Unisys Corp (UIS) 2004 Q3 法說會逐字稿

Good morning ladies and gentlemen and welcome to the Unisys Corporation 3rd quarter financial results conference call.

At this time all participants have been placed on a listen-only mode and the floor will be open for your questions following the presentation.

It is now my pleasure to introduce your host, Mr. Jack McHale.

Sir, the floor is yours.

Well, thank you Operator.

Hello everyone, and thank you for joining us this morning.

About on hour ago we released Unisys 3rd quarter 2004 financial results.

And with us this morning to discuss our results are Unisys Chairman and CEO, Larry Weinbach, our Chief Fin -- Operating Officer, Joe McGrath, and our Chief Financial Officer, Janet Haugen.

Before we begin, I want to quickly cover just a few housekeeping details.

First, today's conference call and the Q&A session are being webcast by the Unisys Investor website.

A replay of the webcast will be available on our website shortly after the conclusion of this live event.

Second, note that certain financial comparisons made in this call will be with and without the impact of pension accounting.

We believe that providing this nonGAAP information is meaningful to fully understand our operating performance because while pension accounting is non-operational in nature, it does impacts our reported results.

Our reported results in the 3rd quarter of 2004 include 23.5 million of pretax pension expense compared with 8.5 million of pretax pension income in 2003.

A 32 million negative swing year-over-year.

On the Unisys Investor website we have provided a reconciliation of our reported results on a U.S.

GAAP basis, compared with our results excluding the impact of pension accounting.

Third, you can find in our Investor website the earning release and the associated spreadsheet as well as presentation slides we will be using this morning to guide the discussion.

These materials are available for viewing as well as printing and downloading.

Today's presentation which is complimentary to the earnings press release, includes some nonGAAP financial measures.

Reconciliation of these measures to GAAP results are available in the earnings release and on our website for viewing.

Finally, I would like to remind you that forward-looking statements made in this conference call are subject to various risks and uncertainties that could cause actual results to differ materially from expectations.

These factors are discussed more fully in the Company's periodic report as filed with the SEC.

Copies of the SEC report are available from the SEC and also you can get these on Unisys' Investor website.

Getting kind of the housekeeping out of the way, let me now turn the call over to Larry.

Well, thanks, Jack and good morning everyone.

Thanks for joining us this morning.

Today I want to provide an overview of our performance in the quarter and I want to give you some context for the actions that we announced during the quarter.

Then I'm going to turn the call over to our President and Chief Operating Officer, Joe McGrath, for an overview of our operations.

And after Joe's presentation, Janet Haugen, our Chief Financial Officer, will provide you some more details on our 3rd quarter financials and she'll also provide our financial outlook for the remainder of the year.

So, to start our discussion this morning, please turn to slide one of the presentation materials.

Overall, we achieved our revenue and earnings guidance for the 3rd quarter.

And we achieved our guidance without considering the impact of the special charge and the tax benefit arising from the favorable results of our tax audit.

I was particularly pleased by our strong double digit order growth in the quarter.

And this was driven primarily by outsourcing contracts and infrastructure services project work.

We also also saw a good growth in consulting and systems integration revenue and we saw a much improved sales activity in enterprise servers, particularly in our ES7000 business which showed strong double digit growth over the year-ago quarter.

Please turn to slide two for an analysis of earnings per share in the quarter.

As we noted in the earnings release and in our October 6th press release, there were two special items that affected our reported earnings for the 3rd quarter.

First, during the quarter we settled past tax audit issues.

And this resulted in a 20 cent per share benefit in the quarter.

Second, during the quarter, we took a charge of 18 cents per share to cover cost reduction actions.

These actions are primarily aimed at reducing the cost of administrative functions.

The actions will involve facility consolidations and headcount reductions of about 1,400 positions.

The net of these two items increased our earnings per share by 2 cents.

So if you go back to the slide starting on the left, you can see that we reported 7 cents of earnings per share in the quarter.

Our results continue to be impacted by pension accounting.

And if you look in column two, you can see that pension accounting represented a 5 cent negative impact to earnings in the quarter.

Our reported results also included the net benefit of 2 cents per share from the two special items I just mentioned.

And finally, on the last column, you can see what our 3rd quarter earnings are, excluding the special charge, excluding the tax provision benefit and excluding the pension accounting expense.

Excluding these items which gets us back to the basis upon which we gave earnings guidance in July, we achieved earnings per share of 10 cents in the 3rd quarter, meeting our earnings guidance.

So, overall we showed good focus and good execution in achieving our financial targets and we have a strong quarter for new order signings.

This was also an important quarter in terms of new initiatives to drive profitable growth going forward.

Please turn to slide three for a brief overview of these these initiatives.

As most of you know, in recent years we have been aggressively transforming our business and our cost model to become a leader in the IT services and high end server market.

