Cognizant’s 2018 guidance is a blow to IT bulls

Cognizant Technology Solutions Corp. has reported a 9.8% growth in revenue to $14.8 billion for 2017. For 2018, the company said it expects growth of between 8% and 10%. But this includes tailwinds from currency and acquisitions, points out an analyst at a multinational brokerage firm.

In short, an apples-to-apples comparison would suggest a marginal deceleration in growth in the current year. This is a big blow for the so-called IT bulls, who are pricing in significant acceleration in growth for leading companies such as Tata Consultancy Services Ltd (TCS).

Analysts at Kotak Institutional Equities wrote in a note to clients last month that the TCS stock is pricing in 12-13% revenue growth for as many as seven years, and that too, at stable profitability. The company’s growth is estimated to be around 7% in this fiscal year, which means growth needs to jump by about five percentage points in the next year at the minimum.

TCS shares have corrected by less than 5% since Kotak’s note, which means its valuations are still pricing in a huge jump in growth.

Cognizant’s chief executive officer Francisco D’Souza said on a call with investors that he doesn’t see any meaningful difference in the demand outlook between the beginning of 2017 and 2018. In both years, the company’s growth guidance is similar at 8-10%. “The visibility is the same as last year,” he said.

The company’s guidance for the March quarter, too, suggests a soft start to the year. Adjusted for currency tailwinds, growth is expected to be between 0.6% and 1.6%, points out the above-mentioned analyst. This means that the asking growth rate is fairly high in subsequent quarters, he adds.

Cognizant’s shares, meanwhile, jumped as much as 6% in early trading on the Nasdaq, thanks to its bullish guidance on margins. The company has tightened its belt considerably after an intervention by activist investor Elliot Management Corp. a year ago.

Apart from reporting higher margins, Cognizant has also raised dividend payouts, resulting in greater return to its shareholders. Indian companies such as TCS, on the other hand, are struggling to hold margins because of pricing pressure in the traditional services segment.

As such, the rally in Cognizant shares is nothing that Indian IT stocks can take comfort in. If anything, Cognizant results should act as a reality check on the sky-high valuations of Indian IT stocks, which are trading higher than their historical averages, even though there are no clear signs of a meaningful recovery in growth.livemint