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Unisys squeezes profits from revenue decline in Q3

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Server and services vendor Unisys has turned in a relatively decent quarter in Q3, thanks to a mainframe upgrade cycle coming at a particularly weak time for the server racket and the ongoing cost cutting manoeuvers from chairman and chief executive officer, Ed Coleman, who was hired last year to turn the company around.

In the quarter ended September 30, Unisys brought in $1.16bn in sales, down 11.6 per cent. This is a somewhat lower decline than the 15.8 per cent drop in the second quarter to $1.13bn and marks the second quarter in a row that Unisys was profitable despite the economic downturn.

The services business at Unisys accounted for just over $1bn in sales in the third quarter, falling 12.7 per cent year-on-year, but thanks to new ClearPath mainframes that were announced at the end of May, technology sales (meaning servers, storage, and related iron) fell by only 4.2 per cent. That relatively small drop in hardware sales is bucking the trend out there in the IT industry at large.

The good news for Unisys in Q3 is that it was able to close deals on some fairly large mainframe deals in the quarter and research and development costs fell, because work on the new ClearPath mainframes was done, both of which dramatically boosted profits. In fact, this was one of the most profitable quarters for server sales at Unisys in a long, long time.

So, coupling the mainframe upgrade cycle with $250m in cost cutting initiatives that Coleman initiated last December (of which $205m has been accomplished), work to boost gross margins by $250m (with the company increasing margins by $190m on an annualized basis thus far), Unisys was able to bring $61.1m to the bottom line in Q3. This compares to a net loss of $34.7m a year ago, when Coleman was getting ready to take the reins at Unisys.

In a conference call with Wall Street analysts, Janet Haugen, chief financial officer at Unisys, said that sales of enterprise services - the dominant category of the technology biz at the company - was actually up slightly at constant currency.

When the money was all brought back to Blue Bell, Pennsylvania and reckoned in US dollars, enterprise server sales fell by 2 per cent to $139m. But operating margins for enterprise servers nearly doubled to 21.2 per cent, and most of that extra dough dropped to the bottom line. Like it is supposed to. Specialized technology services, the other component of the Unisys tech business, fell by 22 per cent to $15m.

On the services front, Coleman said that services orders grew both compared to the third quarter of last year and sequentially from the second quarter, with Unisys now sitting on a $6.4bn services backlog. Outsource revenues in the third quarter of 2009 came in at $465m, down 10 per cent, while systems integration and consulting sales were $327m, down by nine per cent. Infrastructure services sales were down 27 per cent, to $134m, and maintenance services on Unisys products took a puzzling fall of 14 per cent, to $80m. Operating margins in the aggregate services businesses increased by 4.6 points, to 7.7 per cent.

Coleman lamented on the call that because of the substantial number of government contracts it has in the States, it was behind the competition in the services arena for using "lower cost labor," meaning offshoring. But Coleman said he had just visited Unisys application modernization and services centers in India, China, and Hungary and characterized them as "first class operations." Presumably Unisys will not be trying to talk local, state, and Federal government contractors into using these service centers? Coleman did not elaborate.

In the quarter, sales for Unisys in the United States amounted to $542m, down 3 per cent. Sales in Europe and Africa fell by 21 per cent to $355m, but were only off 12 per cent at constant currency. So blame the strengthening dollar for nearly half that decline. Sales in Latin America fell by 11 per cent, to $135m, but were only off 2 per cent in local currencies. In the Asia/Pacific region, sales were $128m, down 17 per cent as reported and 13 per cent at constant currency. Business is really off here. So much so, in fact, that Unisys has exited Thailand entirely as part of its cost cutting manoeuvers.

As previously reported, Unisys did a 10-to-1 reverse stock split in early October to try to gussy up its shares. And to help calm the nervousness of shareholders and customers alike, Unisys also did a complex dance to rejigger its debts. During the quarter, Unisys issued 5.5 million of the new common stock shares and used $55m in cash as part of its debt exchange.

Unisys had $300m in debt due in March 2010, which is now reduced to $65m, and $400m in debt due in 2012, now reduced to $68m. This had been making people jumpy. After the debt exchange, Unisys has $931m in long term debt, down from $1.06bn before the exchange dance began, and it will be using cash flow from operations and the sale of unspecified assets to pay off that $65m that comes due in March next year. Unisys ended the quarter with $473.6m in cash and equivalents as September ended.

Coleman said that suspense over the debt exchange Unisys was doing through the summer was holding up some services contracts, and that the debt being rejiggered has helped the company's services pipeline. Unisys now doesn't have any appreciable debt to worry about until 2014, when $385m will come due. (There is another $262m due in 2015 and $151m due in 2016.) Services customers are not keen on signing a five-year services contract with a company that has too much debt or can't roll it over.

As for the economic situation and any kinds of forecasts for the fourth quarter or 2010, Unisys is not saying anything substantial. "I am beginning to see some rays of sunshine," Coleman said, "but this is not a straight path to glory." ®

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