01—Abstract
Summary
Summary of the 10-K filed February 27, 2015. Cited figures are marked; the original filing is the authoritative source.
Cognizant (CTSH) closed 2014 with revenue of $10.26 billiona, up 16.1% from $8.84 billion in 2013, and GAAP diluted EPS of $2.35 (non-GAAP $2.60).
Growth was broad-based across all four industry segments, with Other (+20.3%) and Healthcare (+18.7%) leading, while Financial Services (41.8% of revenue) grew 15.3%. GAAP operating margin compressed to 18.4% from 19.0%, driven by higher compensation costs, subcontractor expense, and investment in growth, partially offset by a weaker rupee. Net income rose 17.2% to $1.44 billionb.
The defining event of the year was the November 2014 acquisition of TriZetto, a healthcare IT software and services provider, for approximately $2.63 billionc net of cash acquired. It was funded with $1.8 billion of cash on hand and a $1.0 billion term loan, with a $750 million revolver (of which $650 million was drawn at year-end). Total debt rose to about $1.64 billion from zero, creating a leverage covenant (debt-to-equity no more than 0.40x) that investors should monitor.
TriZetto contributed only $80.6 milliond of 2014 revenue, so its earnings impact is still largely ahead, and goodwill rose to $2.41 billion from $0.44 billion. Cash generation remains strong, with operating cash flow of $1.47 billion and cash, equivalents, and short-term investments of $3.77 billion at year-end, though $3.43 billion of that is held outside the U.S. The company has never paid a cash dividend, and it repurchased roughly $248 million of stock during 2014, with $814 million remaining under its authorization. Key risks include India wage inflation, rupee volatility (a $2.46 billion notional hedge book with a $102.6 million net unrealized loss), anti-outsourcing and immigration legislation, and concentration in financial services and healthcare.
02—Key points
Key Highlights
- Revenue grew 16.1% to $10.26 billion (2013: $8.84 billion), with all four segments growing 12% to 20%; North America was 76.8% of revenue.
- GAAP operating margin fell to 18.4% from 19.0%, while non-GAAP operating margin was 20.2% (2013: 20.6%), reflecting higher compensation, subcontractor costs, and reinvestment.
- GAAP diluted EPS rose to $2.35 from $2.02 (+16%); non-GAAP diluted EPS was $2.60 versus $2.27.
- TriZetto acquisition (Nov. 20, 2014) for about $2.63 billion net of cash, the largest deal in company history, adding healthcare software and services; it contributed $80.6 million of 2014 revenue.
- Total debt of $1.64 billion at year-end against zero in 2013, with a debt-to-equity covenant of 0.40x; $3.77 billion in cash and short-term investments.
- Operating cash flow of $1.47 billion, up 3.5%; $3.43 billion of cash is held outside the U.S., and management says it intends to keep those earnings indefinitely reinvested.
- Headcount rose about 40,100 to roughly 211,500 employees, and 97.1% of 2014 revenue came from clients that were customers at the end of 2013.
03—One dollar
04—Financials
Financial Highlights
Figures from 10-KFY2014filed February 27, 2015Financial Statements
FY2014 against FY2013
| Line item | FY2014FY2013 | Change |
|---|---|---|
| Revenue | $10.26B$8.84B | +16.1% |
| SG&A Expenses | $2.04B$1.73B | +17.9% |
| Operating Income | $1.89B$1.68B | +12.3% |
| Interest Expense | $3.00M$0 | — |
| Net Income | $1.44B$1.23B | +17.1% |
| EPS (Basic) | $2.37$2.03 | +16.7% |
| EPS (Diluted) | $2.35$2.02 | +16.3% |
| Shares Outstanding (Basic) | 608.00M604.00M | +0.7% |
| Shares Outstanding (Diluted) | 613.00M609.70M | +0.5% |
05—Questions
Frequently Asked Questions
Why did operating margin decline in 2014 despite strong revenue growth?
GAAP operating margin fell to 18.4% from 19.0%, mainly because compensation and benefit costs rose (net of lower incentive pay), subcontractor expense increased, and the company continued investing in growth. A weaker Indian rupee versus the dollar partly offset these pressures, and cash-flow hedge losses were smaller than in 2013. Management said it reinvests profit above a 19%–20% non-GAAP margin target back into the business.
What are the main financial risks from the TriZetto acquisition?
The deal added $1.0 billion in term-loan debt plus $650 million drawn on the revolver, creating interest and refinancing obligations. The credit agreement requires debt-to-equity of no more than 0.40x, and failure to comply could trigger default. TriZetto was excluded from the internal control assessment, and it represents about 28.1% of consolidated total assets, so integration and goodwill (now $2.41 billion) carry execution risk. The company also has to integrate TriZetto into its controls and cross-sell services to its clients.
How exposed is Cognizant to rupee and India-related risk?
The majority of employees and delivery centers are in India, and about 25% of global operating costs are rupee-denominated. The company hedges part of this exposure with forward contracts totaling a $2.46 billion notional value at a weighted rate of 64.8 rupees per dollar, which carried a $102.6 million net unrealized loss at year-end. Each 1% rupee move changes operating margin by about 20 basis points. Other India risks include wage inflation, the expiry of tax holidays in 2016–2024, and possible changes to the Minimum Alternative Tax regime.
Does Cognizant pay dividends, and how is it returning capital to shareholders?
No. The company has never declared or paid cash dividends on its Class A common stock and intends to retain earnings to fund growth. It returns capital through buybacks: in 2014 it repurchased about $248 million of stock, including a $58 million fourth-quarter program, with $813.9 million remaining under its $2.0 billion authorization, which runs through December 31, 2015. Management said that stock repurchases in 2015 will compete with acquisition activity and other cash needs.
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