Cognizant Technology Solutions Corporation — Q3 2015 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2015. Unaudited U.S. GAAP results; amounts in U.S. dollars unless noted.
Business context and results
Cognizant provides IT, consulting and business-process services through four reportable segments. Results include the contribution of TriZetto, acquired in Q4 2014. Q3 revenue from TriZetto was approximately $190.9 million; nine-month revenue was approximately $531.0 million.
| Metric | Q3 2015 | Q3 2014 | Nine months 2015 | Nine months 2014 |
|---|---|---|---|---|
| Revenue | $3,187.0M | $2,581.0M | $9,183.5M | $7,520.5M |
| Operating income | $542.8M | $457.5M | $1,588.6M | $1,405.5M |
| Operating margin | 17.0% | 17.7% | 17.3% | 18.7% |
| Net income | $397.2M | $355.6M | $1,200.2M | $1,076.4M |
| Diluted EPS | $0.65 | $0.58 | $1.96 | $1.76 |
| Effective tax rate | 26.9% | 23.3% | 25.1% | 25.2% |
Management also reported non-GAAP diluted EPS of $0.76 for Q3 and $2.27 for nine months, versus $0.66 and $1.94, respectively, in 2014. Non-GAAP measures exclude stock-based compensation and acquisition-related charges; non-GAAP EPS also excludes net non-operating foreign-exchange gains and losses.
Revenue growth and material changes
- Revenue grew 23.5% in Q3 and 22.1% for the nine-month period. Management attributed about 31.5% and 31.9%, respectively, of the year-over-year increases to TriZetto.
- All segments grew in Q3: Financial Services 18.6%, Healthcare 43.3%, Manufacturing/Retail/Logistics 13.7%, and Other 15.2%. Healthcare growth included TriZetto.
- North America generated 78.8% of Q3 revenue; its revenue increased 26.7%. For nine months, North America represented 78.7% of revenue and grew 25.8%.
- The stronger U.S. dollar reduced revenue by $72.4M in Q3 and $139.1M for the nine-month period, according to management.
- GAAP operating margin declined year over year, while revenue and net income increased. Management cited higher compensation and benefits, increased incentive accruals, and acquisition-related depreciation and amortization. The weaker Indian rupee, lower realized hedge losses, and some lower operating expenses partly offset these pressures.
Cash flow, debt and liquidity
- Nine-month operating cash flow was $1,463.3M, up from $1,148.8M. Investing activities used $1,030.4M and financing activities used $954.9M.
- Cash and cash equivalents were $1,476.7M at September 30, 2015, versus $2,010.1M at year-end 2014. Short-term investments were $2,574.0M, giving combined cash, cash equivalents and short-term investments of $4,050.7M.
- Working capital was $5,109.5M. Debt totaled $950.0M: $50.0M current and $900.0M long-term. The company had no revolving-credit-facility balance and reported approximately $750.0M of available capacity under that facility.
- Nine-month capital expenditures were $198.7M. The company repurchased $333.9M of shares under its authorization during the nine months and reported $480.0M remaining under the board authorization at September 30.
- Approximately $3,627.7M of cash, cash equivalents and short-term investments was held outside the United States. Management said it intends to indefinitely reinvest foreign earnings, subject to stated liquidity plans and tax consequences if repatriated.
Outlook, risks and notable items
- No specific numerical revenue or earnings guidance is provided in the supplied filing text. Management expected operating cash flow, cash and investments, and revolving-credit capacity to cover operating requirements for the next 12 months.
- Management cited continued customer focus on cost containment and transformation, demand for digital services, foreign-exchange volatility, global economic uncertainty, and the addition of TriZetto as factors affecting the business. It planned continued investment in talent, digital offerings, delivery capabilities and geographic expansion.
- Management’s targeted non-GAAP operating margin was 19%–20%; reported non-GAAP margin was 19.4% in Q3 and 19.8% for nine months. Management said it invests amounts above its target back into the business and increased 2015 incentive-compensation accrual rates in Q3 after better-than-expected results.
- Foreign-currency exposure is material: Indian rupee cash-flow hedges had $2,610.0M notional value and a $54.2M net unrealized loss at quarter-end. Management reported nine-month foreign-exchange losses of $28.4M in other income/expense and $51.8M of losses reclassified from settled cash-flow hedges into operating expenses.
- Ordinary-course legal claims and contractual indemnities are disclosed; management did not expect existing proceedings to have a material adverse effect. It cautioned that large uncovered client claims, service or data-security failures, and unenforceable contractual liability limits could be material.
- The company reported compliance with debt covenants and effective disclosure controls, with no material change in internal control over financial reporting during the quarter. It reported no material changes to the risk factors in its 2014 Form 10-K.
Important facts for investors to verify
- How much of ongoing growth and Healthcare performance depends on TriZetto, and how acquisition integration and amortization affect future results.
- Whether compensation, incentive accruals and acquisition-related costs continue to pressure GAAP margins, and how reported non-GAAP margins reconcile to GAAP.
- Whether receivables, collections and working-capital needs remain consistent with revenue growth; quarter-end trade and unbilled receivables were $2,135.7M and $420.9M.
- How foreign-exchange movements affect revenue, operating costs, hedge settlements and the value of the hedge portfolio.
- Future share-repurchase pace, debt repayment and liquidity needs, including the availability and terms of credit capacity and the tax implications of any foreign-earnings repatriation.