumed in your guidance? Could you give us any specificity on that front?

Michael W. Laphen

I can talk a little bit about that, Rod. First of all, we would expect, given the profile we see at this point in time, some up-tick in revenue and the corresponding profit that would go along with it on the program. Our next major Lorenzo delivery phase is expected in the November timeframe, so we are working towards that and that success on that milestone is incorporated into the numbers.

Rod Bourgeois - Sanford C. Bernstein

Right. Okay, and some of the comments in the press and coming out of the NHS leadership suggest that November is a critical milestone where they will make a determination on whether to consider alternative approaches. Do you think it’s highly unlikely that they would have to go down the path of looking at alternative approaches based on how you expect your progress to be playing out over the next several months?

Michael W. Laphen

Well, we are continuing to work with the NHS jointly and in I think a very strong partnership fashion to achieve success in November. We anticipate success in November, as we anticipated success in March. And again, I would say that you have to put some of the press remarks in a bit of a context, so we continued to have favorable feedback from the customer. The customer I expect will continue to put pressure on us to continue with successful delivers, as do most customers, and we will continue to march down that path.

Rod Bourgeois - Sanford C. Bernstein

Okay. And can you give us an update on the under-funded status of your pension and other post-retirement benefit plans? A year ago it was at $488 million. It’s clearly higher than that now. Can you give us the total under-funded status on your pension and other post-retirement benefit plans?

Michael J. Mancuso

I said in my earlier comments it grew by $600 million, so I think it’s $1 billion is roughly the round number.

Rod Bourgeois - Sanford C. Bernstein

But is that just the U.S. portion or does that include international and pension plus other benefit plans?

Michael J. Mancuso

It’s all plans.

Rod Bourgeois - Sanford C. Bernstein

So that’s everything inclusive -- now was that amount reduced because of the freezing of the U.S. plan?

Michael J. Mancuso

Prospectively it will come down, since we won’t have to be chasing a growing liability. It isn’t reduced at this moment.

Rod Bourgeois - Sanford C. Bernstein

Okay, so the March quarter ending balance was not affected by the freezing -- okay, I got it.

Michael J. Mancuso

The freeze isn’t effective until July.

Rod Bourgeois - Sanford C. Bernstein

Got it. Perfect. Thanks, guys.

Operator

(Operator Instructions) We’ll hear our next question from Bryan Keane with Credit Suisse.

Bryan Keane - Credit Suisse

Good afternoon. I just wanted to get back to the BS&S margins. I know they were at 15.4% and that’s up from 12.8 -- that’s a pretty considerable margin expansion. Can you just detail for us what the reasons for the margin expansion were?

Michael J. Mancuso

Better cost structure, better performance.

Michael W. Laphen

And also it’s the -- the fourth quarter is the highest utilization of all four quarters for us in that line of business, so it is always a higher quarter for us.

Bryan Keane - Credit Suisse

Yeah, well, I’m just looking at it -- year over year it went to 15.4 to 12.8, or -- so better cost structure, so you guys are reducing costs and considered going forward when you are looking at the margin expansion of 25 bps to 50 bps -- should we see most of that expansion in the BS&S or should GOS come back a little?

Michael J. Mancuso

I would expect GOS would come back some as well.

Bryan Keane - Credit Suisse

Okay, and then just a last question for me -- the $0.50 to $1.00, it’s still not clear to me, the big jump in operating margin that we are expecting -- I assume it’s in operating margin to get to the dollar. Is that just better cost control between the first and second quarters? Because it’s a considerable increase than we’ve seen in the past for margins between first and second quarter.

Michael W. Laphen

The one thing that I would add to the items that Mike already listed is during the first quarter, we typically do our workforce rationalization as well, so we would be taking some impact at the earnings level as part of that rationalization.

Michael J. Mancuso

And Bryan, just to elaborate further on the answer to your question about the margin rate year over year, and particularly in the fourth quarter, licenses have an impact and they tend to be -- to stack up toward the end of the year, so that’s another contributing factor.

Bryan Keane - Credit Suisse

Okay. Thanks, guys.

Operator

We’ll take our next question from Ashwin Shirvaikar with Citi.

Ashwin Shirvaikar - Citigroup

My question is about the slower bookings that you guys and everyone else in the industry are seeing and to what extent has that affected your margin profile, because you are spending less on ramps? I believe in the last quarter there was some kind of benefit. And to what extent -- because that is cost that eventually comes back -- to what extent is that factored into your guidance? If you could comment on that.

