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Market share gain to slow in 2011
QoQ revenue growth of 7.7% capped a strong 2010 (40%
revenue growth vs. 25-30% for top tier Indian peers and 16-
18% for the industry). We believe Cognizant has benefited
disproportionately from the burst of pent-up demand that
occurred in the offshore space in 2010. We, therefore, do not
expect the large growth gap that existed in 2010 to sustain.
Considering the company’s large exposure to financial
services (~55% if one were to include healthcare payers), we
believe some of the one-off opportunities it addressed in 2010
might entail relatively lower growth, going forward. While we
still believe that Cognizant would outperform, the extent will
likely narrow significantly. Strong growth prospects and
superior ROIC (next only to Infosys) makes it one of our
preferred stocks. We, however, maintain our Hold rating as
current valuations leave little for investors.
Strong 2010 to be followed by a normal 2011: Company
expects a 26% revenue growth (largely volume-driven) in
2011 as pent-up demand and M&A restructuring related
projects peter off. We expect Tier-1 Indian peers to grow at
~18-22%, below the 25-30% growth expectation of the street.
Cognizant likely to outpace Indian peers. Cognizant has
outpaced its closest Indian peers for last 6 years by 10-15
percentage points. We expect this trend to continue, albeit at
slower pace in 2011. A probable 30% revenue growth by
Cognizant could mean that Infosys might grow at ~20-22%.
Company has captured an outsized share of incremental:
Business coming to offshore vendors by investing profits in
excess of 20% EBIT margin in SG&A and delivery/domain
capabilities. Combining this with a management that is
reasonably acquisitive, Cognizant is poised for offshore
market leadership over the next 5-10 years. It’s one of our
preferred stock in coverage universe because of its strong
growth rate and strong ROIC (next only to Infosys). We
maintain our Hold rating with a March 2012 price target of
$76 as current valuation prices-in all the positives valuing the
company at 22.4x March 2013 FDEPS.
Optimistic about 2011; Budgets cycle to be normal
Cognizant has a strong sense of optimism going into 2011 due to a) considerably stable economy
compared to a year back, b) Tech refresh cycle underway, c) IT budgets expected to have modest single
digit growth (d) offshore shift and e) factorable pricing environment.
The management has guided for a 26% revenue growth to $5.79bn for 2011. While the company was a
major beneficiary of the pent up demand in Q2 and Q3CY10 and M&A-related restructuring, 2011 will
see these factors tailing off. Although, management expects the pipeline of Application development or
discretionary spend to fill in for the pent up demand going ahead.
Indian IT services companies to grow slower than Cognizant in 2011
Due to its reinvestment strategy and focus on growth with reasonable margins, Cognizant has been
outpacing the overall IT-BPO industry growth and Tier-I IT companies over the last 5-6 years and we
expect this trend to continue. While the delta of the incremental market share win has been declining,
Cognizant could still grow at a rate ~10 percentage point higher than its rivals. Even if we assume that
Cognizant does 30% growth next year, then we would still land up with ~20% growth for Infosys
considering the large gap in performance that Infosys and Cognizant have had in the last few years.
Q4 - Cognizant outpaced Tier-I Indian IT services players again
Cognizant reported yet another quarter of strong topline growth, outpacing its Indian rivals like Infosys
and TCS. Revenue growth of 7.7% was driven by volume growth of 6%. Offshore pricing increased by 2%
while onsite pricing increased by 1.5%. Growth was led by healthcare which grew by 11.9% while
financial services grew by 6.6% QoQ.
Ahead of Wipro and HCL in capturing incremental market share
Of the incremental revenue that got generated in the quarter among the top 5 IT servicse offshore
players, Cognizant was able to garner 21%. TCS’ incremental share win has been highest in the last two
quarters, while Wipro and HCL are falling behind Cognizant.
Preserving margin levers despite investing for growth
Cognizant has been able to preserve its margin levers despite maintaining the EBIT margin in the stated
narrow band of 18-20%. Utilization levels have been coming down while maintaining the SG&A spend.
Cognizant’s SG&A expenditure is higher than Tier-I Indian IT services. Higher SG&A spend is translating
into higher growth rate than the rest of the pack.
Guidance: Likely based on performance linked stock awards
Cognizant has beaten its quarterly guidance for eight quarters in a row since Q1CY09. Its annual
guidance however has been off target and is likely based on the 100% performance based stock awards.
For CY2008 Cognizant guided for 42.5% growth and landed up at 32%. In FY09, Infosys delivered 12%
growth in dollar terms. For CY2009, Cognizant guided initially for 10% growth but finally delivered 16%.
Infy’s dollar growth in FY10 was 3%. For CY2010 it guided for 20% revenue growth and finally it
delivered 40%. Infy in FY11 is expected to grow in USD terms by 27%.
Typically, the Cognizant management guides towards its 100% stock award performance number.
Cognizant’s management will get 100% of the stock awards if it delivers 25% revenue growth in 2011,
0% awards below 20% growth, 50% between 20-25% growth, and 200% at 35% (or above) growth. This
is based on an SEC filing that the company has done (see details below).