We made good progress in this effort.

We transformed our portfolio, our skill set, our cost structure and our balance sheet.

But the job is never done.

The fact is, we operate in one of the most intensely competitive industries in the world.

And we're constantly looking for ways to lower our cost structure and enhance our competitiveness and efficiency.

As a result of this ongoing process, during the quarter the management team committed to a series of actions to accelerate our profitable growth.

These actions encompass both external, revenue-generating activities as well as internal administrative activities.

Making progress on both of these fronts will give us additional leverage as we drive toward our operating margin targets.

Now I want to turn the call over to Joe for a review of our operations.

Thank you Larry.

Good morning everyone.

This is my first conference call and I am delighted to have the opportunity to share with you my perspective on our operations.

We launched a number of initiatives this past quarter to enhance our sales and marketing efforts and drive revenue growth in our strategic areas of focus.

We also initiated actions to further drive down our administrative expenses.

This morning I will discuss these initiatives and the expected benefits.

I will also provide an update on our business pipeline and review our major orders we received in the quarter.

To begin, please turn to slide four of the presentation materials.

As Larry mentioned, Unisys as undergone a tremendous amount of change in recent years.

But transformation is a never-ending process in this industry.

To compete effectively we must be constantly looking for new innovations, new solutions for clients and new, more cost-effective ways of doing things.

In recent months, our management team reviewed our global business, we identified a number of areas where we believe we could accelerate our profitable growth.

On the client side of the house we saw the opportunity to do a better job at presenting the full capabilities of Unisys to our clients.

When we talked to clients, we found that some clients weren't aware of our end-to-end capabilities.

Sometimes our sales and marketing efforts were compartmentalized and we were marketing as discreet business units rather than single company.

To win opportunities and drive revenue growth, we needed to be more integrated, more coordinated and more agressive in our sales and marketing activities.

Internally, we saw opportunities to improve our business processes and reduce administrative expenses by doing things differently and expanding our use of low cost resources and operations.

Slide five summarizes the actions we've initiated on the external client-facing side to enhance the one Unisys go-to-market.

First, we are dedicating greater focus and resources on larger, selected global accounts where we have the opportunity to market and sell our full capabilities.

Given the importance of these clients we want to make sure they have a full integrated view of everything we can do for them.

By doing this, we expect to deepen the relationship with these clients and grow revenue with them.

We plan to expand this program beyond these clients as we see the results from this effort.

Second, we are prioritizing our go-to-market efforts to focus more resources on our strategic growth areas of consulting and systems integration, outsourcing, enterprise security and high end servers.

Our goal is to increase our win rates and deal profitability in each of these areas through more targeted, focused marketing and sales efforts.

Third, we're being more focused in our international go-to-market efforts.

In each of our key geographic markets, we are focusing on our resources on those industries, clients and solutions where we have the greatest opportunity for profitable revenue growth.

We also want to ensure we can leverage an repeat our wins by focusing on large, progressive organizations that set the trends for their sectors.

Fourth, we're being more rigorous in our efforts to identify and win opportunities in our strategic growth areas.

Our goal here is to ensure we don't miss out on bidding on market opportunities that fit our profile and strengths.

We have set up teams of leaders from across our businesses and geographies to identify, track and resource high potential deal opportunities as they arise.

Finally, and perhaps most important of all, across our targeted growth areas, we're being more aggressive in bringing innovative new solutions to market.

We demonstrated this over the past few months with two significant service and product launches.

In our services business, a potentially significant growth opportunity for Unisys is in the area of enterprise security.

Given the current global environment, there are few areas as urgent or pressing the clients as protecting their business and information assets and Unisys is one of few IT service firms that offers truly world-class capabilities in enterprise security.

In October at a major client and media event in New York, we launched the Unisys global visible commerce family of solutions.

Based on our 3D visible enterprise methodology, these new solutions enable clients to more effectively manage their global supply chain and protect their brands, products and customers.

We developed these solutions as a result of our nine month consulting work with the U.S.

Department of Homeland Security and the operations safe commerce pilot program.

In this program we work with key U.S. sea ports and commercial product companies to analyze the vulnerability of their global supply chains.

We tested various technologies in these pilots and we've taken what we've learned and are offering it to help clients in such critical areas as -- RFI in critical areas as RFID-based track and trace security supply chains and logistics.

This effort is actually a good example of the new one Unisys spirit across business unit cooperation.

To launch these new solutions we brought together the capabilities of our federal group, our commercial line of business, our transportation line of business and our horizontal practice are supply chain management.

These solutions blend the best practices and thinking of the Unisys experts from around the company and we're very excited about our growth prospects in this dynamic market.

We had two significant announcements in our technology business during the quarter.

We announced the availability and support for Linux on our ES7000 family of Intel-based servers.

Linux is also available on our ClearPath servers.