Michael W. Laphen

Actually, our new business expense was not down. We did cut back on some advertising but our pursuit expense was not cut back. We are quite active on the pipeline so the margin improvement did not come at the expense of the new business expenditures.

Ashwin Shirvaikar - Citigroup

I meant the ramp of the existing contracts because that tends to be the slower, you’re ramping fewer contracts and so on and that has had some benefit in the past.

Michael W. Laphen

I’m sorry, I’m having a hard time hearing you. You’ve got a lot of background noise.

Ashwin Shirvaikar - Citigroup

Sorry about that. I’m at an airport. What I was talking about was not so much the pursuit costs but I was talking about the ramp costs, the ramping of existing contracts.

Bryan Brady

Ashwin, could you try again with your question?

Ashwin Shirvaikar - Citigroup

Well, I was talking about the ramping of existing contracts -- to what extent that has been a benefit to your cost structure and will continue to be a benefit because you have signed fewer contracts. I’m not talking about the pursuit costs -- I’m talking about contracts you already signed.

Michael W. Laphen

Ashwin, go back to what Mike said -- first of all, to the extent that there is business pruning actions being taken, they will be taken in the first quarter so you will see an effect on that. New business generally starts out with lower margins and ramps up as we get some experience under our belt, so volume in the second quarter is higher than it was in the first quarter. That’s a contributing factor, so there’s a lot of things, a lot of moving parts, all of them in a positive direction.

Michael J. Mancuso

But when we budget the new business, we budget the corresponding ramp-up costs, I think you called it -- start-up costs, as we would call it, so that’s factored into the budget numbers when we construct the budget.

Ashwin Shirvaikar - Citigroup

Okay, and could you just sort of separate out the cash flow and EPS impact from the pensions? Is it timing on both of those going to be similar or is the timing on both of those different?

Michael W. Laphen

Assume they are similar.

Ashwin Shirvaikar - Citigroup

Okay. Thank you.

Operator

The next question comes from Shlomo Rosenbaum with Stifel Nicolaus.

Shlomo Rosenbaum - Stifel Nicolaus

Thank you very much for taking my questions. Are there any benefits to the cash flow in the quarter from tax settlements? Were there any deferral of cash taxes? And a follow-up with that is are there any large pre-payments that popped up in the quarter from NHS or anyone else? I’m just trying to find out what was sort of one-time-ish in the quarter.

Michael J. Mancuso

The answer is no, no, and no to your three questions. There were no cash tax payments abnormal related to the tax settlements, et cetera, so -- the improvement in the quarter was as we talked about. Receivables, among other things, came down significantly in the quarter, as I said. Days for the year, days outstanding were down for the year. There was a big receivable improvement in the quarter. That’s a big contributor. Lower CapEx spending in the quarter, and the net earnings effect in the quarter.

Shlomo Rosenbaum - Stifel Nicolaus

Could you just elaborate a little bit more about what the good will impairment was for?

Michael J. Mancuso

It was for one of our Asian businesses. It started to appear that it might be impaired so rather than wait until the normally in the second quarter, we undertook an impairment analysis of three or four of our businesses. This one -- if you are familiar with good will impairment testing, you go through a phase one, you pass phase one, you move on. This particular business didn’t pass phase one, so we did a full-up phase two evaluation of the business and -- which resulted in an impairment charge of $19 million. In other words, good will was written down by $19 million.

Shlomo Rosenbaum - Stifel Nicolaus

But what type of business was it?

Michael J. Mancuso

It’s a fix and repair business located out in Hong Kong or wherever.

Michael W. Laphen

Yeah, it’s a break-and-fix business and a reseller business.

Shlomo Rosenbaum - Stifel Nicolaus

Okay.

Michael W. Laphen

That just fell off with the economic situation.

Shlomo Rosenbaum - Stifel Nicolaus

Okay, and then the BS&S signings are pretty stable and it’s pretty surprising, given what’s going on in the macro side of things. Can you just comment a little on the discretionary demand, what you saw in the March quarter and what you think the outlook is for the June quarter?

