Investigations and Out of Period Adjustments

Summary of Audit Committee and SEC Investigations Related to the Out of Period Adjustments

As previously disclosed, the Company initiated an investigation into out of period adjustments resulting from certain accounting errors in its former Managed Services Sector (MSS) segment, primarily involving accounting irregularities in the Nordic region. Initially, the investigation was conducted by Company personnel, but outside Company counsel and forensic accountants retained by such counsel later assisted in the Company's investigation. On January 28, 2011, the Company was notified by the SEC's Division of Enforcement that it had commenced a formal civil investigation relating to these matters, which investigation has been expanded to other matters subsequently identified by the SEC, including matters specified in subpoenas issued to the Company from time to time by the SEC's Division of Enforcement as well as matters under investigation by the Audit Committee, as further described below. The Company is cooperating in the SEC's investigation.

On May 2, 2011, the Audit Committee commenced an independent investigation into the matters relating to the former MSS segment and the Nordic region, matters identified by subpoenas issued by the SEC's Division of Enforcement, and certain other accounting matters identified by the Audit Committee and retained independent counsel to represent CSC on behalf of, and under the exclusive direction of, the Audit Committee in connection with such independent investigation. Independent counsel retained forensic accountants to assist with their work. Independent counsel also represents CSC on behalf of, and under the exclusive direction of, the Audit Committee in connection with the investigation by the SEC's Division of Enforcement.

The Audit Committee’s investigation was expanded to encompass (i) the Company’s operations in Australia, (ii) certain aspects of the Company’s accounting practices within its Americas Outsourcing operation, and (iii) certain of the Company’s accounting practices that involve the percentage-of-completion accounting method, including the Company’s contract with the U.K. National Health Service (NHS). In the course of the Audit Committee's expanded investigation, accounting errors and irregularities were identified. As a result, certain personnel have been reprimanded, suspended, terminated and/or have resigned. The Audit Committee determined in August 2012 that its independent investigation was complete. The Audit Committee instructed its independent counsel to cooperate with the SEC's Division of Enforcement by completing production of documents and providing any further information requested by the SEC's Division of Enforcement.

In addition to the matters noted above, the SEC's Division of Enforcement is continuing its investigation involving its concerns with certain of the Company's prior disclosure and accounting determinations with respect to the Company's contract with the NHS and the possible impact of such matters on the Company's financial statements for years prior to the Company's current fiscal year. The Company and the Audit Committee and its independent counsel are continuing to respond to SEC questions and to cooperate with the SEC's Division of Enforcement in its investigation of prior disclosures of the Company's contract with the NHS. The SEC's investigative activities are ongoing.

In addition, the SEC's Division of Corporation Finance has issued comment letters to the Company requesting, among other things, additional information regarding its previously disclosed adjustments in connection with the above-referenced accounting errors, the Company's conclusions relating to the materiality of such adjustments, and the Company's analysis of the effectiveness of its disclosure controls and procedures and its internal control over financial reporting. The SEC's Division of Corporation Finance's comment letter process is ongoing, and the Company is continuing to cooperate with that process.

The investigation being conducted by the SEC's Division of Enforcement and the review of the Company's financial disclosures by the SEC's Division of Corporation Finance are continuing and could identify other accounting errors, irregularities or other areas of review. As a result, we have incurred and may continue to incur significant legal and accounting expenditures. As the Company previously disclosed, certain of its non-U.S. employees and certain of its former employees, including certain former executives in the United States, have received Wells notices from the SEC’s Division of Enforcement in connection with its ongoing investigation of the Company. The Company, through outside counsel, has been in discussions with the SEC Enforcement Staff concerning a potential resolution of the investigation involving the Company. However, to date those discussions have not resulted in a resolution. The Company received a Wells notice from the SEC’s Division of Enforcement on December 11, 2013. A Wells notice is not a formal allegation or a finding of wrongdoing; it is a preliminary determination by the SEC Enforcement Staff to recommend that the Commission file a civil enforcement action or administrative proceeding against the recipient. Under SEC procedures, a recipient of a Wells notice has an opportunity to respond in the form of a Wells submission that seeks to persuade the Commission that such an action should not be brought. The Company is availing itself of the Wells process by making a Wells submission to explain its views concerning such matters, which are aided by the Company Audit Committee's independent investigation and certain expert opinions of outside professionals. The Company made such a submission on January 14, 2014. The Company is unable to estimate with confidence or certainty how long the SEC process will last or its ultimate outcome, including whether the Company will reach a settlement with the SEC and, if so, the amount of any related monetary fine and other possible remedies. In addition, the Company is unable to predict the timing of the completion of the SEC's Division of Corporation Finance's review of its financial disclosures or the outcome of such review. Publicity surrounding the foregoing or any enforcement action as a result of the SEC's investigation, even if ultimately resolved favorably for CSC, could have an adverse impact on the Company's reputation, business, financial condition, results of operations or cash flows.

