Unisys Corp (UIS) 2006 Q4 法說會逐字稿

Good day, everyone, and welcome to the Unisys fourth quarter 2006 financial results conference.

Today's call is being recorded.

At this time for opening remarks and introductions, I'd like to turn the conference over to Mr. Jack McHale, Vice President of Investor Relations.

Please go ahead.

Thank you, operator.

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

Earlier this morning, Unisys released its fourth quarter and full-year 2006 financial results.

And with us this morning to discuss these results are our CEO, Joe McGrath, and our CFO, Janet Haugen.

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

First, today's conference call and the Q&A session are being webcast via the Unisys Investor Web site.

This webcast, including the question-and-answer session, is being recorded and will be available as a replay on our Web site shortly after the conclusion of the live event.

Call participants are in a listen-only mode until the Q&A session.

Second, you can find on our Investor Web site the earnings release and the associated spreadsheets as well as the presentation slides that we will be using this morning to guide the discussion.

These materials are available for downloading and printing also.

Third, today's presentation, which is complementary to the earnings press release, includes some non-GAAP financial measures.

Certain financial comparisons made in this call will be with and without the impact of pension accounting and restructuring.

In the presentation, we have provided a reconciliation of our reported results on a U.S.

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

Finally, I'd like to remind you that all 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 earnings release and in the Company's periodic reports as filed with the SEC.

Copies of these SEC reports are available from the SEC and from the Unisys Investor Web site.

Now let me turn the call over to Joe.

Thanks, Jack.

Hello, everyone, and welcome to today's call.

To begin our discussion this morning, please turn to Slide 1 for an overview of the quarter.

Unisys closed a year of tremendous change and progress in 2006 with a solid and profitable fourth quarter.

As you know, over the past year, we've been implementing a broad-based multi-year repositioning program aimed at significantly enhancing our competitiveness and profitability by 2008.

We continued to make progress against that program in the fourth quarter.

For the second straight quarter our operating margins and bottom line profitability improved significantly.

Service orders continued to grow double digits, driven by strong demand for our outsourcing solutions.

We signed many exciting service contracts in the quarter, including a number with new Unisys clients.

Across the business we continued to drive down operating costs and we are on track to deliver our cost savings targets.

We also continued to expand our offshore sourcing capabilities, another key to enhancing our cost competitiveness.

Driven by the changes we're making in our business model, we generated $102 million of operating profit, excluding pension expense and restructuring in the quarter.

In a few moments, I will review our results for the quarter and the progress we're making towards our 2008 financial goals.

First, please turn to Slide 2 for an overview of demand trends that we saw in the fourth quarter.

I continue to be encouraged by the demand we're seeing for our focused portfolio of services and solutions, particularly in the area of outsourcing and enterprise security.

Our services orders grew double digits in the quarter.

We've now grown our services orders double digits in four of the last five quarters since we announced the repositioning program.

Our services order growth in the quarter was driven by substantial double-digit growth in outsourcing orders.

During the quarter, Unisys was selected as part of a team led by IBM to provide outsourcing services under a seven-year, $863 million contract with the Texas Department of Information Resources.

We estimate that our portion of the deal is about $135 million.

The team will help the state modernize its technology infrastructure and enhance information security by consolidating some 31 data centers supporting 27 different state agencies into two central data centers.

We will create a new Unisys data center for the project and we will also provide transition and transformation services, day to day data center operations, advanced help desk and support services, and statewide server maintenance.

This is new business for Unisys.

Overseas, Unisys received a five-year order with an estimated value of approximately $100 million from the Australian Department of Immigration and Multicultural Affairs.

We will provide a range of IT services including desktop services and e-mail and intranet security.

You'll recall that we were selected for this business last quarter and we're pleased to be able to reach agreement on this business in the fourth quarter.

This is a new client for Unisys.

In our U.S. federal business, the U.S.

Department of Justice awarded Unisys a blanket purchase agreement under which the delivery orders may be issued for continued support of the Department's Consolidated Asset Tracking System, which tracks and monitors assets that are seized and forfeited in the prosecution of criminals and criminal enterprises.

The agreement could be worth approximately $112 million if the government orders services at anticipated levels for the full eight-year term.

Other significant fourth quarter wins include a five-year estimated $35 million contract with BSN Medical of Germany, a new client for Unisys, to provide a range of IT outsourcing services, including desktop services and user help desk supporting the client's 3500 staff worldwide.

A five-year contract with business intelligence software leader, Business Objects, to provide life cycle desktop services, including help desk.

This is also a new Unisys customer.

A six-year, approximately $34 million contract from the Belgium Federal Public Service finance for Unisys to create a next generation tax collection, processing, and recovery system for use by the Federal Public Service agencies throughout Belgium.

It's interesting to note that of the six major fourth quarter client wins I just mentioned, four represent new clients for Unisys, a very encouraging sign.

Slide 3 shows the sampling of our major client wins in outsourcing in 2006, Starbucks, Business Objects, BSN Medical, Australian, DIMA, Texas Department of Information Resources, Unibanco, all top tier organizations that chose Unisys for outsourcing and most of them new Unisys clients.

Slide 4 shows some of our major client wins in enterprise security in 2006.

The Department of Homeland Security, SBInet and Eagle programs, Australian DIMA, the FBI's CODIS program, the European Commission, Citizenship and Immigration Canada, Air France, KLM, again, all top tier organizations that chose Unisys for leading-edge security projects.

So we are seeing good breadth in our contract wins and we are competing successfully to win major IT service contracts with top tier organizations in our strategic growth areas.

Turning to Slide 5.

Our CFO Janet Haugen will provide details on our financial results, but let me just cover some of the highlights.

