EUR 850.00 For Business Accounts Only

Morningstar | DXC Updated Forecasts and Estimates from 24 May 2019

DXC reported a solid finish to fiscal 2019 with the company’s revenue within our expectations and its non-GAAP EPS moderately outperforming our forecast. The company issued new fiscal 2020 guidance which from a top line perspective was within our assumption, however, we were surprised by the wide and reasonably flat non-GAAP EPS forecast of $7.75-$8.50. Still, the EPS guidance assumes heightened incremental investment in the firm’s digital businesses and the impact of upfront margin concessions to new digital projects. Additionally, DXC expects a higher tax rate in fiscal 2020 of around 26%-28%. We believe DXC has been significantly impacted by negative investor sentiment over the past year based on concerns over internal division and the patchwork of complex spin-offs and mergers which have muddled the firm’s complexion. Still, we believe in CEO Mike Lawrie’s ability to turn the firm around and point to his success with CSC. Additionally, the scale that DXC holds is advantageous in the IT services market. As a result, we maintain our $91 fair value estimate on this no-moat name. Although high risk, we see notable value in the firm at current levels and, on a non-GAAP basis, the firm is trading around 6.5 times the midpoint of fiscal 2020 earnings.

We like the fact that DXC is overtly investing in its digital capabilities and management is clearly focused on stressing how important it is for the company to become a digital leader in order to grow in the global IT services space. To that end, quarterly digital revenue grew 22% year over year in constant currency, while the digital book-to-bill was a very healthy 1.8 times. As CEO Mike Lawrie noted, on a sequential basis, digital revenue in the quarter more than offset the decline in the firm’s traditional business. We expect this dynamic to be lumpy over the short-term as DXC transitions its broad portfolio toward higher growth revenue, however, we gradually expect DXC to generate modest yearly top line growth.

For the quarter, revenue declined 5.4% year over year to $5.3 billion (fell 1.0% in constant currency). In constant currency, global business services, or GBS, revenue fell 3.1% to $2.2 billion while global infrastructure services, or GIS, revenue rose 0.6% to $3.1 billion. The decline in DXC’s legacy application business and client migration away from on-premise infrastructure impacted GBS and GIS, respectively.

On the margin front, DXC’s adjusted fourth-quarter EBIT margin dipped 10 basis points year over year to 15.7% and was down 50 basis points sequentially. The margin performance was impacted by DXC’s ongoing investments in its digital workforce and upfront margin concessions in digital-based contracts. Still, on a full-year basis, the company’s margin improved 200 basis points to 15.8% and reflected cost-cutting execution associated with workforce optimization, supply chain efficiencies, and facility rationalization.