Out of Period Adjustments Financial Impact Summary

The rollover impact on income (loss) from continuing operations before taxes of the recorded out of period adjustments in the first nine months of fiscal 2014, fiscal 2013 and fiscal 2012 is attributable to the following prior fiscal years:



	Increase/(Decrease)
(Amounts in millions)	Fiscal 2012 Adjustments			Fiscal 2013 Adjustments			First Nine Months Fiscal 2014 Adjustments			Total Adjustments
Fiscal 2014	$	—		$	—		$	(3	)	$	(3	)
Fiscal 2013	—			6			(1		)	5
Fiscal 2012	79			7			—			86
Prior fiscal years (unaudited)	(79		)	(13		)	4			(88		)

See Note 14 for a summary of the effect of the pre-tax out of period adjustments on the Company's segment results for the quarter and nine months ended December 27, 2013 and December 28, 2012, respectively.

Fiscal 2014 Adjustments

During the third quarter and through the first nine months of fiscal 2014, the Company recorded net pre-tax adjustments increasing income from continuing operations before taxes by $5 million and $3 million, respectively, that should have been recorded in prior fiscal years. The $5 million of pre-tax out of period adjustments consists of a $7 million increase to revenue (due to a $6 million adjustment to recognize revenue on previously delivered software products and services and a $1 million adjustment to recognize revenue on previously delivered outsourcing services), partially offset by a $2 million charge to cost of services (COS) (consisting of a $5 million increase to COS relating to previously delivered software products and services, offset by a $3 million decrease to COS as a result of a margin correction on long-term contracts accounted for under the percentage-of-completion method).

Adjustments, net of tax, during the third quarter of fiscal 2014 that should have been recorded in prior fiscal years increased income from continuing operations by $4 million. Adjustments, net of tax, during the first nine months of fiscal 2014 that should have been recorded in prior fiscal years decreased income from continuing operations by $18 million. The difference between the pre-tax and after tax impact is attributable to the tax effect of the net pre-tax adjustments, and net out of period adjustments to tax expense that should have been recorded in prior fiscal years. The tax effect on the net pre-tax adjustments for the third quarter was a $1 million increase to tax expense and for the first nine months of fiscal 2014 was a $9 million increase in tax expense. The tax effect on the pre-tax adjustments for the first nine months of fiscal 2014 resulted in a disproportionate increase in tax expense due to taxes on increases in income in taxable jurisdictions, and absence of tax benefits on decreases in income in jurisdictions with net operating loss carry forwards. The out of period adjustments to tax expense for the third quarter and first nine months of fiscal 2014 resulted in no change and an increase to income tax expense of $12 million, respectively. The out of period adjustments to tax expense for the nine months ended December 27, 2013, consist primarily of a $10 million increase in liabilities for uncertain tax positions associated with a tax restructuring of one of the Company's operating subsidiaries recorded during the second quarter of fiscal 2014.

In addition, during the third quarter of fiscal 2014, the Company recorded $7 million of pre-tax adjustments increasing income from continuing operations before taxes that should have been recorded in the first six months of fiscal 2014. The $7 million of pre-tax out of period adjustments consists primarily of a reduction of $7 million to COS (attributable to a $5 million reduction to accrued expenses, a $3 million reduction of costs related to a reversal of previously recognized software products and services, a $4 million pension accrual expense reduction, all partially offset by a $3 million reduction of margin on long-term contracts accounted for under the percentage-of-completion method, and a $2 million adjustment to recognize costs on previously delivered software products and services). In addition to the reduction to COS, a net $1 million adjustment was recorded to increase revenue on previously delivered software products and services and a $1 million increase in selling, general and administrative (SG&A) expenses was recognized related to a write-off of prepaid facility charges. Adjustments, net of tax, during the third quarter of fiscal 2014 increased income from continuing operations by $9 million that should have been recorded in the first six months of fiscal 2014. The difference between the pre-tax and after tax impact is attributable to the tax effect of the net pre-tax adjustments.

