Analysis: Expanding Cognizant to keep "growth stock" tag

By S. John Tilak

BANGALORE (BestGrowthStock) – Cognizant (CTSH.O: ) may well have joined the exclusive club of large technology outsourcers, but its days as a growth stock are far from over.

Consistent market share gains, a recovery in the economy and the continued rise of the $60 billion Indian outsourcing sector will allow the company to grow at a blistering pace for at least the next three to four years.

The heady growth is helping the company, which has most of its employees and development centers located in India, become one of the top investment pieces among large technology stocks.

“Relative to IT services companies, they have definitely differentiated themselves in a favorable light. Cognizant is our favorite large-cap idea in IT services,” UBS analyst Jason Kupferberg said.

Cognizant Technology Solutions competes with India-based outsourcers such as Tata Consultancy (TCS.BO: ), Infosys Technologies (INFY.BO: ) and Wipro (WIPR.BO: ), as well as U.S. firms Accenture (ACN.N: ), Hewlett-Packard (HPQ.N: ) and IBM (IBM.N: ).

In the last five years, Cognizant’s profit and revenue have risen five-fold. Its shares have more than doubled.

With a market capitalization of $15 billion, the company is expected to post revenue of $4 billion in 2010, according to Thomson Reuters I/B/E/S.

“A stock that has over $4 billion in revenue and is growing at over 20 percent a year qualifies as a growth stock,” Kaufman Bros analyst Karl Keirstead said.

Revenue rose 16 percent and 32 percent in 2009 and 2008, years of the downturn. Before that, it grew 50 percent and 61 percent in 2007 and 2006, respectively.

Its 2010 forecast works to a growth of at least 20 percent. Most Wall Street analysts view the outlook as conservative and expect Cognizant to raise it in the course of the year.

Analysts expect the company to post revenue growth of 26 percent in 2010.

“The only argument to suggest that Cognizant’s days as a growth stock are numbered is if you think the Indian outsourcing model has fully matured. I don’t think that is the case,” said Keirstead.

The Indian information technology and business process outsourcing sector is expected to reach $225 billion in revenue by 2020, according to consultancy McKinsey & Co and Indian software industry association Nasscom.


The company’s valuation is compelling. At 22.3 times forward earnings, the stock is trading at a 54 percent premium to its peer group, according to Thomson Reuters StarMine data.

“When you look at the big-cap tag — with companies over a market cap of $10 billion — there are not many companies that grow at more than 15 percent a year,” said Jeffrey Lin, a technology analyst at TCW, a Cognizant shareholder.

“One of the reasons why this company gets a relatively high valuation is that there’s a scarcity value for pure-growth companies of this market cap size.”

UBS’ Kupferberg said, “They’ve widened the gap in terms of their own growth rate versus that of their competitors. Therefore the stock deserves a valuation premium.”

Analysts say the stock could go higher. The mean price target for Cognizant shares is $57.50, implying analysts expect the stock to rise 15 percent in the next 12 months.

Twenty three analysts have a “strong buy,” “buy” or “outperform” rating on the stock. Three have a “hold” rating and none rate it a “sell.”

“Provided it can diversify its revenue away from financial services in the next 3 years to 5 years and demonstrate market penetration in healthcare and telecommunications, the stock stands a very good chance of having a significant uptick,” said Steven Nathasingh, managing director of research firm Vaxa.

Financial services contributed 43 percent to revenue in 2009.

Also, nearly 80 percent of its revenue comes from North American customers.

“For Cognizant to be considered a premier player, it needs to make more headway in Europe and Asia,” Gartner Invest analyst Sandra Notardonato said.

“We need to see a little bit more presence, more brand, more market share in these other geographies. That’s what’s going to matter 5 years from now.”


Cognizant’s strategy of maintaining operating margins of 19 percent to 20 percent and reinvesting the excess dollars to grow its revenue seems to be paying off.

“You’re seeing top-line growth out of the company’s sustainable operating margins, which makes a very attractive story,” Notardonato said.

Margins at its rivals such as Infosys and TCS are higher.

But Cognizant has outpaced them by a big margin in terms of revenue growth. In the last fully-reported year, it grew four times as fast the average growth rate of Infosys and TCS.

Other large-cap technology stocks showing high revenue growth include Apple (AAPL.O: ), Google (GOOG.O: ), VMware (VMW.N: ) and (CRM.N: ).

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(Reporting by S. John Tilak; Editing by Saumyadeb Chakrabarty)

Analysis: Expanding Cognizant to keep “growth stock” tag