Cognizant: Europe performance remains the swing factor: Nomura

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Europe performance remains the swing factor
Revenue growth
outperformance key for stock to
sustain premium valuations


2Q FY11F: Expect Cognizant to post revenue growth ahead of peers
We expect Cognizant to report 8% q-q revenue growth in 2Q FY12.
However, we believe there could be downside risk to our expectation as
management has guided for 3Q to be the stronger quarter for Europe (in
contrast to 2Q for North America) on account of ramp-downs in UK bank
M&A integration projects. EBIT margins are likely to decline by 100bps on
account of wage hikes, we believe.
Revenue growth guidance likely to be raised to 30%
We expect Cognizant to marginally raise its FY11F revenue growth
guidance to 30% (from 29%).
Action: Valuations limit upside, wait for better entry points
We expect the revenue growth differential between Cognizant and Infosys
to narrow from 14pp in FY10 to about 8pp in FY11F, largely on: 1) smaller
non-US presence in a diversifying demand scenario; and 2) smaller
contribution from faster-growing emerging service lines (BPO, IMS and
EAS). At its current valuation of 22x FY12F earnings, we see limited
valuation upside and would wait for a better entry point. We remain
NEUTRAL; our USD83 target price is based on 23x one-year rolling
forward earnings. Among tier-1 stocks, we prefer Infosys and HCL Tech.
Catalyst: Outperformance of tier-1 peers in revenue growth
A return to material outperformance on sequential revenue growth over
tier-1 peers after 3 quarters of limited outperformance and FY11F revenue
growth guidance of more than 31% would likely be upside triggers.