Our revenue declined 1% in the quarter, and overall, our revenue in 2006 was flat.

We're obviously never satisfied by flat revenue growth but given the extent of the changes we made in 2006, including realigning our sales force, it was an accomplishment just to keep our revenue base steady during the year.

Revenue in our services business grew slightly in the quarter and for the full-year.

Within services we saw strong revenue growth in 2006 in infrastructure services and outsourcing, offset by a mid single-digit decline in systems integration and consulting revenue, and a continued secular revenue decline as expected in core maintenance.

Our technology revenue declined double digits in the fourth quarter and for the full-year.

However, we did see a double digit increase in our ClearPath sales sequentially in the second half of 2006 over the first half of the year as we benefited from shipments of new ClearPath models.

On a GAAP basis we reported an operating profit of $69 million in the fourth quarter, an 87% increase over the fourth quarter of 2005.

This improvement was driven by margin improvement in our services business.

As you know, our goal through the repositioning program is to drive the business to an 8 to 10% operating margin, excluding retirement-related expenses, by 2008.

On that basis we continued to make progress in the fourth quarter.

Slide 6 shows that our operating profit margin, excluding pension expense and restructuring in the fourth quarter of 2006, compared to the fourth quarter of 2005.

As you can see, we generated $102 million of total operating profit in the fourth quarter.

This is up about $21 million from a year ago.

Operating profit in our services business, which represents 84% of our revenue, improved by about $41 million year-over-year.

Our technology operating profit declined somewhat year-over-year, largely a reflection of lower volumes.

Especially during a traditional year such as 2006, it's also important to look at margin trends on a sequential basis.

Slide 7 shows our operating results on a GAAP basis in each quarter of 2006, including pension expense and restructuring.

Slide 8 shows our operating results in each quarter of 2006 excluding restructuring and pension expense.

You can see the profit improvement each quarter through the year.

Our operating profit was essentially breakeven in the second quarter of 2006, turned positive in the third quarter and increased to $102 million in the fourth quarter when we achieved a 6.6% operating margin excluding pension expense and restructuring.

Now, if you're familiar with our business model, you know that we typically see a seasonal benefit in the fourth quarter from end of the year budget spending so we don't expect this sequential operating margin improvement to continue in a straight line.

But on a year-over-year basis we are looking for continued margin improvement in 2007 as I'll discuss in a moment.

While we have done a great deal more -- while we have a great more to do in our repositioning effort, we've come a long way over the course of 12 months.

And as we close out 2006, I would like to recognize the hard work and dedication shown by Unisys people around the world in 2006.

It's never easy to stay focused when so much is changing in so short a period of time.

But in the year when we had to execute, our employees came through and I am very pleased and proud of their efforts.

When you step back and consider the changes that Unisys went through in the past year, the extent of the change is striking.

Slide 9 summarizes our accomplishments in 2006.

To implement the repositioning plan and drive a new future for Unisys, we had to make some hard decisions.

First, to create a more competitive cost structure and reduce the volatility of pension expense, we adopted significant changes to our U.S. retirement plans.

As of December 31, 2006 we ended the accrual of future benefits under our U.S. defined benefit pension plans.

On January 1, 2007 we also enhanced our U.S. 401(k) savings plan to increase the Company match up to 6% of pay from 2% previously.

We expect these changes to significantly reduce retirement expense over the coming years while creating much more predictable retirement-related expenses for the Company.

Second, we improved the two challenging large business process outsourcing operations that were impacting our financial results.

We restructured one of the operations, our iPSL Czech processing joint venture in the U.K. at the beginning of 2006 to make it essentially breakeven.

Through 2006 we also made steady improvement in the second challenging BPO operation, and this engagement is now operating at essentially breakeven.

We will continue to make adjustments in both of these operations to further improve them, but at this point they are no longer creating a material drag on our results.

A third major accomplishment was overhauling our global sales and marketing efforts.

In 2006 we moved to a new account-centric sales approach aimed at increasing our business with large, top 500 client accounts in key geographies.

We also recruited and hired experienced new sales leadership in nearly ever geography and industry we serve.

While we have work to do, this effort is paying off in services order growth and in an increased pipeline of opportunities with our top 500 client accounts around the world.

Complementing the new sales focus we have realigned our worldwide services delivery workforce in 2006.

This effort involved pooling some 4,000 services delivery personnel into integrated, cross-organizational teams organized around our focused area of growth.

In essence, we have created an integrated human supply chain critical for any services business to be successful.

For Unisys, this effort is important in meeting demand in our focused growth areas in improving our utilization.

In our technology business in 2006 we continued to shift our R&D focus away from hardware design and toward value-added enterprise server operating system software and middleware.

As part of this, we announced two very important initiatives in 2006.

We reached a series of alliance agreements with NEC to jointly design future high-end Intel-based servers for the two companies.

By combining our R&D dollars related to Intel-based platforms, we'll be able to focus our R&D resources on operating system and middleware software while reducing our overall R&D expenses.

Leveraging this new relationship with NEC in 2006, we announced a next generation enterprise server architecture that will allow us over time to run all of our enterprise server lines on a common architecture using standard Intel chips.

Unisys and NEC have been working together for nearly a year now, and we've been pleased with the progress we are making.

We have already been able to reduce our hardware related R&D expenses while continuing to offer innovative server technology to our clients.

Working our way down the list, in 2006 we also significantly expanded our use of offshore delivery resources.

During the year we opened new sourcing and service centers in India, China, and Hungary, and we added about 1200 new offshore resources, primarily in India.