Awards of Performance Unit Grants to Certain Named Executives
On November 30, 2010, the Compensation Committee of the Company, after thorough evaluation,
granted the following awards of performance units (“Performance Units”) to certain named executive
officers of the Company set forth below. The Performance Units vest upon the achievement of certain
performance milestones as set forth below. Top executives will be awarded 100% of the performance
units for achieving revenue of $5.69Bn. The guidance for CY11 is $5.79bn, in line with that target.
Exhibit 6: Performance units awarded
Name Number of Performance Units
Francisco D’Souza,
President and Chief Executive Officer
90,720
Gordon J. Coburn,
Chief Financial and Operating Officer and Treasurer
42,480
Rajeev Mehta,
Chief Operating Officer, Global Client Services
36,000
Ramakrishnan Chandrasekaran,
President and Managing Director, Global Delivery
28,800
Steven Schwartz,
Senior Vice President, General Counsel and Secretary
8,640
Source: Company, Centrum Research
The above Performance Units shall be subject to attainment of certain performance milestones as well
as certain continued service requirements. All or a portion of the Performance Units shall vest based
upon the level of achievement of the revenue milestone set forth below (the “Performance Milestone”)
as follows:
(a) 0% of the Performance Units which are awarded shall vest upon the Company’s achievement of
2011 revenue of less than $5,460,000,000.
(b) 50% of the Performance Units which are awarded shall vest upon the Company’s achievement of
2011 revenue of $5,460,000,000.
(c) 100% of the Performance Units which are awarded shall vest upon the Company’s achievement
of 2011 revenue of $5,687,500,000.
(d) 200% of the Performance Units which are awarded shall vest upon the Company’s achievement of
2011 revenue of $6,142,500,000.
Whether and to what extent the Performance Milestone has been achieved shall be determined by the
Compensation Committee in its sole and absolute discretion based upon the audited financials for the
2011 fiscal year, subject to the items for which performance goals may be adjusted pursuant to the
Plan. The number of Performance Units that will vest for performance between the applicable
threshold targets will be determined using straight-line interpolation, rounded down to the preceding
whole number (e.g., 101.74 rounded down to 101).
Financials and Valuation
We have kept estimates largely unchanged (against numbers in our recent sector update ‘Turning less
negative’ dated 11 Jan 2011). The target price for the stock has been arrived at through a valuation
methodology given in our sector initiation piece ‘Focus on the Macro and not the Micro’ dated 19 Oct
2010.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Market share gain to slow in 2011
QoQ revenue growth of 7.7% capped a strong 2010 (40%
revenue growth vs. 25-30% for top tier Indian peers and 16-
18% for the industry). We believe Cognizant has benefited
disproportionately from the burst of pent-up demand that
occurred in the offshore space in 2010. We, therefore, do not
expect the large growth gap that existed in 2010 to sustain.
Considering the company’s large exposure to financial
services (~55% if one were to include healthcare payers), we
believe some of the one-off opportunities it addressed in 2010
might entail relatively lower growth, going forward. While we
still believe that Cognizant would outperform, the extent will
likely narrow significantly. Strong growth prospects and
superior ROIC (next only to Infosys) makes it one of our
preferred stocks. We, however, maintain our Hold rating as
current valuations leave little for investors.
Strong 2010 to be followed by a normal 2011: Company
expects a 26% revenue growth (largely volume-driven) in
2011 as pent-up demand and M&A restructuring related
projects peter off. We expect Tier-1 Indian peers to grow at
~18-22%, below the 25-30% growth expectation of the street.
Cognizant likely to outpace Indian peers. Cognizant has
outpaced its closest Indian peers for last 6 years by 10-15
percentage points. We expect this trend to continue, albeit at
slower pace in 2011. A probable 30% revenue growth by
Cognizant could mean that Infosys might grow at ~20-22%.
Company has captured an outsized share of incremental:
Business coming to offshore vendors by investing profits in
excess of 20% EBIT margin in SG&A and delivery/domain
capabilities. Combining this with a management that is
reasonably acquisitive, Cognizant is poised for offshore
market leadership over the next 5-10 years. It’s one of our
preferred stock in coverage universe because of its strong
growth rate and strong ROIC (next only to Infosys). We
maintain our Hold rating with a March 2012 price target of
$76 as current valuation prices-in all the positives valuing the
company at 22.4x March 2013 FDEPS.
Optimistic about 2011; Budgets cycle to be normal
Cognizant has a strong sense of optimism going into 2011 due to a) considerably stable economy
compared to a year back, b) Tech refresh cycle underway, c) IT budgets expected to have modest single
digit growth (d) offshore shift and e) factorable pricing environment.
The management has guided for a 26% revenue growth to $5.79bn for 2011. While the company was a
major beneficiary of the pent up demand in Q2 and Q3CY10 and M&A-related restructuring, 2011 will
see these factors tailing off. Although, management expects the pipeline of Application development or
discretionary spend to fill in for the pent up demand going ahead.