We also launched new models of our ClearPath Dorado family and we believe they will drive revenue in the 4th quarter and into 2005.

In our Intel-based ES7000 program, we see the emergence of a brand new market, the market for high end based servers.

Many organizations are interested in Linux because of its open source code model and ability to run on lower cost hardware platforms.

There are particularly strong interest in the public sector market and also among current Unix risk customers looking to move to a more open, more cost-effective environment.

Until recently, the Linux operating system wasn't capable of scaling to run on servers above 8 processors, but advances in the operating system have recently changed that and with our own advanced middle wear and platform technology we see the opportunity to take a leadership position in the emerging high end Linux market just as we have in the high end Windows market.

During the quarter we introduced the new Linux capability on all ES7000 models.

We also announced a first for Linux.

The availability of dynamic partitioning capabilities that previously were only available on mainframe or Unix risk environments.

So we have an industry first.

Servers capable of running Linux on up to 32 processors with dynamic partitioning to effectively manage multiple workloads on a single server.

What this means for Unisys is we can now offer ES7000 on two fast growing markets.

High end servers running the Windows operating system as well as high end servers running Linux.

According to IVC, the market for servers [inaudible] $50,000 running these two operating systems will grow from about 500 million today to more than 1.7 billion by the year 2008 and we expect Unisys to be at the lead in both of these markets.

So this is an exciting new market opportunity for the ES7000 and we are attacking it aggressively.

At the end of the quarter, we also announced a new generation of the ClearPath Plus Dorado mainframes.

These new systems provide 50% higher performance over previous models and some models have a pay for use metering capability that allows customer to buy computing power as they need it on demand.

In addition to the Linux capabilities, the new ClearPath systems also support a wide range of open SARS software and standards based environments including dot net, java, J2E, E and JBOS, allowing clients to integrate their existing Legacy systems with new open systems.

As an example of our more aggressive marketing approach as part of the Dorado launch we announced an innovative new service offering we call the application modernization service.

This service helps CIOs overcome the problem of application agility lag with their mission-critical Legacy systems.

How to keep these applications up-to-date with changing business conditions.

The services aimed at users of any mainframe are Legacy environment.

Including IBM and Unix risk environments.

It is based on the 3D visible enterprise methodology, the service gives customers a holistic view of their application portfolio.

It allows clients to use automated software tools to modernize and update their critical applications while protecting their application investments.

This service is another good example of leveraging cross business capabilities.

In this case, 3DVE and our mainframe expertise in leveraging them into new markets.

While it is still early yet, I believe the new sales and markets initiatives are helping us expand our pipeline.

In the service area, the new processes I described can help us identify a number of opportunities and some of these have led to key wins.

During the 3rd quarter for example, we saw a significant double digit increase in services orders.

You can see our major orders in the quarter listed in slide six of the presentation materials.

For example, we received a contract from the Department of Defense to provide implementation and training services supporting the department's electronic medical record system.

The base contract -- the base year of the contract is valued it at 31 million and the contract has a total potential value of 130 million over four years if all option years are exercised.

We also had a very good quarter for infrastructure outsourcing deals.

In fact, overall we booked more than 110 million of multiyear infrastructure outsourcing contracts in the 3rd quarter including five contracts valued at more than 15 million.

One of these was a four year contract from a leading biotechnology company to provide management and support services for some 17,000 users.

The contract has a potential value of 47 million.

In business process outsourcing, we continue to see elongated decision making cycles by clients.

However, we did announce one important VPO contract in the 3rd quarter, an expansion of our multiyear remittance processing arrangement with Comcast.

The new multiyear contract, worth an estimated 25 million, will double the volume of remittance payments that we handle for Comcast.

In addition to our existing Pennsylvania service center, we will open a second Unisys facility in the state of Washington that will handle processing for Comcast as well as our Washington Mutual contract.

We also received a number of outsourcing extensions in the quarter.

We continue to go forward with a strong pipeline of potential services contracts, including more than a dozen potential contracts valued at over $100 million.

In addition to the higher services orders we saw improved volume with the ES7000 in the 3rd quarter.

Sales of ES7000 in the 3rd quarter showed strong double digit growth from the year-ago quarter and from the 2nd quarter of this year.

In fact, it was the strongest revenue quarter for the ES7000 in the history of the program.

This increase was driven by growth in our Windows based ES7000 servers and as sales of our new Linux-based servers grow, we're hoping to build on this momentum.

Now please turn to slide seven for an overview of the actions we're take on the cost reduction side of our house.

In recent years we've been steadily transforming the cost model of Unisys as part of our transition to a services led technology enabled company.

As services have grown to more than 80% of our total revenue, we have changed our cost model to support our underlying shift in our revenue base.

In particular, we're focused on reducing selling, general, and administrative expenses as a percentage of revenue.

