2HRS2GO: Analysts mixed on significance of EDS warning

3 min read

Electronic Data Systems absorbed another downgrade Tuesday, pushing its shares down 1 1/4 to a 52-week low of 41 3/8.

Most analysts had already weighed in by either downgrading the stock or cutting estimates in the wake of last week's tepid sales outlook.

On Tuesday, PaineWebber's Andrew Burns became the latest analyst to pile on, cutting EDS (NYSE: EDS) from a "buy" recommendation to "neutral."

Last week, EDS warned investors that it's expecting second-quarter sales to be "softer than expected."

However, it said it would still meet the First Call Corp. consensus profit estimate of 53 cents a share in the quarter. It merely said sales growth will be in the low-single digits, rather than the mid-single digits it had previously forecast.

But that was all Wall Street needed to hear.

A flock of analysts cut the stock and lowered estimates while investors unloaded the stock as if the company was preparing for Chapter 11.

In a little less than four trading days, EDS shares have plunged more than 35 percent, falling from a close of just above $63 a share Wednesday.

Folks, this company does sales in excess of $4 billion a quarter. It came clean and said sales growth would only be in the low-single digits. It's not good news, but there's no way this stock should lose a third of its value on this news.

It's also important to note that most analysts downgraded the stock from "strong buy" ratings to "buy." But apparently such a token slap on the wrist is enough to elicit a case of panic selling from skittish investors.

Morgan Stanley analyst David Togut cut the EDS to an "outperform" rating from a "strong buy," predicting non-GM sales growth of 1 percent versus the 7 percent he previously forecast.

"Our downgrade reflects our view that EDS' transition to a growth-oriented investment will be deferred by six months," Togut wrote in a research note.

Part of the driving force behind slower profit growth is the company's efforts in expanding its sales force, according to the notes. Despite EDS' ability to book more contracts, the company has been "less aggressive cross-selling its services into its existing customer base" which has led to declining revenues, Togut wrote.

Ironically, PaineWebber's Burns originally maintained his "buy" rating on the stock and kept his fiscal 2000 and 2001 earnings estimates unchanged. But given a few days to mull it over, Burns decided to downgrade the stock Tuesday.

Whether Burns has learned more about the particulars of EDS' situation is uncertain because he wasn't immediately available to comment on his downgrade.

Maybe Burns was influenced by Merrill Lynch's Stephen McClellan who offered up this stunning research report late last week:

"In a stunning action late yesterday, management revised its base revenue forecast materially lower," McClellan wrote in a research report. "This is a major disappointment and apparently followed a close review of May results and a reassessment of the 2000 outlook by the company. Revenue recovery seems uncertain now, and this is key to the ongoing turnaround story."

McClellan also cut EDS to "near-term accumulate" from "near-term buy." Goldman Sachs analyst Gregory Gould sliced the stock from his firm's "recommended list" to a "market outperform" rating.

But some analysts aren't turning their backs on EDS.

A.G. Edwards analyst Mark Jordan said he's counting on a second half rebound from EDS and upgraded the stock from an "accumulate" rating to a "buy." Whether he's right about the second-half rally remains to be seen, but his clients are going to be gobbling up EDS shares at quite a discount.

SG Cowen's Moshe Katri also reiterated his "buy" recommendation while most of his contemporaries were slashing the stock.

"Most people were just cutting the stock from a strong buy to a buy," Katri said. "I kept it at a buy because the long-term fundamentals of the company remain intact."

In its latest quarter, EDS met Street estimates, returning a profit of 47 cents a share on sales of $4.5 billion.