Strategic STEM Focus And Smart Investments Propel Long-Term Revenue And Earnings Growth

Key Takeaways

• Focused investment in STEM education and centralizing business development indicates a long-term strategy for sustained innovation and improved margin trajectory.
  
• Emphasis on high-growth areas and increasing share repurchases reflect strategic alignment with financial goals and confidence in future earnings growth.
  
• Execution risks, contract dependencies, and political uncertainties pose challenges to the company's revenue growth and profit margins.

Catalysts

Provides technical, engineering, and enterprise information technology (IT) services primarily in the United States.

• Focused investment in STEM education and workforce development to ensure a future workforce capable of filling critical skills needs, likely impacting long-term revenue growth through sustained innovation and competitiveness.
  
• Execution of an enterprise growth strategy including centralizing business development and implementing an enterprise operating model, which is expected to optimize investment planning and align pipeline with growth vectors, potentially improving margin trajectory through better shot selection and higher value program bids.
  
• Increased total value of submissions aligned with growth aspirations, demonstrating an improved ability to exceed submission targets, which could translate into higher future revenue and earnings from new business wins and on-contract growth.
  
• Strategic focus on high-growth areas such as civilian market and enterprise and mission IT, aligning pipeline with strategic and financial objectives to shift towards more margin accretive projects, aiming for higher net margins through a shift in contract types and improved margins on new business.
  
• Strong emphasis on shareholder return through increased pace of share repurchases, reflecting confidence in generating free cash flow growth in excess of current market valuations, which suggests an expectation of enhanced earnings per share over time.

Assumptions

• Analysts are assuming Science Applications International's revenue will grow by 3.2% annually over the next 3 years.
• Analysts assume that profit margins will increase from 4.0% today to 5.0% in 3 years time.
• Analysts expect earnings to reach $401.5 million (and earnings per share of $8.71) by about September 2027, up from $290.0 million today.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 17.2x on those 2027 earnings, down from 23.5x today. This future PE is lower than the current PE for the US Professional Services industry at 28.3x.
• Analysts expect the number of shares outstanding to decline by 6.45% per year for the next 3 years.
• To value all of this in today's dollars, we will use a discount rate of 6.75%, as per the Simply Wall St company report.

Risks

• The company faces execution risks with an increasing focus on fixed-price contracts, potentially impacting its net margins due to the challenges associated with estimating and controlling costs on these types of contracts.
  
• Reliance on significant contract wins and the expectation of increasing book-to-bill ratio to 1.2x, if not met, could adversely affect future revenue growth and earnings projections.
  
• The mention of a 5-point headwind from contract transitions suggests potential volatility in revenue and earnings, highlighting risks related to contract renewals and transitions.
  
• The execution of the enterprise growth strategy, while ambitious, carries the risk of not achieving the intended improvement in business development performance and financial outcomes, possibly impacting revenue and profit margins.
  
• Political and budgetary uncertainties, especially related to defense and civilian agency spending, could affect the company's revenue streams and growth trajectory, depending on the outcome of federal budget deliberations and elections.

Valuation

• The analysts have a consensus price target of $142.25 for Science Applications International based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $160.0, and the most bearish reporting a price target of just $118.0.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2027, revenues will be $8.0 billion, earnings will come to $401.5 million, and it would be trading on a PE ratio of 17.2x, assuming you use a discount rate of 6.8%.
• Given the current share price of $137.75, the analyst's price target of $142.25 is 3.2% higher. The relatively low difference between the current share price and the analyst consensus price target indicates that they believe on average, the company is fairly priced.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.