Overall, we now have more than 2700 offshore delivery resources in India, China, and Eastern Europe, and we continue to target increasing that count to about 6,000 workers, or about 20% of our workforce by 2008.

Another accomplishment in 2006 was making initial divestitures of non-core assets as part of the repositioning plan.

This is important in order to tighten our focus on our growth initiatives and fund our cost restructuring actions.

In the first quarter of 2006 you'll recall we raised approximately $380 million from the sale of our shares in Nihon Unisys Limited.

These proceeds were enough for us to fund all of the restructuring changes that took place in 2006.

Also in 2006 we announced two small divestitures, part of our semiconductor chip test business in the first quarter, and we recently announced an agreement to sell our global media business.

We have targeted the sale of the media business to close in the first quarter.

We continue to actively drive our divestiture program and we will keep you posted on any significant news going forward.

Finally, we aggressively addressed our cost base in 2006.

Please turn to Slide 10 for a brief update on our cost reduction activities.

You'll recall from our last call in October that we are targeting a total of 5600 reductions worldwide.

Of that 5600, we completed about 4900 reductions in 2006, including about 1300 reductions in the fourth quarter.

This was slightly less than the 1400 headcount reductions that we expected to complete in the fourth quarter but we are on track with our restructuring effort.

Beyond headcount reductions, we also made progress in streamlining our cost base by outsourcing non-strategic functions and processes.

During 2006 we outsourced our parts logistics process, facilities management, and other major processes where we could lower cost and enhance service through the use of external providers.

Based on our work in 2006, these actions will yield net annual savings of approximately $280 million in 2007.

We expect to complete most of the remaining 700 headcount reductions in the first half of 2007.

We continue to expect the cost reduction program overall to yield more than $340 million of net annual cost savings on a run rate basis by the second half of 2007.

Let me note that while we did much of the heavy lifting in our cost reduction program in 2006, we are not finished in terms of streamlining the operations of this company.

We continue to look for opportunities to re-engineer processes, work more efficiently, and outsource non-core activities where that makes sense.

Here too, we will keep you posted on our actions and progress as we go forward.

So overall 2006 was a highly productive year in which we rolled up our sleeves and executed against our game plan.

We didn't achieve everything we hoped and we have a great deal more work to do, but we made a first step, a leap forward more precisely, in transforming the profile of this company.

Our focus in 2007 will be on continuing to implement the key elements of the repositioning program to move us steadily forward toward achieving our 2008 financial goals.

Slide 11 summarizes our goals for the new year.

We will continue to invest in our core strategic growth programs, especially outsourcing and enterprise security, and leverage the foundation work we did in 2006 to aggressively pursue profitable growth in these high-growth areas.

We will continue to strengthen our account-centric sales focus by focusing resources around cross-selling our full portfolio of solutions to our top clients in key geographies around the world.

We will continue to deepen our capabilities to deliver powerful solutions in our high-growth markets by investing in and training our services delivery workforce.

We will continue to enhance our cost competitiveness by expanding resources in our offshore sourcing centers and other low cost delivery models globally.

And we will continue to streamline our operations and drive down costs in order to create a world-class cost structure that supports our targeted financial model.

As we continue the repositioning work, we will not be providing earnings guidance for 2007.

We're in the middle of a multi-year transformation and we are still retooling, retraining, restaffing, and investing in our growth programs, and we still have much work to do, particularly in the first half of 2007 in completing our headcount reductions and other cost reduction activities.

Financially, our sights are set on 2008 and we continue to drive toward our 2008 target of an operating profit margin of 8 to 10% excluding retirement expenses.

As we work toward that goal, we believe we can make further good progress toward this margin target in 2007.

Given all the changes we continue to make, our profit improvement won't go in a straight line, but we look for year-over-year improvements in our operating margins each quarter in 2007.

Our focus will be on getting the model right in terms of bottom line profitability so we will have to put in place and have put in place a conservative plan in terms of modest revenue growth over the next few years, and we will continue to be aggressive in cost management.

To summarize, we made a great deal of progress in 2006 in implementing the repositioning program.

Our employees deserve credit for their work during the year in implementing the first phase of this repositioning program, and I look forward to reporting on our continued progress in the year ahead.

Thank you for your time this morning.

Now here's our Chief Financial Officer, Janet Haugen, for more details on our results.

Thank you, Joe, and hello, everyone.

This morning I would like to provide more details on our fourth quarter and full-year 2006 financial results, including cash flow.

To begin, please turn to Slide 12 for an overview of our fourth quarter results.

At the top line we reported revenue of $1.55 billion for the fourth quarter of 2006.

This was down 1% from the year-ago quarter.

Currency had a 3-point positive impact on our revenue in the fourth quarter, and for the full-year of 2006, currency had a 1-point positive impact.

Based on current rates, we expect currency to have about a 3 to 4% positive impact on our first quarter 2007 revenue.

Operating expenses came down about $24 million in the quarter on a GAAP basis.

Our fourth quarter results include $43.7 million of pretax pension expense.

Including pension expense, we reported fourth quarter 2006 pretax income of $49.3 million.

This was up $22 million over a year-ago pretax income of $27.2 million, which included $44.3 million of pretax pension expense.

With regard to taxes, as we have said previously, our tax rate will vary significantly quarter-to-quarter depending upon the geographic distribution of our income.

In the quarter we recorded a tax provision of $28 million.

In the year-ago quarter, we recorded a tax provision of $58 million.

Including pension expense and taxes, we reported fourth quarter net income of $21.3 million, or $0.06 per share.

By comparison in the year-ago quarter, we had an overall net loss of $31.1 million, or $0.09 per share.

So our net income year-over-year increased by about $52 million.