In 1997 our SG&A expenses represented 22% of our revenue.

And we committed to reduce our SG&A to revenue ratio significantly.

We've cut our annual SG&A expense by 400 million from 1997 levels and today SG&A represents about 17% of our revenue excluding the impact of pension accounting and special items.

But cost control is a never-ending process at Unisys.

To grow our topline revenue and achieve our profit margin targets, it is critical we have a lean, efficient cost structure to be competitive.

As we look for areas to enhance our operational efficiency, we decided during the quarter to take actions to further reduce our cost base by streamlining administrative expenses.

Some of the changes we're making involve streamlining our use of physical facility.

As an example, as we shift to a services model, more of our people are working on the front lines with the customer.

Our partners and consultants need to be close to to their clients and they frequently work out of their home office or even the client's location.

As a result we are making greater use of hoteling and virtual offices, which reduces the need for physical office space.

We're also taking advantage of lower cost processes and operations.

These operations include our global sourcing centers, including our India based development and client center in Bangor, India.

But we are also expanding our use of lower cost centers in other locations including the U.S.

For instance, we have a world class global shared service center in Bismark, North Dakota.

Among other things, this center handles accounts payable and receivables, issues purchase orders and processes travel expense reports.

Continuous improvements have made this center an outstanding service level center which is able to deliver with very low cost and efficient resources.

We are also selectively expanding our use of outsourcing internally, making use of third parties whenever possible to handle administrative functions more cost effectively and we can do it ourselves.

With these actions we expect to reduce or cost base by about 70 million on an annualized run rate basis by the end of 2005.

Advancing to slide eight, I'm going to sum up by referring back to the slide that Larry showed you earlier.

The actions we initiated during the 3rd quarter are all about leverage.

We want to drive accelerated growth of the top line to a more coordinated, more aggressive, sales and marketing and at the same time we plan to reduce our cost base by operating more efficiently, particularly in administrative areas.

We believe the combination of these actions will position us well to achieve growth and margin targets in the months and years to come.

Now I turn over the call to Janet for a review of the financial results for the quarter.

Janet?

Thanks, Joe, and hello everyone.

This morning I will discuss our financial results in the quarter, the cash implications of our cost reduction actions and our full year financial outlook.

Beginning with our 3rd quarter revenue, please turn to slide nine.

Our 3rd quarter revenue came in at $1.45 billion which was flat from the prior year and in line with our guidance for quarter.

On a constant currency basis, our revenue declined 3% in the quarter.

Based on today's rates, we anticipate that currency will have little or no impact on the 4th quarter 2004 revenue comparisons.

Services represented 79% of our revenue in the 3rd quarter with technology accounting for 21% of our revenue.

Services revenue increased 2% in the quarter from year-ago while our technology revenue declined 8%.

Slide ten shows our services revenue by component in the quarter.

Consulting and systems integration revenue grew 6% and represented 35% of services revenue in the quarter.

Outsourcing revenue grew 4% and represented 36% of our services revenue in the quarter.

Infrastructure services revenue was down 7% in the quarter while down year-over-year. infrastructure services rebounded from the 2nd quarter and represented 17% of our services revenue in the 3rd quarter.

And finally, core maintenance revenue, as expected, declined 2% in the quarter and represented 12% of our services revenue in the quarter.

Turning to technology.

Please turn to slide 11.

Our enterprise server revenue was flat in the 3rd quarter of 2004.

Within enterprise servers we saw strong double digit growth in our ES7000 sales while ClearPath revenue declined slightly.

The overall technology revenue declined in the quarter, was driven by specialized equipment business.

Revenue from the specialized equipment declined 35% in the quarter driven primarily by lower sales of semiconductor test equipment.

Moving on to the income statement.

Please turn to slide 12 for further details on income for the 3rd quarter.

On this slide, we have provided information showing our reported results for the 3rd quarter of '04 our 3rd quarter of '04 results excluding pension and our 3rd quarter '04 charge for cost reduction actions broken out by line item.

The 3rd quarter '04 charge for cost reduction actions is included in both the as-respected results and the results excluding pension for the 3rd quarter of '04.

For reference we have also included the 3rd quarter '03 results on a reported basis and those results excluding pension.

Now please turn to slide 13 for a discussion of our services segments margins in the quarter.

This slide shows our 3rd quarter 2004 margins for our services segments, both on a reported basis and excluding pension accounting.

For comparisons purposes we have also shown the year-ago margin.

Please note that our policy has been to evaluate business segment margin performance exclusive of restructuring and unusual and non-recurring items.

As a result, both the services and technology segment margins that I will discuss in a moment exclude the special items that we took in the quarter.

Services operating margins, excluding pension accounting, was 1.67% in the current quarter compared to 3.5% a year ago.

Our services margins were impacted in the 3rd quarter primarily by costs associated with modifications to two outsourcing contracts.

