With several years of revenue growth under its belt, Electronic Data Systems (EDS) has leveraged its operations into accelerating EPS growth. However, contract signings slowed in 2007, meaning 2008 looks to be a year of lackluster growth. Although Q1 exceeded estimates, EDS will have a back-end loaded year if it is to meet 2008 expectations. Moreover, we believe there are several major IT trends working against the traditional outsourcing model.
Given a potential slowdown in the U.S. economy, we maintain our six-month price target of $15.50 and a Sell rating on EDS shares. Shares of EDS are currently trading at 14.7x 2008 EPS estimate of $1.35, a discount to the industry mean. Although continued improvement in free cash flow is encouraging, EDS blamed the usage of free cash flow in Q108 to be seasonal. The company's guidance of $900 million for 2008 gives it a multiple of about 11.2x on price/operating cash flow.
However, poor bookings during 2007 have caught up with the company and resulted in disappointing guidance in 2008 for revenue growth of only 2.8% (assuming the mid point of updated revenue guidance). We believe the long-term trend is not favorable for traditional IT outsourcing or the domestic economy, and EDS could continue to disappoint. We, therefore, maintain a Sell rating on EDS shares with a six-month price target of $15.50, approximately 11.5x 2008 EPS estimate of $1.35, a discount to the industry.
Read the full analyst report on EDS.
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