Please note that in the back of this presentation, we have provided a supplemental slide showing details on pension expense for the quarter and for the year.

Turning now to revenue, please turn to Slide 13 for an overview of our fourth quarter revenue by geography.

Our U.S. revenue represented 42% of our revenue in the quarter and declined 5% in the fourth quarter, primarily driven by declines in North America public sector.

Revenue from international regions grew 2%, but was down 4% on constant currency basis.

International revenue accounted for 58% of our revenue in the fourth quarter.

Slide 14 shows our revenue by business segment.

Services revenue grew 2% in the quarter and represented 84% of our fourth quarter revenue.

Our technology revenue declined 15% and represented 16% of our revenue in the quarter.

For more detail on our services revenue, please turn to Slide 15.

Within services, we saw high single-digit revenue growth in outsourcing and infrastructure services in the quarter.

Our systems integration and consulting revenue declined mid single digits in the quarter, and we saw a continued secular decline in our core maintenance revenue.

Turning to Slide 16.

In our technology business, revenue from enterprise servers declined 17% in the quarter.

Within enterprise servers, revenue from ClearPath showed double-digit declines from a year ago as expected, yet [$7,000] revenue grew by a mid single percentage in the quarter.

Specialized technologies, which represents a small and decreasing part of our overall business, declined 6% in the quarter.

I'd now like to move to full-year 2006 revenue and how it breaks down by geography and by business segment.

Slide 17 shows our full-year 2006 revenue by geography.

Overall, our 2006 revenue was flat from 2005 revenue.

Our U.S. revenue declined 4% in 2006 and represented 44% of our revenue for the full-year.

The U.S. revenue decline in 2006 was primarily driven by a mid single-digit decline in our U.S. federal business.

The federal marketplace was challenging in 2006 due to delays in budgets and appropriation, and we also saw, as expected, lower revenue from TSA in 2006 due to the migration to the new bridge contract.

We continue to expect the U.S. federal marketplace to be challenging in 2007, although we look for our federal business to strengthen in the second half as some of our new contracts, such as the SBInet program, ramp up.

International revenue increased 4% in 2006 and accounted for 56% of our full-year revenue.

Slide 18 shows our full-year 2006 revenue by business segment.

Services revenue grew 3% in 2006 and represented 85% of our total revenue for the year.

Technology revenue declined 13% in 2006 and accounted for 15% of our revenue for the year.

Drilling down into our two business segments, Slide 19 shows our full-year 2006 services revenue by component.

Outsourcing revenue grew 10% for the year and accounted for 39% of our services revenue year and accounted for 39% of our services revenue in 2006.

Systems integration and consulting revenue declined 4% in 2006 and represented 33% of our services revenue.

Infrastructure services revenue grew 9% in 2006, representing 19% of our services revenue.

And finally, core maintenance declined 11% in 2006 and accounted for 9% of our services revenue in the year.

Moving to Slide 20, in our technology segment, enterprise server revenue declined 15% in 2006 and accounted for 80% of technology revenue.

Within enterprise servers sales of ES7000 servers declined single digits for the full-year, while ClearPath revenues showed double-digit declines for the full-year of 2006.

Specialized technology revenue declined 7% in 2006 overall.

Moving to expenses, we continue to drive down operating expenses through our ongoing repositioning action.

Slide 21 shows our operating expenses as a percentage of revenue for full-year 2005 and by quarter in 2006 on a GAAP basis.

Operating expenses include both SG&A expense and R&D expenses.

Slide 22 shows our operating expenses over this period, excluding restructuring charges and pension expense.

As you can see, on this non-GAAP basis, operating expenses declined from 22% of revenue in 2005 to 20.8% of revenue in 2006.

Our fourth quarter 2006 operating results include an accrual for employee bonuses, a modest bonus.

The Company has not paid bonuses for two years.

As Joe mentioned, our people worked very hard in 2006 and accomplished a great deal and it's important to reward their work with a bonus.

Moving on to our progress towards our goal for 2008, 8 to 10% operating profit margin without retirement expenses.

As Joe mentioned, we made good progress in 2006 towards our goal and we expect to continue to make good progress in 2007 again.

Reaching the 2008 goal requires our continued execution of our transformation plan.

This transformation plan includes a number of drivers, some which have a positive impact on reaching our goal, while others present a negative headwind.

I'd like to refer to Slide 23, a chart we have used to discuss the factors in our transformation program again today, and as shown on Slide 23, the restructuring action, increased use of global sourcing, continued attrition management, fixing problem projects, and modest revenue growth drive profitability improvement.

These are somewhat offset by the negative impact of declines in our high margin proprietary businesses, ClearPath and core maintenance, investment in our global sourcing infrastructure, investments in people through development and performance incentives, and the investments to launch our strategic growth initiatives.

We are managing all of these drivers to get to our goal, 8 to 10% operating margin excluding retirement expenses.

Now please turn to Slide 24 for an overview of our cash flow in the fourth quarter and for the full-year 2006.

We generated $167 million of cash from operations in the fourth quarter of 2006.

This compares to a $260 million cash flow from operations in the year-ago quarter.

We used about $88 million of cash in the quarter for a restructuring action, which was up significantly from about $9 million cash used for restructuring payments in the year-ago quarter.

Total capital expenditures in the fourth quarter were $58 million, down from $88 million in the year-ago period as we continued to place tight controls over capital expenditures.

The principal decline was in outsourcing capital expenditures, which obviously can vary depending upon new outsourcing projects and other property additions.

After deducting capital expenditures we generated $109 million of free cash in the fourth quarter of 2006 compared to $172 million in the fourth quarter of 2005.