During the second quarter of fiscal 2014, the Company recorded net pre-tax adjustments decreasing income from continuing operations before taxes by $11 million that should have been recorded in prior fiscal years. The $11 million of pre-tax out of period adjustments consists of a $9 million reversal of revenue (due to deferral of revenue for undelivered elements on software contracts lacking vendor specific objective evidence and margin corrections on contracts under percentage of completion accounting), a $1 million charge to cost of sales for reversal of previously deferred costs and a $1 million charge to SG&A expense reversing excess capitalization associated with internal systems development. Adjustments, net of tax, during the second quarter of fiscal 2014 that should have been recorded in prior fiscal years decreased income from continuing operations by $20 million. The difference between the pre-tax and after tax impact is attributable to the tax effect of the net pre-tax adjustments, and net out of period adjustments to tax expense that should have been recorded in prior fiscal years. The tax effect on the net pre-tax adjustments for the second quarter of fiscal 2014 was negligible. The out of period adjustments to tax expense for the second quarter of fiscal 2014 resulted in an increase to income tax expense of $9 million. The out of period adjustments to tax expense consist primarily of a $10 million increase in liabilities for uncertain tax positions associated with a tax restructuring of one of the Company's operating subsidiaries.

In addition, during the second quarter of fiscal 2014, the Company recorded $17 million of pre-tax adjustments decreasing income from continuing operations before taxes that should have been recorded in the first quarter of fiscal 2014. The $17 million of pre-tax out of period adjustments consists of (1) a $13 million charge to cost of sales consisting of $6 million in adjustments to prepaid and accrued balances, a $4 million reversal of previously deferred costs and a $3 million reduction in work in process due to margin corrections on contracts under percentage-of-completion accounting; (2) a $3 million charge to SG&A expense primarily due to reversal of excess capitalization associated with internal systems development, partially offset by other adjustments; and (3) a $1 million charge to depreciation expense to correct the useful life for certain leasehold improvements. Adjustments, net of tax, during the second quarter of fiscal 2014 decreased income from continuing operations by $11 million that should have been recorded in the first quarter of fiscal 2014. The difference between the pre-tax and after tax impact is attributable to the tax effect of the net pre-tax adjustments.

During the first quarter of fiscal 2014, the Company identified and recorded net pre-tax adjustments increasing income from continuing operations before taxes by $9 million that should have been recorded in prior fiscal years. This net impact on income from continuing operations before taxes is comprised of the following:


•	net adjustments decreasing income from continuing operations before taxes by $13 million resulting primarily from revenues and costs in its GBS segment;


•	net adjustments increasing income from continuing operations before taxes by $8 million resulting from the correction of payroll expenses within its GBS segment; and


•	net adjustments increasing income from continuing operations before taxes by $14 million resulting primarily from adjustments identified by the Company late in the fiscal 2013 closing process.

Adjustments recorded during the first quarter of fiscal 2014 that should have been recorded in prior fiscal years decreased income from continuing operations by $2 million. The difference between the pre-tax and after tax impact is attributable to the tax effect of the adjustments described above, and $2 million of tax expense related to net adjustments that should have been recorded in prior periods.

The impact of out of period adjustments recorded during fiscal 2014 on select line items of the Consolidated Condensed Statements of Operations for the quarter and nine months ended December 27, 2013, respectively, using the rollover method, is shown below:



	Quarter Ended December 27, 2013
(Amounts in millions, except per-share amounts)	As Reported			Adjustments Increase/ (Decrease)			Amount Adjusted for Removal of Errors
Revenue	$	3,228		$	(8	)	$	3,220
Costs of services (excludes depreciation and amortization and restructuring costs)	2,362			5			2,367
Selling, general and administrative	354			(1		)	353
Depreciation and amortization	251			—			251
Restructuring costs	11			—			11
Interest expense	38			—			38
Other (income) expense	(5		)	—			(5		)
Income from continuing operations before taxes	221			(12		)	209
Taxes on income	70			1			71
Income from continuing operations	151			(13		)	138
Income from discontinued operations, net of taxes	(5		)	—			(5		)
Net income attributable to CSC common stockholders	141			(13		)	128
EPS – Diluted
Continuing operations	$	0.98		$	(0.09	)	$	0.89
Discontinued operations	(0.04		)	—			(0.04		)
Total	$	0.94		$	(0.09	)	$	0.85