Moving to slide 14.

In our technology segment margins were relatively flat from a year ago level.

Excluding pension accounting in both years, the 3rd quarter 2004 technology operating margin was 14.7% compared to 15.3% a year ago.

Moving to cash flow and balance sheet highlight in the quarter. please advance to slide 15.

We used a million dollars of cash from operations in the 3rd quarter compared to operational cash flow of 114 million in the year ago quarter.

This change in operational cash flow year-over-year was primarily driven by lower customer pre-payments in the 3rd quarter of '04.

Total capital expenditures in the 3rd quarter were 77 million, which was down from 98 million a year ago.

After deducting capital expenditures, we used 78 million of free cash in the quarter.

A few other notes on cash flow and the balance sheet.

Depreciation and amortization was 92 million in the 3rd quarter of '04 compared to 82 million in the year ago quarter.

Looking forward our expectations for capital expenditures for the full year of 2004 continues to be about 400 million and expectation for depreciation and amortization for 2004 is around 370 million.

We entered the quarter with 574 million of cash on hand and no borrowing against our $500 million revolving credit facility and we continue to target free cash flow of more than $50 million in 2004.

Now, in terms of our expected cash usage for the cost reduction actions that we announced in the quarter, we expect to use 85 million of cash for these actions with the majority to be spent in 2005.

And for the tax refund, we expect to receive the net $30 million cash refund either late in the 4th quarter of this year or early next year.

When considering the cash usage for the cost reduction action, the cash savings that we expect to generate from those actions, and the tax refund, we believe that the impact of the special charges should be cash neutral in 2005.

Now please turn to slide 16 for a discussion of our financial outlook for the remainder of 2004.

We expect to close out 2004 with strong earnings in the 4th quarter.

This will enable to us achieve our previously stated guidance of full year 2004 earnings per share excluding the impact of pension accounting in 68 to 72 cent range on flat to low single digit revenue growth.

Before I close I'd like the spend a few minutes discussing our current view of pension accounting.

For the full year of 2004 we currently expect pre-tax pension expense of 94 million.

This includes 38 million of expense in the U.S. and 56 million of non-U.S. pension expense.

For 2004 we expect cash funding to be about $66 million.

And as I have previously stated, in 2004 we are not required to fund our U.S. qualified defined benefit plan.

For 2005, the estimated pension expense cannot be reliably estimated until after December 31, 2004 when the actual amount of plan assets is known and the discount rate can be determined.

Based on the 2004 year-to-date stock market performance and the long-term interest rate environment, our U.S. pension plan expense for 2005 could increase by as much as 100 to200% from the 38 million expense in 2004.

Our current expense for all other plans indicate a slightly higher expense in 2005 for those plans when compared to 2004.

Despite any possible increase in the 2005 U.S. pension expense, we will not be required to fund our U.S. qualified benefit plan in 2005. 2005 funding for the remaining plans is currently expected to be somewhat higher than 2004.

Obviously all these estimates are just that.

Estimates.

And can vary significantly based on a number of factors.

However, we wanted to give you an early view into the 2005 pension possibilities.

When we release earnings in January 2005 when the actual amounts are known, we will announce our pension expense estimate for 2005.

In summary, let me comment that we met our financial targets in the 3rd quarter.

We continue our ongoing efforts to reduce our cost base.

And we believe these new actions we are taking will further enhance our efficiency and competitiveness.

And now I would like to turn the call over to Jack for questions.

Thank you, Janet, Joe and Larry.

Operator, we are now ready to to open the call up for questions, please.

Thank you.

The floor is now open for questions.

If you do have a question, you may press star, one on your telephone keypad at this time.

If at any point your question has been answered and you would look to remove yourself out of queue, you may do so by pressing the pound sign.

Once again callers, we do ask that you please pick up your handset to minimize any background noise.

If you do have a question, please press star, one on your telephone keypad at this time.

Our first question is coming from Julie Santoriello of Morgan Stanley.

Thank you, good morning.

Joe or Janet, wondering if you could elaborate a little bit more on the services margins in the quarter.

Jan, you guys said that margins were impacted by some cost remodifying to outsourcing contracts.

Can you explain a bit more on that?

Julie, this is Joe, good morning.

Yea, let me first start on the outsourcing contracts themselves and then if Janet wants to add anything at the end of it.

It is in the normal course of doing business in the outsourcing business that sometimes there is a gap in expectation between us and some of our clients and clearly this happened in two cases with us.

Over the course of the quarter we finally had a meeting of the minds because we believe the long-term relationship was important enough for us to make that compromise and so we've had an impact in rewriting these two contracts.

It will probably take us the next few quarters to fully work our way through this, but it won't have a long term impact on the future of that business.

And would you expect, you had mentioned in the past, a goal to get to 10% operating margins in the services business exiting 2005.