Depreciation and amortization was $101 million in the fourth quarter of 2006.

For the full-year of 2006 we generated $29 million of cash flow from operations.

The full-year 2006 operational cash flow included two major changes relative to 2005.

In 2006 we used $195 million in cash for restructuring actions compared to $58 million of cash for restructuring in 2005.

Our 2006 operational cash flow reflected a $70 million reduction in the amount of receivables sold.

The Company ended the year with a cash balance of $719 million.

Looking ahead for the full-year 2007, we anticipate capital expenditures of around $300 million and depreciation and amortization in the 350 to $375 million range.

Also in 2007, we expect to use approximately $135 million of cash for restructuring actions.

Finally, please note that on December 31, 2006 Unisys adopted the Statement of Financial Accounting Standards No. 158.

In previous quarterly earnings calls throughout 2006, I have discussed the anticipated impact of adopting this pronouncement.

This statement is new accounting guidance related to pension and other post-retirement plans released by the FASB in September 2006.

Statement 158 requires an employer to recognize in its Statement of Financial Position, the funded status of a benefit plan, measured as the difference between the plan assets at fair value and the benefit obligation.

As expected, the adoption of Statement 158 reduces the Company's assets by $1.1 billion, increases its liabilities by $0.3 billion, and reduced stockholder's equity by $1.4 billion.

This non-cash charge to equity has no affect on the Company's net income, liquidity, cash flows, or financial ratio covenants in our credit agreements and public debt security.

Finally, I'd like to briefly update our expectations for retirement expense in the year ahead.

Please turn to slide 25.

This slide breaks out our retirement-related expenses in two categories: worldwide defined benefit pension expense and the U.S. 401(k) retirement expense.

As you can see, based on current estimates and assumptions, we project full-year 2007 pretax pension expense of approximately $42 million.

This is down significantly from pension expense of $136 million in 2006, which included a one-time $45 million curtailment gain.

In addition, due to the increased company match in the U.S. 401(k) savings plans as a result of the change in the overall retirement benefit program in the U.S., we project full-year 2007 U.S. 401(k) expense of about $59 million, up from $18 million in 2006.

So overall retirement-related expense in 2007 is expected to be about $101 million compared to $154 million in 2006.

In closing, I'd like to comment that we showed good execution in implementing the repositioning plan in the fourth quarter.

We will continue our focus on execution and on driving down operational cost in the new year.

Now I'd like to turn the call over to Jack for questions.

Thank you, Janet, and thank you, Joe.

Operator, we're now want to open it up for questions, please.

Thank you. [OPERATOR INSTRUCTIONS] Our first question will come from Julie Santoriello with Morgan Stanley.

Thank you.

Good morning.

Joe, I wanted to ask you a little bit about the outlook for 2007.

I understand you're not giving formal guidance, but when you say you expect modest revenue growth over the next few years, can you give us a feeling for the range of revenue that you think makes sense in the business?

Sure.

Good morning, Julie.

First, let me just give you a bit of a disclaimer here.

We thought long and hard with our board on this issue.

And we know for you and others, this is disappointing that we're not giving a guidance, but we still believe it was the right thing to do for our company.

Along the lines of your question, and still not giving guidance, is that we expect our growth areas, the obvious ones, outsourcing, infrastructure services and so on, in the year '07 to essentially be at but not above industry growth rates.

We expect our declining businesses to essentially continue to track industry averages in decline.

So if you're trying to look for a kind of a mix number, you would see it by tracking at but not above, and essentially declines at industry decline rates for us.

And so when you put the mix together, you'd come up with modest growth.

One of the reasons that we chose to do that is we thought it was very important that we put pressure on ourselves to continue this cost reduction effort.

Although we believe we've made great progress in taking costs out, we don't believe we're at benchmark levels yet.

We continue to benchmark across each of our major functional areas, and we believe we have work that remains to be done.

We did not want to create a plan that assumed we could grow our way out of non-benchmark cost infrastructure.

And so we deliberately did this to put pressure on ourselves.

Now that's not to say that a number of those areas can't grow above those industry-targeted growth areas.

If you looked in 2006, you would see outsourcing and infrastructure grew slightly above the industry growth rates.

But we didn't want to base our 2007 and 2008 turnaround on that, we wanted to base it being on tough on ourselves to getting to benchmark costs.

Thanks, Joe.

That's helpful.

Just a couple of follow-ups along those lines.

In terms of the consulting and integration business, it was an area where you grew pretty aggressively several years ago and brought on a lot of people and had some early success.

Seems as though it was, the revenue there has been declining over the last couple of quarters and the fourth quarter can sometimes be pretty good in that area.

How should we think about this business going forward in terms of strategy as well as growth?

Yes, it's kind of interesting.

I think it was about three or four quarters ago that you yourself had asked us a question about disruption: can you really drive revenue growth and go through a change of this magnitude without affecting revenue, and you were dead on.

And so let me give you the context for systems integration because it was the business most disrupted by our change agenda.

First, when we talk about the HPC, or the high performance center, meaning pooling delivery resources on a global basis, it most affected them.

About 80% of the resources in the HPC are systems integration and consulting.

So they were most disrupted from a delivery standpoint.

If you remember, one of our other areas was this issue of portfolio rationalization.

When we focused on the big five growth areas, frankly, the systems integration group was the most fragmented, meaning they were in more areas across our industries and had a wider range of disparate portfolio items, and we forced some tough decisions on them around portfolio rationalization.

They chose to make these themselves, but, so portfolio rationalization was the second after the high performance center.

The third was customer rationalization.

They followed the portfolio to the customers that were the right customers for those, so we affected that.

