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By Nick Wakeman

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Nick Wakeman

CSC plans SRA acquisition

In a summer of blockbuster deals, Computer Sciences Corp. and SRA International may just have pulled off the biggest of the bunch.

CSC is buying SRA for $390 million and the assumption of $1 billion in debt. The deal will close when CSC splits into two companies by the end of November. SRA will be integrated into CSC’s public sector business, to be known as Computer Sciences Government Services.

The combination will create a new business with $5.5 billion in revenue and 19,000 employees. Of those totals, SRA is contributing $1.4 billion in revenue and 5,600 employees.

Larry Prior, currently the leader of CSC North American Public Sector – the business to be split off as CS Government Services – will be the CEO of the combined SRA-CSC government business. Current CSC Chairman Mike Lawrie will be the chairman of both CSC and CS Government Services after the split.

SRA’s CEO Bill Ballhaus has agreed to stay on through at least the end of November, Lawrie said during an investor call Monday afternoon.

Obviously, Lawrie and company at CSC are very high on this deal and they’ve released some impressive numbers to support their enthusiasm.

The first thing that jumps out is the margins. Both companies boast adjusted earnings before interest, taxes, depreciation and amortization (EBITDA) that are well above the industry average. While most companies are struggling to report EBITDA in the mid to high single digits, CSC reported that the EBITDA for its government business is 16.4 percent and SRA’s is 14 percent. They expect the combination of the two companies will have EBITDA of 16.7 percent.

Lawrie said the two companies have been on parallel paths in recent years to transform their respective businesses. “Each has become extremely cost competitive and highly tuned to the current market environment,” he said. “We’ll have industry leading profit margins and strong cash flow to support dividends and to deleverage.”

Deleveraging will likely be a priority as CS Government Services will have $2.7 billion in debt when it completes the twin transactions of splitting from CSC and acquiring SRA. The debt includes a $10.50 per share special dividend that will be paid to each CSC shareholder as part of the split.

SRA’s shareholders, which are primarily Providence Equity Partners, SRA founder Ernst Volgenau and SRA management, will receive $390 million in cash.

The $2.7 billion also includes the refinancing of SRA’s $1 billion in debt.

Once the deal is completed, CS Government Services shareholders will own 84.7 percent of the company and SRA shareholders will own 15.3 percent.

The acquisition of SRA also should dispel the rumors that CSC was splitting off its government business to make it an easier takeover target for other buyers.

“With this move with SRA we are really playing the role of consolidator,” Lawrie said. “You can’t make a stronger statement than that… We are not running the commercial business and the [North American Public Sector] business with the idea of positioning them for sale.”

SRA was attractive because it “was a clean asset, well managed, well-disciplined with good cost controls and we had very little overlap,” Lawrie said.

CSC has gone through its cost-control phase and now is ready to pivot toward growth. To acquire another company that needed to go through its own cost-control phase would likely have slowed the momentum toward growth, he said.

“I think this industry is going to consolidate and scale is increasingly important for next generation solutions and strategies,” Lawrie said. “We wanted to be an early mover in creating a platform solely dedicated to IT services.”

The CSC split also played a role because the acquisition of SRA likely would not have happened if CSC remained in its current structure with two-thirds of the business being commercial, he said.

With the acquisition of SRA, the CS Government Services’ business mix will be about 52 percent defense and intelligence, 30 percent health and civilian and 13 percent from the Homeland Security Department.

Lawrie said the acquisition will combine the technical capabilities and solutions that CSC has developed in recent years particularly around the cloud and managed services with SRA’s focus on the customer and the mission.

“This will drive significant value for clients, shareholders and employees,” Lawrie said.

A great example is CSC recent win of a $109 million FAA cloud contract. “We partnered with Amazon and Microsoft and developed a world-class hybrid cloud solution and we see more opportunities like that,” he said.

Specifically, the combined companies will have IT capabilities such as cybersecurity, software development, cloud and IT infrastructure. Those areas will represent about three-quarters of revenues, Lawrie said.

Other revenue sources include domain-specific professional services such as intelligence analysis, bioinformatics and health sciences, energy and environmental consulting, and enterprise planning and resource management.

The CSC-SRA deal is one of the most transformative of the several transformative acquisitions that have hit the market in recent months, particularly for pure IT companies.

We’ve seen deals by Engility and PAE add scale and new capabilities through acquisitions. We’ve seen several other deals where companies were acquired by private equity groups looking for a platform as the government services market heads deeper into a period of consolidation.

I put CSC and SRA at the top of the heap because of the struggles both companies have gone through in recent years and their combination in many ways validates the value of what they’ve been doing.

SRA also is a legendary company in the market because of Volgenau, one of the pioneers of the government services business. He founded SRA in 1978 and grew it to nearly $2 billion in revenue and a successful IPO.

The government IT services market also is going through a period of transition. There is overcapacity. The customer is hyper-focused on cost because of budget and resource constraints. There also is a revolution in technology being driven by the adoption of cloud and managed services which is breaking down traditional business models.

Companies are scrambling to adjust, survive and find a way forward.

The CSC-SRA deal will not be the last big deal to hit the market. Still to come is how Lockheed Martin will divest IT business. I’ve also heard rumors that major divestitures by other companies are in the works.

In many ways, you have companies such as Lockheed that are trying to move away from the IT services business, while others are embracing it, particularly when they have the cost model in place to make it profitable.

Obviously, Lawrie and CSC feel they have the cost model to make being a pure-play IT services company work for its employees, customers and investors. Right now they have the numbers to back it up.

With the deal set to close in November, we’ll be looking out over the next year or two to see what they win and how the combination made those wins possible.

Posted by Nick Wakeman on Aug 31, 2015 at 9:31 AM

Reader Comments

Tue, Sep 15, 2015

Two Lost Souls....... This certainly is not a match made in Heaven but looks like the right marriage of convenience. Both companies have struggled for years - losing revenue, cutting costs, watching talent leave, and struggling to find a strategy for growth. The industry leading EBITDA reflects the terminal endpoint of cost cutting - combining will allow one more hard squeeze of the orange but then CSC-SRA needs to find a strategy for growth and with 5 years of YOY REV declines, clearly neither has cracked that nut. Those who preach consolidation in the government contracting sector rarely can answer the question of what economies of scale truly exist in this industry. The truth is consolidation reflects the belief that bigger is better in outlasting the competition until Federal budgets return to growth - it is the strategy to take when you don't have a real strategy based on innovation, differentiation and advantageous positioning. Like the Pink Floyd song says How I wish, how I wish you were here. We're just two lost souls Swimming in a fish bowl, Year after year, Running over the same old ground. What have we found? The same old fears. Wish you were here.

Fri, Sep 11, 2015

Your analysis comes into question when you can't correctly identify the companies you're speaking about. Booze is slang for an alcoholic beverage. Booz is a consulting firm.

Wed, Sep 2, 2015

The four horsemen of corporate death finally came for SRA. The deal with Providence set that in motion.....Alea iacta est.

Wed, Sep 2, 2015 Editor

To the person asking why I call it an acquisition when it is a merger. Well, it isn't a merger. CSC is paying nearly $400 million in cash and taking on $1 billion in debt. CSC is taking over SRA. It's not a merger even if the companies involved call it a merger.

Wed, Sep 2, 2015

Why are you using the wording CSC aquired SRA when it was a MERGER?

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