Why Cognizant Can't Satisfy Its Skeptics

Find out why the IT services provider left some investors wanting more.

Dan Caplinger
Dan Caplinger
Aug 2, 2018 at 9:48AM
Technology and Telecom

The information technology sector has been a hotbed of growth for decades, and Cognizant Technology Solutions (NASDAQ:CTSH) has tapped into the need within the corporate world for assistance in coming up with IT solutions. Over time, Cognizant has been a leader in providing the guidance necessary for its customers to build out a digital infrastructure that works well for their respective organizations.

Coming into Thursday's second-quarter financial report, Cognizant investors wanted to see evidence that the company was taking maximum advantage of the potential available in the industry. Instead, what they got was revenue growth that didn't quite live up to expectations. Skeptics continue to question whether Cognizant can overcome trends toward slowing growth that could jeopardize the IT specialist's long-term position in the industry, and today's results didn't fully answer their concerns.

Glass wall reading "Cognizant Accelerator" in front of an office conference room.

Image source: Cognizant.

Sales gains keep slowing down

Cognizant's second-quarter results saw some troubling trends continue even as profit growth was impressive. Sales for the IT consultant were up just 9% to $4.01 billion, falling short of the 10% projection among those following the stock. GAAP net income was once again lower than year-earlier levels, but after accounting for one-time charges, adjusted earnings of $1.19 per share were quite a bit higher than the $1.10-per-share consensus forecast among investors.

The main drag on Cognizant's growth came from its financial services segment, where revenue was up less than 5% from year-earlier levels. That might not sound like a big problem, but when you look at the company's other key focus areas, all of them managed to produce double-digit year-over-year growth rates in sales. Particularly noteworthy was the 10% rise in healthcare-related revenue, which continued to close the gap toward becoming the leading contributor of sales for Cognizant overall. The products and resources division posted 12% growth, while the smaller communications, media, and technology unit led the way with a 16% top-line growth rate.

Cognizant kept trying to diversify its geographical exposure, but North America looks like it will be the company's primary source of revenue for the foreseeable future. Top-line growth in the company's home region was up nearly 8%, and North America still makes up three-quarters of Cognizant's overall sales. European sales were up 19%, with sluggish conditions in the U.K. holding back an impressive 30% growth rate throughout the rest of Europe. However, outside Europe, international sales were up just 4%.

CEO Francisco D'Souza tried to keep the results in a broader context. "As our second-quarter results confirm," D'Souza said, "we're making solid progress on our plan to accelerate our shift to digital services and solutions." The CEO also noted that the IT services provider sees plenty of opportunities to invest in further growth going forward.

Can Cognizant grow faster?

Cognizant believes that its incremental approach should help build its business at a healthy, sustainable rate. In D'Souza's words, "We've been methodical in developing, aligning, and applying our portfolio of skills, services, and solutions to clients' needs, so they can become fully digital organizations."

However, some investors weren't entirely happy with Cognizant's guidance for the remainder of the year. For the third quarter, Cognizant expects revenue of $4.06 billion to $4.1 billion, and earnings should be at least $1.13 per share on an adjusted basis. Those numbers were slightly below the consensus forecasts among those following the stock. In addition, although Cognizant boosted its full-year earnings guidance by $0.03 to $4.50 per share, the fact that it topped second-quarter projections by about $0.10 per share had many expecting a larger increase.

Cognizant shareholders reacted negatively as a result, and the stock was down more than 6% in premarket trading following the announcement. Given the huge opportunity in the IT space, Cognizant has the ability to do a lot with its leadership position in the industry. But what skeptics want to see is for the company to fight more effectively against competitors and return to accelerating growth. If it can do that, Cognizant should finally put its naysayers' concerns to rest once and for all.

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