Cognizant at a crossroads, cuts full-year growth outlook to 8.9%
PremiumCognizant results for the September quarter show net profit fell 3.6% to $477 million from $494 million a year ago but rose 4.6% from $456 million in the June quarter
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Bengaluru: Cognizant Technology Solutions Corp. appears to be at a crossroads, and a slowing revenue growth is just one of its challenges.
A bigger headache for the Nasdaq-listed company is the management prioritising profitability over revenue growth, leading to some heartburn among investors, according to some analysts. Over the last year, Cognizant shares have under-performed Nasdaq or the firm’s larger peer Accenture Plc or smaller Indian rival, Infosys Ltd.
The company now runs the risk of growing at its slowest pace in a year, after it lowered its full-year revenue growth outlook to 8.9%, just three months after it reaffirmed faith in its earlier outlook of growing at-best 10% in 2018.
Cognizant, which follows the January-December financial year, said on Tuesday revenue in the three months ended 30 September grew 8.3% from a year earlier, and improved 1.7% from the preceding June quarter, to $4.08 billion.
Net profit fell 3.6% to $477 million, from $494 million a year earlier, but rose 4.6% from the $456 million in the June quarter.
Analysts polled by Bloomberg had expected Cognizant to post revenue of $4.08 billion and profit of $658.15 million. The Teaneck, New Jersey-based company expects revenue in the December quarter to be between $4.09 billion and $4.13 billion, a sequential increase of 0.24% and 1.2%.
This translates into the full-year revenue to range between $16.09 billion and $16.13 billion, a growth of between 8.6% and 8.9%. At the start of the year, Cognizant had outlined a full-year growth of 8-10% and maintained it until the second quarter.
Cognizant may grow at 8.6% in 2018, the lowest since it grew at a similar pace in 2016, if it grows at the lower-end or a 0.24% sequential rise in the December quarter. To be sure, Cognizant’s at-best 8.9% growth will be envied by shareholders of Infosys and Wipro Ltd, as both the Bengaluru-based firms will grow at a much lower pace.
Again, even after slashing its full-year revenue guidance, Cognizant will still add over $1 billion in incremental revenue for the ninth straight year. No other company, save for Mumbai-based Tata Consultancy Services Ltd has managed to grow as consistently.
However, Cognizant’s growth has slowed from its scorching pace in the past and this is evident in the firm’s year-over-year growth slipping over the last three quarters: Cognizant’s y-o-y growth has declined to 8.3% in the September quarter from 10.6% in the December quarter of last year.
At the heart of this slow revenue growth is the company’s inability to get more business from its banking clients in Europe. Again, even though Cognizant appears to have invested in newer technologies like building data analytics platforms (Cognizant claims digital revenue are a little over 30% of its total revenue), a higher spend on digital technologies by company’s customers is not enough to offset the loss in business from traditional offerings.
At least for now.
Finally, Cognizant’s focus is on improving profitability as the company has opted to shun contracts that offer lower margins.
“We believe that CTSH (Cognizant) is growing below the industry average in CC (constant currency terms)," Keith Bachman, an analyst with BMO Capital Markets, wrote in a note dated 26 October. “[W]e believe that CTSH’s focus on margins is having consequences on its top line."
Cognizant does not think it is at a crossroads.
“I think crossroads is too extreme and I’ll rather call it as evolution," said Malcolm Frank, Cognizant’s executive vice-president and chief strategy officer and chief marketing officer.
“The entire industry is going through this change and we have managed these well in the past and are doing it now. Please remember, that when we talk of digital at scale, the market (customers) is coming to us."
Cognizant was pushed by activist investor Elliott Management Corp. in November 2016 to abandon what it felt was an “antiquated, growth-at-all-costs" business model, and focus instead on improving profitability and shareholder returns.
Subsequently, the board of Cognizant in February last year (when the company’s non-GAAP profitability was 18.7%) conceded to the demands of its activist shareholder and outlined a three-year road map to improve profitability (non-GAAP profitability of 22% by 2019).
For now, Cognizant’s non-GAAP operating margin is 21%.
For this reason, a few analysts like Mumbai-based HSBC analyst Yogesh Aggarwal have said that Elliott’s decision was nothing short of “destructive activism".
“Cognizant is at cross roads as the company struggles for now to optimise revenue and profitability," said a Mumbai-based portfolio manager of a foreign institutional fund, on the condition of anonymity.
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