Indian IT services companies to grow slower than Cognizant in 2011
Due to its reinvestment strategy and focus on growth with reasonable margins, Cognizant has been
outpacing the overall IT-BPO industry growth and Tier-I IT companies over the last 5-6 years and we
expect this trend to continue. While the delta of the incremental market share win has been declining,
Cognizant could still grow at a rate ~10 percentage point higher than its rivals. Even if we assume that
Cognizant does 30% growth next year, then we would still land up with ~20% growth for Infosys
considering the large gap in performance that Infosys and Cognizant have had in the last few years.
Q4 - Cognizant outpaced Tier-I Indian IT services players again
Cognizant reported yet another quarter of strong topline growth, outpacing its Indian rivals like Infosys
and TCS. Revenue growth of 7.7% was driven by volume growth of 6%. Offshore pricing increased by 2%
while onsite pricing increased by 1.5%. Growth was led by healthcare which grew by 11.9% while
financial services grew by 6.6% QoQ.
Ahead of Wipro and HCL in capturing incremental market share
Of the incremental revenue that got generated in the quarter among the top 5 IT servicse offshore
players, Cognizant was able to garner 21%. TCS’ incremental share win has been highest in the last two
quarters, while Wipro and HCL are falling behind Cognizant.
Preserving margin levers despite investing for growth
Cognizant has been able to preserve its margin levers despite maintaining the EBIT margin in the stated
narrow band of 18-20%. Utilization levels have been coming down while maintaining the SG&A spend.
Cognizant’s SG&A expenditure is higher than Tier-I Indian IT services. Higher SG&A spend is translating
into higher growth rate than the rest of the pack.
Guidance: Likely based on performance linked stock awards
Cognizant has beaten its quarterly guidance for eight quarters in a row since Q1CY09. Its annual
guidance however has been off target and is likely based on the 100% performance based stock awards.
For CY2008 Cognizant guided for 42.5% growth and landed up at 32%. In FY09, Infosys delivered 12%
growth in dollar terms. For CY2009, Cognizant guided initially for 10% growth but finally delivered 16%.
Infy’s dollar growth in FY10 was 3%. For CY2010 it guided for 20% revenue growth and finally it
delivered 40%. Infy in FY11 is expected to grow in USD terms by 27%.
Typically, the Cognizant management guides towards its 100% stock award performance number.
Cognizant’s management will get 100% of the stock awards if it delivers 25% revenue growth in 2011,
0% awards below 20% growth, 50% between 20-25% growth, and 200% at 35% (or above) growth. This
is based on an SEC filing that the company has done (see details below).
Awards of Performance Unit Grants to Certain Named Executives
On November 30, 2010, the Compensation Committee of the Company, after thorough evaluation,
granted the following awards of performance units (“Performance Units”) to certain named executive
officers of the Company set forth below. The Performance Units vest upon the achievement of certain
performance milestones as set forth below. Top executives will be awarded 100% of the performance
units for achieving revenue of $5.69Bn. The guidance for CY11 is $5.79bn, in line with that target.
Exhibit 6: Performance units awarded
Name Number of Performance Units
Francisco D’Souza,
President and Chief Executive Officer
90,720
Gordon J. Coburn,
Chief Financial and Operating Officer and Treasurer
42,480
Rajeev Mehta,
Chief Operating Officer, Global Client Services
36,000
Ramakrishnan Chandrasekaran,
President and Managing Director, Global Delivery
28,800
Steven Schwartz,
Senior Vice President, General Counsel and Secretary
8,640
Source: Company, Centrum Research
The above Performance Units shall be subject to attainment of certain performance milestones as well
as certain continued service requirements. All or a portion of the Performance Units shall vest based
upon the level of achievement of the revenue milestone set forth below (the “Performance Milestone”)
as follows:
(a) 0% of the Performance Units which are awarded shall vest upon the Company’s achievement of
2011 revenue of less than $5,460,000,000.
(b) 50% of the Performance Units which are awarded shall vest upon the Company’s achievement of
2011 revenue of $5,460,000,000.
(c) 100% of the Performance Units which are awarded shall vest upon the Company’s achievement
of 2011 revenue of $5,687,500,000.
(d) 200% of the Performance Units which are awarded shall vest upon the Company’s achievement of
2011 revenue of $6,142,500,000.
Whether and to what extent the Performance Milestone has been achieved shall be determined by the
Compensation Committee in its sole and absolute discretion based upon the audited financials for the
2011 fiscal year, subject to the items for which performance goals may be adjusted pursuant to the
Plan. The number of Performance Units that will vest for performance between the applicable
threshold targets will be determined using straight-line interpolation, rounded down to the preceding
whole number (e.g., 101.74 rounded down to 101).
Financials and Valuation
We have kept estimates largely unchanged (against numbers in our recent sector update ‘Turning less
negative’ dated 11 Jan 2011). The target price for the stock has been arrived at through a valuation
methodology given in our sector initiation piece ‘Focus on the Macro and not the Micro’ dated 19 Oct
2010.
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