Can you still stand behind that at this point?

Yea, again a second important question.

Julie, that is still our goal.

We think the cost reduction effort that Janet articulated will be actually an important element of this but we think the most important element is doing a much better operational job in these outsourcing contracts, and so we need to really use both of those initiatives to be able to get to that target.

In the short term it's going to make it a little bit tougher but we still believe it is achievable .

Okay.

And I just wanted to follow up on the pension.

I understand these are just estimates at this time and there are several things that can change over the next couple of months.

Janet can you just elaborate a little bit more on, I guess what really is behind this potential 100, 200% increase and the $38 million expense in the U.S.

Sure.

Julie, you know know the estimate for the pensions as you mentioned really, is the final estimate will be determined based upon the discount rate at the end of the year and the actual return on the assets.

If we were sitting here a year ago last year I don't think anybody would have expected we were going to be in a situation where the discount rate wasn't going to get higher by about a point.

Of right now as we look at the discount rate there are indications that that rate will even be lower than it was a year- ago.

So the major components in driving that is the market performance through year-to-date, through 9/30 on our underlying assets.

And second, we anticipate if we had to make the call right now that the discount rate would go lower.

And then third we still have the amortization of the lost years from 2001 and 2002.

We've got to have another layer coming through in 2005.

And those are the major components that are causing us to say that that U.S. pension expense would increase.

But I do want to reinforce that even though that pension expense as I commented would increase, it will not impact the funding and there is no funding requirement for that U.S. qualified plan in 2005.

Okay thank you.

Thank you.

Our next question is coming from Ashwin Shirvaikar of Smith Barney.

Hi.

Couple of questions.

One is we're we're looking at a significant ramp between the 3rd quarter and 4th quarter.

Then I guess any time in the past three or four years.

So the question is what gives you the confidence that you can get there?

Are you just seeing specific things in our pipeline or in your business that helps you get there?

Ashwin, this is Larry.

First off, as you know and if you go back historically you will see our 4th quarter has always been our strongest quarter.

We continue to look at the 4th quarter and we look at the number of orders people aren't using the word budget flush so much this year, but the fact of the matter is we've we've seen it.

We've seen it for the last three or four years.

We expect we'll see some of it at end of this year.

So we obviously at this point in time don't have a 100% in backlog.

No one does when they start a quarter.

But we feel that the deals that we're working on, the client contacts that we've had and the historical push by the end of December to use up budgets gives us, you know, the feeling that the 4th quarter ramp is appropriate.

Now if you go back a year ago you'll see that the earnings per share in the 4th quarter of '03 is not too dissimilar from what we are talking about in '04.

So we continue to believe that this is a reasonable estimate to get to 68 to72 cents for the year.

Okay.

And what can you do more on the services margin side beyond the cost actions already taken?

I can see, you have -- if you could also quantify the impact of the two outsourcing contracts?

The two outsourcing contracts, frankly it is the first time since we have been in the outsourcing business that we've had some modifications to contracts and I think Joe rightly put it, you know, our goal is we've got to have a win/win with the client.

We've worked hard to try to create that kind of relationship with the clients and sometimes when you look at the SLA's, the service level agreements even though the terms and conditions of the contracts are very specific.

The expectations sometimes are different than the terms and conditions so we do think that it will take us a few quarters to work through this but we do feel that will that with that change with the 70 million which was indicated by Janet which we should get the full impact by the end of '05, you know, we still feel that the services margin and the goal of getting to the 10% run rate by the 4th quarter of '05 is achievable .

We obviously have work to do and I think the fact that we have been working on our competitive cost structure for over a year then took the actions in the 3rd quarter should indicate that we are very serious about achieving that goal.

Final question, clarification on the full year outlook 68 to 72 cents.

I'm assuming that those include now the 2 cent benefit?

Yea, you know, the street has us at 69, the 68 to 72 was the range.

We're still in that range, so I would say yes, Ashwin.

Okay thank you.

Thank you.

Thank you next question is coming from Cindy Shaw of Schwab Soundview.

Good morning.

First off, thanks for doing such a great job of breaking out the moving pieces here in the quarter.

A couple of questions on -- first sort of a housekeeping.

It sounds like from what I'm hearing on pension that if you had to make a decision today we'd be looking at an incremental 8, maybe 10 cents of pension expense in calendar '05 versus calendar '04.

Janet, is that correct?

Well, let me say something, Cindy.

A year and a half ago we gave some estimates based on some preliminary numbers and we obviously turned out to be wrong because the numbers changed at the end of the year.  The reason for this big range is we really don't know for sure and obviously each quarter of a point and a discount rate makes a change, but I I think if you look at the 100% as a floor you are probably not too far off unless the markets really take a huge, huge jump in the next couple of months, so we are not trying to waffle on this thing.

