Editor's note: An earlier verison of this story stated that SAIC was in the midst of a three-quarters-long slide in profits. In fact, SAIC has already halted its profits slide. We regret the error.
Shares of government contractor SAIC (NYSE:SAI) rebounded Tuesday, in response to news that management would reaffirm guidance at its investor conference later in the day (which it did). Most of the mainstream media focused on the guidance angle of the story, attributing the shares' 4.6% rise in price to management's renewed promise to deliver:
- $8.7 billion to $9 billion in sales this fiscal year
- $0.83 to $0.88 per share in profits
- And $450 million or more in operating cash flow
Here at the Fool, we agree that no news is good news at SAIC. Still, management has been repeating these same numbers for months, over and over. More interesting than the company keeping its word, I think, is what SAIC had to tell us at the conference itself. The details revealed there went far beyond the sales/earnings/cash flow story that you've already read about in Reuters and the AP.
The rest of the story
For example, we've read a lot about consolidation among government contractors lately. Textron's (NYSE:TXT) decision to buy out United Industrial, for instance. Or BAE Systems swallowing Armor Holdings whole. Or the persistent rumors that General Dynamics (NYSE:GD) will eventually decide to buy out Force Protection (NASDAQ:FRPT). It seems that much of the industry is intent on "buying growth," and while that tactic's often successful (see L-3 Communications' (NYSE:LLL) stock chart), it carries the ever-present risk of overpaying for inorganic growth.
In that regard, investors should be especially interested in SAIC's own plans for future growth. The company intends to accelerate organic growth, improving its revenue by 6% to 9% this year.
The rest of the rest of the story
Looking even further down the road, SAIC outlined its strategies for the next three to five years' worth of growth, with the firm once again looking inward. SAIC aims to maintain a consistent level of organic sales growth in the 6%-9% per annum range, supplementing that with about 2%-4% inorganic growth as its rolls up "midsized strategic acquisitions" and makes opportunistic purchases of larger enterprises.
I must say that I like the proportions here. SAIC's plans to build most of its growth internally will limit the risks inherent in buyouts. That includes both the actual risk of overpaying, and the risk that shares of a company perceived to be overpaying will get battered when it announces an acquisition.
Like its plans for the current fiscal year, however, sales growth is only half the equation in profit growth. To truly turbocharge a sales-growth story, a company must improve the profits it squeezes from new revenue streams. That won't be easy, because SAIC also warned that "fierce" competition among industry rivals such as Lockheed Martin (NYSE:LMT) and Computer Sciences (NYSE:CSC) is putting the squeeze on margins for all players.
"But assume SAIC succeeds in its intention to improve operating margins by as much as 100 basis points," the company stated. "If sales rise between 8% and 13% per year, adding a full percent of operating profit margin could generate annual profits growth in the low-to-mid-20s over the next half decade."
The between-the-lines story
Of course, SAIC itself is promising only "15% on average" growth in earnings per share -- several notches below my estimate. Which tells me that we need to monitor at least two more variables going forward:
- Stock dilution. The difference between 25%-ish net profit growth and 15% per-share growth could lie in additional shares issued, whether in the form of stock options gifted to workers, or paid-in-stock purchases of inorganic growth.
- Margins. If I read SAIC's report correctly, it seems to be promising that the 100-basis point improvement in operating margins will come over the course of a three-to-five year growth period. The longer it takes to improve operating margins from the current 7% level to the hoped-for 8%, the more slowly profits will grow.
My advice: In future quarters, watch these two statistics like a hawk.
