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Rating Action:

Moody's downgrades Leidos senior unsecured to Baa3; Outlook Negative

Global Credit Research - 02 Jul 2014

Approximately $1.3 billion of rated debt affected

New York, July 02, 2014 -- Moody's Investors Service downgraded the senior unsecured ratings of Leidos Holdings, Inc. (Leidos) to Baa3 from Baa2, given the weaker than previously anticipated credit metrics over the near term. The rating outlook is negative. This action concludes the review for downgrade that commenced on March 28, 2014.

Ratings:

Senior unsecured, to Baa3 from Baa2, concludes review for downgrade

Rating Outlook, Negative

RATINGS RATIONALE

The rating downgrade reflects the below expectations financial performance of Leidos within the backdrop of a weak and still uncertain environment for defense services contracting, likely to produce weaker credit metrics over the next few years than had previously been envisioned. Moody's anticipates that revenue could decline to about $5 billion during the 2015 fiscal year (ending March 31), which would be down about 20% since the 2013 fiscal year.

Leidos has a well-established reputation as an important prime services contractor to the US intelligence market. Its large number of sizable, single-award contract vehicles reflects the company's highly regarded and credentialed direct labor pool, one likely to remain in demand across the intelligence community where capabilities that enhance mission success remain important to purchase decisions. Leidos' Health/ Engineering segment adds exposure to commercial and federal civil end markets and helps partially offset concentration to a defense/intelligence contracting arena where budgets are down and the pace of new awards remains sluggish.

With the good cash flow potential of the services contracting business, debt to EBITDA could be in the low 3x range by end of fiscal year 2015 which would be in line with other companies also rated at the Baa level. With dividends and share purchases, however, and unusual items, financial leverage has been elevated given the risk profile of the business. The company's operational restructuring activity that accompanied the late 2013 spin-off of SAIC Gemini has largely concluded and operating profit margin for the first quarter of fiscal year 2015 began to improve to about 6.7%, even in the face of a 17% drop in year-over-year revenue. Conclusion of the company's CEO recruitment process removes an uncertainty and could facilitate better operational execution.

The rating outlook is negative because revenues have been contracting and may continue doing so through 2016 which pressures the earnings and cash flow view. Additionally, Leidos' appetite for stock repurchase activity has contributed to a more modest liquidity position.

The rating could be downgraded if Moody's does not expect steady progress towards deleveraging, including debt/EBITDA to the low 3x range or Free Cash Flow/debt below 10% over the coming year. Further, the rating could be downgraded if liquidity is not improved including unrestricted cash plus revolver availability of at least $500 million, if profits weaken more than expected, or if Moody's believes the strategy of diversifying away from the defense concentration may not result in sufficient returns or cash flow given the financial leverage. Stabilization of the rating outlook would depend minimally on steady backlog, debt to EBITDA of 3x or less by end of the 2016 fiscal year with Free Cash Flow to debt closer to 15%.

Leidos Holdings, Inc., is a defense/intelligence, engineering, and health services provider. Revenues in the twelve months ended May 2, 2014 were $5.5 billion.

The principal methodology used in this rating was Global Aerospace and Defense Industry published in April 2014. Please see the Credit Policy page on www.moodys.com for a copy of this methodology.

REGULATORY DISCLOSURES

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the rating action on the support provider and in relation to each particular rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this rating action, and whose ratings may change as a result of this rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Bruce Herskovics
Vice President - Senior Analyst
Corporate Finance Group
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

Robert P Jankowitz
Associate Managing Director
Corporate Finance Group
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

Releasing Office:
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

Moody's downgrades Leidos senior unsecured to Baa3; Outlook Negative
No Related Data.
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