We've just been burned once an we believe that we wanted to give everyone an expectation but don't want to indicate that the discount rate is going to be 6, 6.25, 6.5 by the year so I think you should look at the 100% as kind of the floor but it could be more than that, Cindy.

Okay, thank you.

The lower customer prepays?

Was that an anomaly and can you help us understand what caused that?

Yea, Cindy, as we discussed before when we enter into our contracts particularly the long term contracts, we evaluate them on the fit for the portfolio, the margins on the deal and the cash flow on the deal and so that we time those customer prepayments to generally offset whenever we have any type of significant capital expenditure required as part of that.

So it is an anomaly.

It's a function of when the deals are in the ramp up phase.

You can see that we did have lessor CapEx this year versus a year ago quarter.

So it is an anomaly and if you follow it and you track it from the past couple of quarters its never been a straight line, Cindy.

Okay.

And on your Linux servers I know HP has recently come out with the first real competition to your 7000.

It sounds like they are not very tough competition.

Can you comment on that?

We normally don't comment on competitors.

But I will tell you , I think we are at a real tipping point at the high end of the market.

This market really evolved at the low end for some time and grew pretty substantially in this kind of four-way space.

I think this major change is this thing called dynamic partitioning.

It allows a standard Linux operating system to perform just like an IBM or actually a Unisys mainframe.

It was actually intellectual property that we contributed to the standards organizations that allowed them extend the operating system to go do this.

We think it will change the entire dynamics on the high end to the disadvantage of the traditional Unix risk suppliers and I think they will really struggle to defend that space over the next couple of years.

Well, and that really hasn't even kicked into your results yet, is that correct?

Yeah.

It will involve some market development.

But remember the people in the Unix space, they are generally fairly innovative.

The people pursuing Linux are generally innovative.

And as we said earlier, public sector is the first early adopter but I think you're really going to start to see this accelerate in the year 2005.

Great, and then just looking at what happened on the center court and what we're hearing it sounds like, I know Joe, you went and dug in after the 2nd quarter shortfall and we are hearing about a lot of new initiatives.

If you can give us some color about how much some of these new initiatives might have been underway before the 2nd quarter shortfall or how much the 2nd quarter shortfall had to do with these new initiatives and then also Unisys, you've done a great job in the past of laying out very reasonable plans and hitting your targets.

If you can give us some color on how we think about the expense reductions over the next five quarters phasing in, as well as obviously with the growth initiatives, it takes time for those to impact the top line.

If you can give us any sense for that.

The question is a combination of things.

Let me first deal with your first question which is about how long have we been working on these.

And I'll pick global visible commerce as an example.  We've been working with on that with U.S. federal government and the two initial clients, Motorola and Sarah Lee for over nine months now.

And although we can't share some of the lessons learned because remember the government have checked it was looking at vulnerabilities for weapons of mass destruction.

And so that's all confidential and that gets submitted back to the government but they encouraged us to use all the other lessons learned that came out of this.

And one of the ideas that is came out of kind of a confluence of us and Motorola and Sarah Lee and so on is this idea of the floating warehouse meaning that there are so many stops for a cargo and container ship along the way that if you really integrated effectively into your ERP CRM and SCM system and you had actually a change in forecast that said the U.S. forecast is going down, Europe is going up, you can actually at the midpoints, change containers in midflight.

We think this is a big deal and we think it's going to really change the dynamics of the overall retail and pharmaceutical industries.

They have become extremely interested in this and they perceive it as almost kind of the implication of the Internet to communications that is what this is to supply chains.

So we have been working on it for some time.

The timing happened to be right to accelerate it as a result of some of our back to basic work.

The same thing was true of Linux.

We had a team that was working on this for probably 12 months in place and it wasn't the timing until the ability of the major operating system suppliers, Red Hat and Susay, that finally could expand to 32 way systems and the integration of the intellectual property that we contributed that was around this dynamic partitioning.

So we accelerated.

We didn't plan on going out as fast as we originally did, but the confluence of big ideas came together and it made sense for us to accelerate time to market.

Janet, I don't know if you wanted to pick up the cost reduction efforts.

Yea, Cindy with regard to the cost reduction actions, did mention that the majority of those costs or the actions will come into 2005 and we expect the actions to be essentially completed by the end of the 2nd quarter.

We do expect that we'll have some overlap expenses in the first portion of the year as we make these transitions and make the process improvements around these cost reduction actions but we anticipate being essentially complete on the actions by the end of the 2nd quarter.

Right, and following up on my question, some of actions we're hearing about today are the client facing ones if you will prioritizing go-to-market effort, increased focus on strategic growth areas was that a result of sort of revisiting the business after the 2nd quarter disappointment?

The answer is some and some.

Some of that are projects underway.

This thing that I described called the integrated deal review board where executives get involved in early stages of deals including Larry, myself and other executives, that was underway but it forced us to quicker, more aggressively and it forced us to more get back to basics and manage the details more effectively.