And finally, restructuring as a percentage of the population was the highest in the systems integration group.

Now if you map about where we took people out of our business, about 65% of the people we took out were client facing.

You've heard us say for some time that we had trapped resources in continental Europe and because of the high cost and longer payback periods of taking them out, we have deferred taking them out for years.

So when 65% of the people that you affect -- I'm sorry, 65% of the people affected by restructuring are client facing, and they had the largest portion of their total population, as you might imagine, they had the biggest impact.

Now that said, I think, and you'll probably see it happen more, start to happen in the first, second quarter, but more in the second half of 2007, they will have one of the higher paybacks over time, not first half, second half, as a result of some of these tougher decisions.

So they paid one of the higher penalties in terms of short-term revenue decline, and they will have one of the bigger paybacks longer term as a result of making some tough decisions around the people.

Thanks.

And just on the restructuring areas there, especially when it comes to the go-to-market strategy and the sales force today, I know you've gone through a lot of change over the course of '06, where would you say the sales force is now in terms of go-to-market readiness?

Are they entering 2007 at full productivity?

And if not, when?

Yes, that's a great question, too.

As we seek, we're in the middle of probably the most aggressive and comprehensive set of kickoffs we've run around the world.

We've designed this whole program around the big five pillars and what we're calling, kind of educational maps around our industry, those portfolio elements in our clients.

So as opposed to what I will call rah-rah kickoffs, these are between three and four dedicated days of deep, educational investments in our sales force.

Frankly, we have not made investments of this magnitude, probably for three or four years, maybe longer.

Actually, the sales forces are very encouraged as a result of this.

They hadn't met with each other.

This is part educational and it's part motivational.

And so we've already kicked off Latin America, North America and we, after this call end up going to continental Europe, U.K. and Asia Pacific.

So big investment in training, big investment in skills development in our sales organization.

There's been quite an aggressive turnover as we've kept you appraised in the past, first in leadership and then in the sales talent itself.

Big turnover in our most focused accounts, we call them blueprint the top 50 around the world.

Both an investment in reskilling and upgrading those jobs, as well as training them.

Now I'd mislead you if I told you we believe they're all at 100% productivity coming out of the gate, but it's a major reskilling.

It's a major investment in training, and I believe we're in the best position from a business development sales perspective, again, four to five years.

So payback in the first quarter, maybe not.

A big payback as a result of the investment in the second half absolutely.

Thanks, Joe.

Thanks.

Next we'll hear from Jason Kupferberg with UBS.

Hey, guys.

A nice way to end the year here on a good note.

And I wanted to ask you a little bit about the margins for '07 and understand the logic for not giving precise guidance here.

Maybe just, it would help if you can give us a sense of relative improvement that you think will be forthcoming in the second half of the year relative to the first half.

I mean that would be your normal seasonal pattern, anyway, just based on how the hardware business trends.

But any color around that would be helpful, just so we can get a sense of what kind of pace of sequential improvement might be achieved over the course of the year.

Okay.

Thanks, Jason, and good morning.

The most important part is the statement you already made.

One of the things we thought was important for people to recognize, and you know it very well and people that follow us closely know it very well, we're very seasonal in nature.

And do as you design and tune your models, recognize that seasonality will occur and you'll see the impact of these savings through what I will call -- I wish we could change it and make it completely linear over the four quarters, but you're not going to see that.

And despite technology being a smaller part of our business than it was, you will still see the planning cycle and the execution in that same level of seasonality.

But as we said earlier, we expected to see improvement quarter-over-quarter, meaning year-over-year, every quarter through the year, but frankly, you should expect the biggest payoff in the second half versus the first half.

Now we won't, as you know, we're struggling to give you precise guidance in terms of what's going to happen in the services or technology, but you're going to see the same patterns of seasonalization, biggest path, second half of the year similar to this year, but not a mirror of this year.

Okay.

That's helpful.

Obviously, orders, services orders can be lumpy on a quarterly basis, but as you look at your pipeline now and you've obviously reinvigorated the sales force, what's the right way to think about your outlook in general terms for the services order growth in 2007?

The first thing, we made a conscious decision not to give guidance on services order growth, although we did do it in '06.

We have the strongest opportunity pipeline that we've had, maybe since I've been here.

The largest portion of which, as you might imagine, is in our outsourcing business.

Second largest of which is based on big investments we made in our federal business in 2000 and, second half of 2005 and throughout 2006 in rebuilding that backlog.

If you tracked our federal order growth, it was weak in the second half of '05 and weak in the first half of '06 and didn't rebound because of these investments we made until the third and the fourth quarter of '06, but right now we have the strongest opportunity backlog, again, largely driven by those two elements of our business that we've had in my memory.

We consciously, however, have made a choice not to give guidance on forward-looking order growth.

Although we're very, very comfortable with the work that we're doing.

Last question.

Just a little bit more of a drill down on the pipeline side.

Obviously you guys have done a good job fixing the past underperforming BPO contracts.

We've seen some media reports out of the U.K. that there were a couple of real large BPO pursuits that you guys might be going after in that country.

Can you make any comments on that as far as what the status of them in the pipeline, if you are in fact pursuing them, and what might be the time line for a decision by the client on those pursuits?

And how you might be going after them, perhaps differently, or structuring them differently than you did the prior deals in terms of [inaudible]?

That's actually the question I'd prefer to answer.

Unfortunately, some of our leaders got out ahead of theirselves in the comments you saw in that article, but your question is very important and let me address it in two ways.

We made a conscious decision, because of iPSL and other BPOs and their financial drag on our business to be extremely cautious and conservative in that market.

