Jefferies reiterates SAIC at ‘buy’

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September 2, 2010 8:25 AM EDT

Jefferies & Co. reiterated its ‘buy’ rating on shares of SAIC Inc., a provider of technical services to the U.S. Defense and Homeland Security departments, with a price target of $23. The brokerage raised its profit estimates following SAIC’s in-line second quarter earnings results.

The brokerage sees an attractive risk reward in SAIC shares at current levels with another quarter of robust bookings, submitted proposals at record levels and ample balance sheet capacity.

“Excluding one-time items, second quarter results were generally in-line, in our view. While quarterly revenues were slightly below consensus, we feel bookings momentum and easy comps should drive better top-line momentum in second half of 2011,” said Joseph Vafi, an analyst at Jefferies.

SAIC reported an in line second quarter, with EPS of $0.33 (excluding a one-time royalty payment on a patent transfer, which added another $0.09), although revenue was somewhat lackluster, in the analyst’s view, decreasing 1 percent year-over-year internally. Operating margin declined 10 basis points year-over-year, excluding royalty payment, as SAIC steps up some internal investments.

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The analyst is encouraged by an intact fiscal 2011 revenue outlook (3 percent to 6 percent internal revenue growth), despite a somewhat soft top-line in fiscal first quarter. With bids submitted pending approval at record highs (over $18 billion) along with a 1.1 time book: bill in first half of 2011, the analyst sees revenue momentum picking up going forward.

While the company raised the annual margin and EPS guidance, the royalty payment accounts for 45 to 50 basis points of margin boost for the year. Excluding the payment, EPS guidance actually decreased, weighed down by the company's decision to accelerate business development spending in bid & proposal, R&D, and other internal investments, Jefferies said in a report to clients.

Given the analyst’s belief that SAIC is very well positioned in attractive end markets including cyber security, C4ISR, logistics, healthcare, and energy, he feels the company is better positioned versus peers to withstand potential softness in federal spending. The company noted minimal impact (around $20 million annually) from specific contracts likely to undergo re-structuring given recent commentary from Defense Secretary Robert Gates.

The analyst said while the company continued its heightened buy back activity this quarter ($440 million in first half of 2011), ample balance sheet capacity could drive further M&A activity moving forward, especially given the Organizational Conflict Of Interest (OCI) initiatives under the current administration.

“We believe that better bookings and a steady earnings momentum could drive some multiple expansion from current trough levels back toward our target of 15 times of fiscal 2012 EPS, still a discount to historical values. Risks to the investment case include delays in contract activity industry-wide, heightened B&P spend, and intense competition,” said Vafi.

The brokerage increased its 2011 EPS estimate for SAIC to $1.48 from $1.40 and its 2012 estimate to $1.57 from $1.52. However, the brokerage lowered its 2011 revenue estimate to $11.384 billion from $11.426 billion and its 2012 estimate to $12.015 billion from $12.031 billion.

SAIC shares closed Wednesday up 3.29 percent at $15.37 on the NYSE, while in after-hours the stock rose 1.30 percent to trade at $15.57.

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