Great.

Well, good luck to you.

Thank you very much.

Cindy, I just want to add one piece to this and Janet mentioned all the cost, but as we look at cash flow in 2005, we think it's -- the cost of the actions and the benefit to be received including that we expect to get a little cash from the Internal Revenue Service that this is going to be kind of cash neutral.

So as we look out, it isn't going to be quarter by quarter, but it will be as we go through the course of '05 so we're kind of estimating by the end of the 4th quarter that we'll see a cash neutral.

Great.

Thank you very much.

Thank you.

Our next question is coming from Peter Labe of Nutmeg Securities.

Thanks very much.

Larry, you haven't talked much about the environment.

I wonder if you could give us an overview of what you think the technology buyers today are thinking and the health of the overall data processing market as we go to the end of the year?

Sure Peter, you know a lot of material gets written about what the IT market looks like and it seems like, excuse me, everyone gets optimistic at the beginning of the year and then this optimism kind of pales as we go through the year and we begin going to see, you know, declining estimates of what the spend will be, and I think you really need to bifricate the spend.

I think we're going through a period where at the low end, the PC market, the desktops, we're seeing people who haven't traded in their system for 3 or 4 or 5 years all of a sudden trading in and I take that piece away from when I look at the overall capital spending in the technology field.

I think technology is still under pressure.

I think companies are still being very cautious and careful on the amount of spend in the technology area.

They are looking seriously at whether they should do it inside or outside.

The boards of directors because of Sarbanes are getting more involved in the major decisions which is taking a longer time for these kind of decisions to be made.

So, the estimates that we have seen recently and certainly in my talk in the clients would indicate that the idea of double digit compound growth in the technology area, and I use technology in the broad sense without the PC's, is probably not coming back in next few years so we're probably looking more in the four, five, six range and I think one of the goals we have at Unisys in the systems integration and consulting, were up 6% we look at that part of the business and say with all the work that we've done and the hiring an the the partners we've brought on and the transformation we made in our business, we want to stay at the high end of what we see in market there and in the outsourcing I will tell you we are very careful.

We obviously indicated we had a couple modifications to two contracts but if I look at the outsourcing market I think we have a number of people who are jumping in without fully understanding and appreciating what the market looks like and how you have got to get things done over a five, seven or ten-year period.

And consequently, in some cases, we are walking away or deciding not to put in the best in final because we think the pricing doesn't make sense.

So we are committed to trying to achieve the goal of 10% operating margin in the 4th quarter of '05.

We understand that nothing is a straight line but we are working hard and I think the fact that we were willing to step up to the 82 million net writeoff that we announced just a couple weeks ago indicates that we are going to do what we need to do to get us cost effective.

So I think we are looking at a market and environment that is in the mid single digit range and I think we need the make sure that we can operate in that range in a cost effective and efficient manner and still achieve a little better than what the market performance is.

Thanks a lot.

Thank you Peter.

Thank you.

We do have time for one final question coming from Julio Quinteros of Goldman Sachs.

Thank you.

Janet, can you just walk us through the operating cash flow expectations for 2004 one quick time and if there are any special adjustments that we're looking at there?

I think you reiterated your targets.

I just want to make sure I have the correct numbers and then what your expectations for operating cash flow growth and free cash flow growth would be in '05?

Thank you.

Okay, Julio.

Let me reiterate that our guidance continues to be for 50 million plus in free cash flow for 2004.

That's billed off of an expectation for CapEx around $400 million.

We have not given any guidance for '05 with regard to free cash flow.

We will do that in our upcoming analyst meeting.

Okay thank you.

Thanks, Julio.

Let me just conclude by thanking all of you for joining us this morning, giving us a chance to explain our 3rd quarter results.

We know and appreciate that as you look at these results, it is a little confusing when you have the kind of writeoff that we had and particularly the implications of that writeoff on the various line items in our consolidated statement of income.

We have tried to in our press release and in this call give you as much detail as we possibly could so that as you look at the numbers and understand what our GAAP numbers are and what impacted the GAAP numbers, you can see the impact of the cost reduction charge, you can see the impact of the pension expense and obviously the taxes just goes on one line.

This is done to make it easier for you to be able to understand that we did make our earnings guidance of 10 cents.

We had a bump in the road in the 2nd quarter.

We've come back.

We've got good order growth, that we achieved strong double digit order growth in the 3rd quarter and we just want to make sure if you have any additional questions because of all the numbers, to please let us know.

Our IR folks are ready, willing and able to help you as Janet, Joe and I. With that, once again, thank you.

We continue to be optimistic and we are going to go forward.

Thanks and bye, bye.

Thank you, and thank you, callers.

This does conclude today's conference.

You may disconnect your lines at this time and have a wonderful day.