Michael W. Laphen

What we are seeing at this point I guess is some stabilization in that market, so our early looks at this quarter are pretty much consistent with the utilizations we saw in the fourth quarter and the billing rates are almost exactly on target as well, so we are seeing very little variability between fourth quarter and the early start of this quarter. So I would say stabilizing but I wouldn’t characterize it as up-ticking at this point.

Shlomo Rosenbaum - Stifel Nicolaus

And then lastly, I just wanted to ask about the tax benefit in the quarter again -- can you give me the actual dollar amount of that? And if you could give me what the pro forma tax rate was excluding the benefit and the good will impairment?

Michael J. Mancuso

The total number is about $166 million in the quarter. And the tax rate exclusive of that is about 38%, round numbers.

Shlomo Rosenbaum - Stifel Nicolaus

Okay. Thank you very much.

Operator

We’ll take our next question from Melissa [Moran] with Thomas Weisel Partners.

Melissa Moran - Thomas Weisel Partners

Thanks for taking my question. Could you tell us how much the first consulting group acquisition added to revenue growth in the quarter?

Michael J. Mancuso

We can in one second, Melissa, if you bear with us.

Melissa Moran - Thomas Weisel Partners

Sure. And also, could you remind me which segment that gets recorded in?

Michael J. Mancuso

That’s in BSS.

Melissa Moran - Thomas Weisel Partners

Okay, and also if you could just call out how much that added to BSS in addition to total revenue growth.

Michael J. Mancuso

Zero.

Melissa Moran - Thomas Weisel Partners

The acquisition didn’t add anything to revenue growth?

Unidentified Participant

It anniversaried in the fourth quarter, so it didn’t -- there was no effect in terms of the acquired growth.

Melissa Moran - Thomas Weisel Partners

Oh it did -- okay, I thought it was partially through 1Q. Okay. Okay, great. Thank you.

Operator

Our last question comes from Moshe Katri with Cowen & Company.

Moshe Katri - Cowen & Company

Thanks. Going back to Rob’s question, again without having to go in and provide us with specific numbers regarding to NHS, if we exclude the NHS contributions to free cash flow in fiscal 2009 and fiscal 2008, is cash flows from your core business up year over year or flat --

Michael W. Laphen

We lost you, Moshe.

Moshe Katri - Cowen & Company

Can you hear me?

Michael W. Laphen

Say again the question?

Moshe Katri - Cowen & Company

If we exclude NHS contributions to free cash in fiscal ’09 and in fiscal ’08, would you say that the free cash flows from your core business is up, down, or flat year over year? Thanks.

Michael W. Laphen

Up.

Moshe Katri - Cowen & Company

It is up?

Michael W. Laphen

It is up.

Moshe Katri - Cowen & Company

Okay, great. And then can you talk briefly about your views on federal funding for IT, given the recent new budgets and maybe you can talk about what you are seeing out there in your bid and proposal pipeline, what sort of mix do you have there between DOD and civil and some of the other areas? Thanks.

Michael W. Laphen

Well first of all, I would say that there’s been a slow-down in awards and that impacted us somewhat in the fourth quarter, particularly in a couple of major task order contracts. However, they have popped out in the first quarter so we are pleased about that.

We are not expecting a significant impact from the new budget profile for this fiscal year. We believe there’s some very good opportunities as we move forward into next year and as the new budget is constructed for next year and is rolled out, so we are particularly focused on healthcare, where we think we have some great offerings that can assist President Obama in his, one of his major initiatives. Again, cyber security and identity management is an area that’s of particular interest to us. You know, as I’ve said on a number of calls, we are particularly fortunate because our footprint runs across essentially the complete breadth of both the civilian and the defense agencies, so I think it’s realistic to expect that we’ll see some of the IT shifting, the spending shifting to the civilian space but we are very well-positioned with that customer base.

Operator

Thank you. I would like to turn the conference back over to Bryan Brady for any additional or closing remarks.

Bryan Brady

Thank you very much, Operator and thank you, everyone, for joining us. Mike, do you want close it down?

Michael W. Laphen

Yes, just thank you for joining us today. We look forward to updating you with our first quarter results in a couple of months and we are, as we said, we are extremely pleased with where we are sitting today and our opportunity for the future, so thank you very much.

Operator

This does conclude today’s conference call. We thank you for your participation.

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Source: Computer Sciences Corporation F4Q09 (Qtr End 4/3/09) Earnings Call Transcript
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