And we chose to no bid or not chase obvious businesses in many cases because we didn't believe that we had the complete process infrastructure required for absolute success.

It has taken us some time to redesign, rebuild that infrastructure.

Everything from judging the profitability of the deal, the technical risk in doing it, the legal risk in doing it and so on.

So we've gone through a major rebuild of our systems, processes, and what I will call internal audit from the early days of pursuit, and this is the first time we're going to begin aggressively pursuing BPO again.

So that's what you saw a reflection of.

In this case, since it unfortunately got out, it was in the area of [mortgage].

That was an area we had not been aggressive in and we are beginning to become much more aggressive in.

But that's in almost all of our BPOs and so you'll start to see us chase those areas where we believe we have real domain expertise again.

Now the other thing we're doing as a lesson learned there is, we didn't have what I will call a common platform.

We were working to, but we did not succeed in getting to one common operating platform.

And by that I mean essentially kind of one data center, one application process, one business process and so on.

If you look at the leaders in this field and I'll get outside of BPO into the ADPs and the First Datas and all the people that do a great job at this, it's about common platform.

And it's about scale.

And that's one of the areas, not just we, but many of our competitors failed in this first round, is not getting people to common platforms and we will fix this in round two.

Okay.

Thanks for the comments.

Great.

Thanks, Jason.

We'll now hear from Julio Quinteros with Goldman Sachs.

Hey, guys.

Good morning.

Wanted to follow-up real quickly on the technology side.

Indy tech in the current quarter, what was the technology order growth?

Janet's looking it up.

No, wait.

The technology orders generally follow the same pattern of the revenue, and the revenue is the better indicator, that's why you generally don't hear us speak about technology orders, but they were down in the quarter consistent with the pattern we see on the revenue.

Let me step up to some of the questions that you and others have kind of raised about our technology business.

When we look at the fourth quarter, there's strong sequential growth quarter-over-quarter.

So if you look at second half over first, the fourth quarter over third, we think that's a very, very positive sign.

But also recognize we have a tough compare versus the fourth quarter of 2005, where we had two very large, very large ClearPath transactions.

And just to sort of break that open, then, the sequential improvements, if we were to look at ClearPath versus the ES7000, what was the majority of the improvement driven by?

Well, it depends on which area of the business you're looking at, whether it's revenue growth or profit growth.

The profit growth clearly came from ClearPath.

And the reason we're more confident around that business is, if you remember at the end of July we introduced our next generation architecture.

Back in those days, it was still the early days of our NEC alliance, and we were unsure on how our customers would react to it, and they've reacted very, very positively.

We thought that it might be a mixed reaction, it was uniformly positive.

The common platform's on track for us.

Its targeted first introduction, first member of the family will be in the fourth quarter of '07.

In the meantime, we've also introduced two ClearPath models that helped that sequential comparison, and we've begun the implementation of our ClearPath modernization and retention program.

But let me come back to the ES7000, which is the second part of your question.

We did see that rebound in the fourth quarter specifically, made good progress there and that business began to grow again.

We believe we can really build on that momentum in '07.

We've rebuilt the family, you all track the rest of the industry as well, so we've rebuilt it with Intel's new dual and quad core technology, which is a big deal, a big refresh for the 7000, enhanced our alliance programs around Intel, Microsoft, and Oracle and built solutions family.

One last thing that you'll see impact that business in '07, we built dedicated sales forces for the ES7000 in every major geography, and they're part of the group that I talked about being trained in these kickoffs.

And so you'll see some of added momentum in Q1, but you'll see some real momentum on the ES7000 through the balance of the year.

And so in both families, we see improvement, they have different profiles, as you know.

ES7000 is a real growth business, the enterprise server business is in secular decline, not just for us, but for all major suppliers, you yourself have commented on that.

And so different models, different patterns, but we feel good about the progress we made in Q4 and our ability to build on the momentum going forward.

Okay.

Thank you.

And then just on the public services side, can you remind us what percentage of revenue comes from the public services side?

You mean public sector?

Yes, sorry, public sector.

From an overall perspective.

Okay.

It's about, roughly about 40% of our overall business comes from the public sector, and that includes both the federal business and the global public sector business around the world.

But Julio, let me just give you some color on that, too.

I shared some of the color on federal, which didn't have strong order quarter second half of '05, first half of '06, really started to pick up.

You've witnessed the Department of Homeland Security, SBInet, Eagle wins, FBI CODIS wins, a number of GSA wins this past quarter, the DOJ win we talked about on the call earlier.

So, you know, there's always this lag affect between orders and revenue growth.

And so frankly, we paid some penalty in federal based on the lack of order growth and you'll start to see that uptake in first quarter and beyond in '07.

In North America public sector, the dynamics, meaning state and local government, are slightly different.

That decline was mostly in our systems integration and consulting business, and there was both a tactical and a strategic end to this issue.

Tactical, two large deals slipped out of the quarter in state government.

We expect to capture those hopefully Q1.

I think at least one of them Q1 and probably the other, maybe Q2, although ideally both Q1.

But on a strategic basis, state government was a bit of a problem for us.

And that is, if you look back a bit, state governments had big budget deficits, long procurement cycles.

That was one of the areas that we had this trapped overcapacity and delivery resources and we were forced to go through a tough right-sizing.

So if you remember the macro picture I gave a few minutes ago around systems integration, this is kind of a micro of that macro.

Now state budgets are improving and they're not suffering from the same deficits they were.

We're rebuilding that group.

We've got very strong capabilities in at least three major areas.

One is tax and revenue.

We're in the process of building 3D blueprints for motor vehicles around something that's called Real ID, that's a government-mandated thing about identity, and we're rebuilding our practices in helping human services around modernization and justice and public safety around first responders.