	Nine Months Ended December 27, 2013
(Amounts in millions, except per-share amounts)	As Reported		Adjustments Increase/ (Decrease)			Amount Adjusted for Removal of Errors
Revenue	$	9,669	$	21		$	9,690
Costs of services (excludes depreciation and amortization and restructuring costs)	7,156		23			7,179
Selling, general and administrative	962		—			962
Depreciation and amortization	753		(1		)	752
Restructuring costs	33		2			35
Interest expense	112		—			112
Other (income) expense	16		—			16
Income from continuing operations before taxes	648		(3		)	645
Taxes on income	206		(21		)	185
Income from continuing operations	442		18			460
Income from discontinued operations, net of taxes	72		—			72
Net income attributable to CSC common stockholders	500		18			518
EPS – Diluted
Continuing operations	$	2.83	$	0.12		$	2.95
Discontinued operations	0.48		—			0.48
Total	$	3.31	$	0.12		$	3.43

The out of period adjustments impacting income from continuing operations before taxes recorded by the Company in the nine months ended December 27, 2013 are related to the following consolidated balance sheet line items:


•	Accounts receivable ($1 million decrease);


•	Prepaid expenses and other current assets ($3 million increase);


•	Property and equipment ($1 million decrease);


•	Software ($1 million decrease);


•	Other assets ($1 million decrease);


•	Accrued payroll and related costs ($8 million decrease)


•	Deferred revenue ($21 million increase); and


•	Accrued expenses and other current liabilities ($17 million decrease).

The Company has determined that the impact of the consolidated out of period adjustments recorded in fiscal 2014 is immaterial to the consolidated results, financial position and cash flows for the third quarter and first nine months of fiscal 2014 and prior years. Consequently, the cumulative effect of these adjustments was recorded during fiscal 2014.

Fiscal 2013 Adjustments

As previously reported, during the third quarter and through the first nine months of fiscal 2013, the Company identified and recorded net pre-tax adjustments decreasing income from continuing operations before taxes by $3 million and increasing income from continuing operations before taxes by $4 million, respectively, that should have been recorded in prior fiscal years ($3 million and $13 million, net of tax and including discrete tax benefits). In addition, during the third quarter of fiscal 2013, the Company recorded $3 million of net pre-tax adjustments increasing income from continuing operations before taxes and $2 million of net pre-tax adjustments decreasing income from continuing operations before taxes that should have been recorded in the first and second quarters of fiscal 2013, respectively.

The $3 million pre-tax out of period adjustments recorded in the third quarter of fiscal 2013 that should have been recorded in prior fiscal years, resulted primarily from correcting the useful lives of property and equipment that were inconsistent with established CSC accounting conventions. This error occurred in connection with a GIS contract in France.

During the third quarter of fiscal 2013, the Company identified additional prior period errors related to the use of the percentage-of-completion accounting method on its NHS contract. Such errors, which were self-correcting, have no impact on income from continuing operations before taxes for fiscal 2013. Had such adjustments been recorded in fiscal 2012, income from continuing operations before taxes would have increased by $22 million. For fiscal 2011, income from continuing operations before taxes would have decreased by $3 million. For fiscal 2010, there would have been no impact on income from continuing operations before taxes. For fiscal 2009 and prior periods, income from continuing operations before taxes would have decreased by $19 million.

During the second quarter of fiscal 2013, the Company identified and recorded net pre-tax adjustments increasing income from continuing operations before taxes by $8 million that should have been recorded in prior fiscal years ($10 million, net of tax). In addition, during the second quarter of fiscal 2013, the Company recorded $2 million of net pre-tax adjustments increasing income from continuing operations before taxes that should have been recorded in the first quarter of fiscal 2013 and had no impact on prior fiscal years.

The $8 million pre-tax out of period adjustments recorded in the second quarter of fiscal 2013 consisted primarily of $9 million of net adjustments increasing income from continuing operations before taxes related to the Company's investigation of the use of percentage-of-completion accounting on the NHS contract. Such adjustments result primarily from accounting errors identified by the Company related to costs incurred under the NHS contract.

