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EDS Flags Problematic Contract

Computer services company EDS has flagged another potentially troublesome contract that could hit its earnings results, according to a regulatory filing.

In its annual report, the Plano, Texas outsourcing company said it is currently in development and construction phase on a commercial contract in which it has invested assets of $430 million, "including receivables, prepaid expenses, equipment and software. This contract has experienced delays in its development and construction phases, and certain milestones in the contract have been missed."

EDS said while it believes the company can deliver the required systems and services of its investment in the contract and recover costs over time, "significant further delays in development and construction could result in an impairment of a large portion of the associated assets."

The company did not name the client.

The number two IT services company has already been hit with more than its share of up-front costs, such as on its $6 billion long-term services pact helping to upgrade 300,000 seats for Navy networks. The deal, which had been delayed for review by defense department officials, recently got the go-ahead in order for EDS to "cut over" seats and take in more revenues from the contract.

Up front costs are often part of the job of outsourcing, which might include constructing new computer systems and communications networks, whose costs are then recovered over the life of the respective contracts, EDS explained.

The annual report also updated EDS's 11-year, $6.4 billion services agreement with WorldCom that it signed back in October 1999. As of the end of 2002, total receivables outstanding from the agreements, net of reserves, were about $80 million, the company said. Although EDS said WorldCom may reject its IT services contracts in bankruptcy, it does expect to reach agreement with the telco backbone on a revised outsourcing deal.

Analysts have been keeping an extra-keen eye on EDS's cash flow and earnings outlook since September after it had to back off its earnings expectations, a change related to performance on some contracts and difficulties with clients in bankruptcy.

At a recent day-long meeting with analysts, the company's new CFO, Bob Swan, noted "more risks than opportunities" in meeting its earnings expectations it made for 2003. But he didn't change the company's outlook for the year: earnings per share of between $1.80 and $2 a share and cash earnings of between $700 million and $900 million.

EDS expects its first quarter revenue to be between 3 percent to 6 percent lower than the same, year-ago quarter. The cautious outlook is due to sluggish expectations for IT spending among major companies, uncertainties in the business climate over a possible war with Iraq, and the impact of the bankruptcies of some major clients, such as WorldCom and US Airways.