So there was kind of this lag affect around budget deficits.

We were left with an overcapacity based on long selling cycles.

We had to make some tough decision there.

We're in the middle of a rebuild.

You saw the penalty for that in the decline in North America in the fourth quarter.

Okay.

Can I just clarify one comment?

When you were talking about public sector, they generally run in the 34 to 40% range, that's what I was talking about from an overall year.

If you're looking within the current quarter, as we mentioned, North America public sector was declined, not that strong for us in the quarter.

And so this quarter it is at the lower end of that range.

Okay.

Got it.

Thanks.

I'll just follow-up with you guys offline.

Thank you.

Great.

Thanks.

Next we'll hear from James Friedman with Susquehanna.

Thanks, it's Jamie Friedman.

Janet, I had a couple of cash flow questions.

The Q4 had a good cash flow number, $167 million.

I was wondering if there was any factoring and what the affect might have been on cash flow for the quarter?

Sure.

Jamie, we know who you are when you came through.

In the factoring areas, we mentioned our factoring was down $70 million in the current quarter and we do have an increase, a slight increase sequentially, in the amount of factoring as a result of having the stronger fourth quarter in the revenue and the receivables up in the quarter.

The securitized receivables from quarter-to-quarter, between the third and the fourth quarter are up roughly about $55 million sequentially from the third quarter to the fourth quarter.

So that $70 million, that was a sequential amount?

That $70 million is the delta from the -- in the full-year numbers is what I was referring to.

So if you're looking at the end of 2005, we had about $239 million in securitized receivables.

Right now that number is about $169 million in the quarter so that's the $70 decline.

So if you're looking at the full-year cash flow statement, which is where my comments were, you see a $70 million decrease in that securitization.

With the stronger revenue in the fourth quarter, there was securitization increases from the third to the fourth quarter, from about $115 in the third quarter to about $169 in the fourth.

Got it.

Thank you.

And then with regard to that Cap Ex number, the $300 million in Cap Ex for 2007, if I got that right?

Yes.

Does that include the employee training, or is that --

No, the Cap Ex number that I gave, which is around $300 million, includes the three areas that we spend capital on.

The largest area and the area where would see some growth between '06 and '07 is in assets invested in the outsourcing business, reflecting the reason for that increase would reflect some of the wins that we have had, the momentum coming from the second half of '06 into '07.

The next area is marketable investments and marketable software.

That is primarily investments in our proprietary operating system.

That we would expect to decline year-over-year.

And the last is investments in internal capital expenditures, PCs, technology, facility-type investments.

And so the aggregate of all those numbers is we already gave the approximate $300 million range with most of that increase coming in the outsourcing area.

Operator, we have time for one more question.

Thank you.

And that question will come from Ashwin Shirvaikar with Citigroup.

Thanks for taking my question.

Just a little follow-up on bookings growth and when do you think bookings growth will start translating to services revenue growth?

And primarily because you had four out of five strong double-digit quarters of growth.

I'd expect at least the early part of those bookings to start translating, but it isn't.

Right, Julio -- I'm sorry, right Ashwin.

We are, when we have the orders growth, since a fair amount of that is coming in outsourcing, which is in multi-year wins, it doesn't automatically translate into a revenue growth in the next quarter.

We did have the weak '05 from an overall services growth pattern, and so that came through.

You see that negative impact in '06.

We are really happy with the wins, as you mentioned the strong double-digit wins in the services business, and we expect that we're building a pipeline and that will come in gradually.

And as Joe mentioned earlier, our expectations for modest revenue growth is building off of the fact that we want to make sure that we are not growing our way out of the business.

No, Janet, just to interrupt you a bit, though, starting December '05, you started reporting strong double-digit growth in bookings and you only had one quarter in '06 where you did not have that.

That's correct.

So at least the early part of those bookings, I'd start expecting to see in revenues, and yet you have flat services revenue growth and that's with 3% benefit of currency.

Right.

Ashwin, the answer to that is, and I promised myself I wasn't going to give guidance when this is starting to happen, but I don't think you're going to see it in the first quarter.

I think, if based on the ramps where this started to come in, you'll start to see it around Q2, Q3.

But also recognize that we have deliberately created a model that drove for what I will call modest revenue growth.

And so our focus is on getting our costs in line and driving our operating and profit margins up.

But to answer your question, you'll see it expand over the course of the year.

Okay.

Just a follow-up on the flip side of that and Janet, you did talk about this a little bit.

What I'm trying to get to is free cash flow.

Obviously the Cap Ex associated with some of the new signings will increase, but would you expect to generate free cash flow in 2007?

We haven't given any guidance with regard to any of the '06 numbers, including the free cash flow number.

We are clearly, as a management team, working to improve that [line].

We understand the importance of being able to be measured on that basis, and we will continue to make progress along that line.

That clearly is a goal for us as a team, but we have not given guidance with regard to the 2007 free cash flow.

Okay.

And last subpiece, if you don't mind.

Attrition levels, if you could comment on voluntary attrition?

The voluntary attrition in the services business is running under the industry average, up a little bit year-over-year, but still way below the overall industry average.

It runs in the services business in the low double digits.

The industry average is more in the 15 to 18% range, so we're running under the industry average.

Okay.

Great.

Thank you.

Great.

Thank you.

Listen, I want to thank all of you.

And as you might imagine, a year of this level of transformation was a challenging year for all of us and it was really the job of the whole leadership team rolling up their sleeves and making all of these details happen.

So thank you for continuing to support us through this transformation.

That does conclude today's conference.

Thank you for your participation.