Business context and reporting period
Cognizant Technology Solutions Corporation’s Form 10-K covers the fiscal year ended December 31, 2015. Cognizant provides IT, consulting and business-process services, primarily through a global delivery model with most employees and delivery capacity in India. The filing also reports unaudited fourth-quarter results.
FY 2015 revenue mix: Financial Services 40.3%, Healthcare 29.5%, Manufacturing/Retail/Logistics 18.9% and Other 11.3%. North American customers generated 78.6% of revenue. Cognizant completed its TriZetto healthcare IT acquisition in November 2014; TriZetto contributed $724.5 million of FY 2015 revenue.
Financial results and liquidity
| Metric | FY 2015 | FY 2014 |
|---|---|---|
| Revenue | $12,416.0 million | $10,262.7 million |
| Income from operations | $2,142.0 million | $1,884.9 million |
| Operating margin | 17.3% | 18.4% |
| Net income | $1,623.6 million | $1,439.3 million |
| Net margin | 13.1% | 14.0% |
| Diluted EPS | $2.65 | $2.35 |
| Operating cash flow | $2,153.3 million | $1,473.0 million |
FY 2015 non-GAAP operating margin was 19.7% versus 20.2% in 2014; non-GAAP diluted EPS was $3.07 versus $2.60. These are non-GAAP measures and exclude specified stock-based compensation and acquisition-related charges; non-GAAP results should not be treated as a substitute for GAAP results.
Fourth-quarter 2015 revenue was $3,232.5 million, operating income $553.4 million, net income $423.4 million and diluted EPS $0.69. In Q4 2014, the respective figures were $2,742.3 million, $479.4 million, $362.9 million and $0.59.
At December 31, 2015, cash, cash equivalents and short-term investments totaled $4,949.5 million; working capital was $5,194.9 million; total debt was $1,287.5 million; and stockholders’ equity was $9,278.1 million. Cash and short-term investments included $4,505.7 million held outside the United States, which Cognizant generally intended to reinvest abroad. The company reported approximately $400 million of remaining revolving-facility capacity and expected available cash, operating cash flow and facility capacity to cover operating needs for the next 12 months.
FY 2015 investing cash outflow was $1,370.6 million, mainly reflecting investment purchases and capital expenditure; financing cash outflow was $648.1 million, primarily reflecting debt repayments and share repurchases. Cognizant repurchased $460.0 million of stock during the year. It has not paid cash dividends and did not anticipate doing so in the foreseeable future.
Changes versus the prior comparable period
- Revenue increased 21.0%; management attributed growth to broad segment performance, customer spending, greater penetration of existing clients, expanded services and TriZetto. TriZetto accounted for $643.9 million of the year-over-year Healthcare segment revenue increase.
- All segments grew: Financial Services 16.7%, Healthcare 36.4%, Manufacturing/Retail/Logistics 12.0% and Other 17.4%. Healthcare growth included TriZetto.
- GAAP operating margin fell 1.1 percentage points to 17.3%. Management cited higher compensation and incentive costs and acquisition-related depreciation and amortization; a weaker Indian rupee and lower realized hedge losses partly offset these pressures.
- Net income rose 12.8%, slower than revenue growth, while net margin declined from 14.0% to 13.1%. Operating cash flow increased by $680.3 million.
- Debt declined from $1,637.5 million to $1,287.5 million. FY 2015 included $350 million outstanding under the revolving facility and $937.5 million under the term loan.
- The service mix shifted toward consulting and technology services, which grew 31.8% and represented 57.6% of revenue; outsourcing services grew 8.9% and represented 42.4%.
Outlook, risks, contingencies and unusual items
The filing provides no specific numerical FY 2016 revenue or earnings guidance. Management expected demand for cost savings alongside transformation and innovation, continued spending on application maintenance, infrastructure and business-process services, evolving digital technologies and regulation, currency volatility, and global economic uncertainty. Its stated priorities included investment in talent and digital services, expansion in Europe and other international markets, growth in strategic clients, selective acquisitions and cost discipline.
Key risks include intense competition and pricing pressure; wage and talent costs, particularly in India; reliance on financial services and healthcare clients and on North American demand; short-term and terminable contracts; execution and margin risk on fixed-price work (36.5% of revenue); currency movements and hedging; data security and privacy obligations; acquisition integration; and regulatory, tax, immigration, geopolitical and operational risks associated with global delivery. Management reported annualized employee turnover of approximately 19.1% for Q4 2015.
India tax holidays reduced FY 2015 tax expense and increased net income by approximately $201.4 million, or diluted EPS by $0.33. Management flagged potential changes to Indian tax incentives. Unrecognized tax benefits were $138.7 million; the timing and cash impact of resolution were not reliably estimable. Foreign-exchange cash-flow hedges had a $14.4 million net unrealized loss at year-end, and settlements of designated hedges reduced FY 2015 operating margin by approximately 0.57 percentage points.
Contractual obligations totaled $1,963.0 million, including $666.7 million of operating leases, $937.5 million of term-loan principal, $54.8 million of capital leases, and $76.4 million of fixed capital commitments. Cognizant was in compliance with its debt covenants. Management stated ordinary-course legal claims were not expected to have a material adverse effect; the maximum potential indemnification exposure was not determinable. Heavy flooding in Chennai in December 2015 did not materially affect FY 2015 results, and management did not expect a material FY 2016 impact. Management and the auditor reported effective internal control over financial reporting; the auditor issued an unqualified opinion on the financial statements.
Most important facts for investors to verify
- How much FY 2015 growth and future Healthcare performance depend on TriZetto, and whether acquired products and capabilities meet expected growth and integration objectives.
- Whether operating-margin pressure from compensation, incentives and acquisition amortization persists, and how much the reported non-GAAP margin depends on exclusions.
- Whether the company can sustain strong operating cash flow while funding investment, repurchases and debt service; also assess the location and potential tax cost of overseas cash.
- Exposure to Indian rupee movements, hedge settlements and changes in Indian tax incentives, including the material tax benefit recognized in 2015.
- Client concentration, fixed-price contract execution, and the impact of privacy, cybersecurity and regulatory requirements on costs or potential liabilities.