Based on information then known by the Company, the out of period adjustments recorded in the first quarter of fiscal 2013 were comprised of $6 million of net adjustments reducing income from continuing operations before taxes identified by the Company late in the fiscal 2012 closing process, which due to the immaterial amounts involved, were not included in the Company's consolidated fiscal 2012 financial statements. Also in the first quarter of fiscal 2013, the Company identified and recorded $5 million of net pre-tax adjustments increasing income from continuing operations that should have been recorded in prior fiscal years. The $5 million of net pre-tax adjustments consisted primarily of charges related to a $2 million software revenue recognition correction and a $2 million adjustment to prepaid expenses offset by credits primarily related to corrections of $10 million to reduce accrued expenses related to the restructuring costs recorded by the Company in fiscal 2012.

The Company also recorded a $2 million tax benefit in the first quarter of fiscal 2013 related to prior periods. The $2 million tax benefit was attributable to the adjustment of the deferred tax liability related to intellectual property assets.

During periods subsequent to December 28, 2012, the Company recorded out of period adjustments primarily in its GBS and GIS segments that should have been recorded in the first nine months of fiscal 2013. Had such adjustments been recorded in the appropriate period, income from continuing operations before taxes for the third quarter and first nine months of fiscal 2013 would have decreased by $2 million and increased by $2 million, respectively.

The impact of out of period adjustments recorded during fiscal 2013, and the first nine months of fiscal 2014, on select line items of the Consolidated Condensed Statements of Operations for the quarter and nine months ended December 28, 2012, respectively, using the rollover method, is shown below:



	Quarter Ended December 28, 2012
(Amounts in millions, except per-share amounts)	As Reported		Adjustments Increase/ (Decrease)			Amount Adjusted for Removal of Errors
Revenue	$	3,536	$	—		$	3,536
Costs of services (excludes depreciation and amortization and restructuring costs)	2,767		2			2,769
Selling, general and administrative	271		1			272
Depreciation and amortization	268		(3		)	265
Restructuring costs	26		2			28
Interest expense	57		(1		)	56
Other (income) expense	7		(1		)	6
Income from continuing operations before taxes	144		—			144
Taxes on income	30		6			36
Income from continuing operations	114		(6		)	108
Loss from discontinued operations, net of taxes	399		—			399
Net income attributable to CSC common stockholders	510		(6		)	504
EPS – Diluted
Continuing operations	$	0.71	$	(0.04	)	$	0.67
Discontinued operations	2.56		—			2.56
Total	$	3.27	$	(0.04	)	$	3.23



	Nine Months Ended December 28, 2012
(Amounts in millions, except per-share amounts)	As Reported		Adjustments Increase/ (Decrease)			Amount Adjusted for Removal of Errors
Revenue	$	10,692	$	9		$	10,701
Costs of services (excludes depreciation and amortization and restructuring costs)	8,447		16			8,463
Selling, general and administrative	846		(1		)	845
Depreciation and amortization	801		(5		)	796
Restructuring costs	111		1			112
Interest expense	147		—			147
Other (income) expense	8		—			8
Income from continuing operations before taxes	346		(2		)	344
Taxes on income	95		10			105
Income from continuing operations	251		(12		)	239
Loss from discontinued operations, net of taxes	442		—			442
Net income attributable to CSC common stockholders	680		(12		)	668
EPS – Diluted
Continuing operations	$	1.52	$	(0.08	)	$	1.44
Discontinued operations	2.84		—			2.84
Total	$	4.36	$	(0.08	)	$	4.28

The out of period adjustments impacting income from continuing operations before taxes recorded by the Company in the nine months ended December 28, 2012 are related to the following consolidated balance sheet line items:


•	Accounts receivable ($5 million decrease);


•	Prepaid expenses and other current assets ($6 million increase);


•	Property and equipment ($7 million decrease);


•	Outsourcing contract costs ($1 million increase);


•	Other assets ($4 million increase);


•	Accrued payroll and related costs ($1 million decrease);


•	Deferred revenue ($4 million increase); and


•	Accrued expenses and other current liabilities ($6 million decrease).

The Company determined that the impact of the consolidated out of period adjustments recorded in the third quarter of fiscal 2013 was immaterial to the consolidated results, financial position and cash flows for the third quarter of fiscal 2013 and prior years. Consequently, the cumulative effect of these adjustments was recorded during fiscal 2013.