Computer Sciences in Junk Trap on Writedown: Corporate Finance

Jan. 6 (Bloomberg) — Credit investors have downgraded Computer Sciences Corp. to junk as cash dwindles at the manager of networks for NASA and the U.S. Navy and it writes down a $1.5 billion investment in a U.K. government contract.

Credit-default swaps tied to CSC climbed to a record high this week, reaching levels that imply the debt should be rated B1, according to Moody’s Corp.’s capital markets research group. Standard Poor’s cut its rating to BBB+ last month, and Moody’s Investors Service and Fitch Ratings put it on watch for downgrade after it said it may lose the entire U.K. hospital- records investment if it cannot renegotiate the deal.

Investors are losing faith in Computer Sciences, known as CSC, which analysts forecast will have a net loss of $2.4 billion in the year through March 31. The company’s bonds are trading at about two-year lows.

“The most recent developments aren’t happy developments for bondholders or equity holders,” Lon Erickson at Thornburg Investment Management Inc. in Santa Fe, New Mexico, said in a telephone interview. Erickson, a money manager who helps oversee $9 billion of fixed-income assets including CSC debt, said the company has presented its investors with “quite a mess.”

Chris Grandis, a spokesman for CSC, declined to comment.

Investors in CSC bonds lost an average of 8.4 percent since the end of 2010, while the U.S. Corporates, Technology Electronics index gained almost 9 percent, Bank of America Merrill Lynch index data show. It’s one of only two firms in the index to have all of its bonds trading below par, the data show.

Diminishing Cash

CSC’s cash and near-cash items have fallen to $978 million in the quarter ended Sept. 30, from $2.7 billion in the similar period a year prior, according to data compiled by Bloomberg. The company will revise its fiscal 2012 forecasts, and book a “material impairment” in its fiscal third quarter that could total all of the $1.5 billion it has spent on the U.K. electronic patient-records contract, CSC said in a Dec. 27 regulatory filing.

CSC had $2.48 billion of long-term debt outstanding on Sept. 30, according to its latest quarterly earnings report filed with the SEC. That includes $2 billion of bonds due in 2013 and 2018 and a revolving credit line that matures in 2015, Bloomberg data show.

‘Major Concern’

The company’s $1 billion of 6.5 percent notes due in March 2018 tumbled to 95.3 cents on the dollar on Jan. 4, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority. That was the lowest level on record, down from 111.4 cents in May. The bonds rose to 98.25 cents and yielded 6.85 percent as of 11:32 a.m. in New York.

CSC’s $678.8 million of 5.5 percent notes due March 2013 fell to 99.5 cents on Jan. 4, the least since June 2009. They recovered to 100.125 cents to yield 5.382 percent.

“The market certainly wasn’t expecting this large of a charge,” Dave Novosel, an analyst at bond researcher Gimme Credit LLC, said in a telephone interview from Chicago. The lowered forecast doesn’t “bode well because it assumes that cash flows will be worse. There’s definitely a major concern.”

CSC delayed results in August 2007 because of accounting errors tied to tax expenses, which led to costs of $303 million over 10 years. That this isn’t its first accounting issue “gives investors pause,” Novosel said.

Implied Junk

Five-year credit-default swaps tied to the company’s debt, which typically rise as investor confidence deteriorates, climbed to 572 basis points on Jan. 4, the most on record, according to data provider CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in the privately negotiated market. Credit-default swaps pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt. A basis point equals $1,000 annually on a contract protecting $10 million of debt.