高知特 (CTSH) 2014 Q2 法說會逐字稿

Ladies and gentlemen, welcome to the Cognizant Technology Solutions second-quarter 2014 earnings conference call.

(Operator Instructions)

Thank you. I would now like to turn the conference over to David Nelson, Vice President, Investor Relations, and Treasurer at Cognizant. Please go ahead, sir.

Thank you, and good morning, everyone. By now, you should have received a copy of the earnings release for the Company's second-quarter 2014 results. If you have not, a copy is available on our website, Cognizant.com. The speakers we have on today's call are Francisco D'Souza, Chief Executive Officer; Gordon Coburn, President; and Karen McLoughlin, Chief Financial Officer.

Before we begin, I would like to remind you that some of the comments made on today's call and some of the responses to your questions may contain forward-looking statements. These statements are subject to the risks and uncertainties, as described in the Company's earnings release and other filings with the SEC. I would now like to turn the call over to Francisco D'Souza. Please go ahead, Frank.

Thank you, David, and good morning, everyone. Thanks for joining us today. I'll start the call today with the highlights of our second-quarter results, and our revised outlook for the rest of the year. I'll also take some time to put our results in the context of the broader industry trends that we're seeing, using as examples some significant transformational deals that have recently been awarded to us. I'll then pass the call on to Gordon to discuss our detailed operating results, and Karen will provide further details on our financial metrics and guidance.

For the second quarter, we delivered revenue of $2.52 billion, at the midpoint of our guidance range. Our non-GAAP operating margin at 21% was higher than our target range for the quarter, and positions us well to absorb wage increases and promotions that take effect during the second half of the year. And in support of our continued confidence in the business, this morning we announced an expansion of our existing share repurchase program to $2 billion. Karen will give you more details on this expansion shortly.

We delivered solid performance in the second quarter. But due to weaknesses in certain clients, and longer than expected sales cycles for certain large integrated deals, we are adopting a more conservative stance for the remainder of the year, and revising our revenue guidance to at least 14% for 2014, while maintaining our prior full-year non-GAAP EPS of at least $2.54.

More specifically, there are two main reasons for this revised guidance. First, as we've discussed with you in the past, we are seeing a trend in the market towards larger integrated deals. While these deals represent a strong source of revenue for Cognizant, certain deals took longer than expected to close, leading to delays in revenue ramp-up. Second, we continue to experience weakness in certain clients in North America and the UK, that recently underwent leadership changes, a situation that we described to you last quarter. While we believe that our client relationships remain sound, we will not generate as much revenue in 2014 from some of these clients as we had previously expected.

While I'm disappointed that our full-year revenue growth will be below our prior expectations, we remain optimistic about the evolving market opportunity ahead of us. I'd like to spend a few moments putting our results and outlook in the context of what we're seeing in the market, using some specific large important client situations as illustrations. We've spoken to you in past quarters about our clients' dual mandate to run better and run different.

On one side of the dual mandate, our clients are under constant pressure to become more efficient in their current operations, or to run better, and they continue to look to us to provide ever greater levels of productivity in their core operations and legacy technology environments by combining multiple service areas, applying advanced automation, and implementing best-in-class operations and lean Six Sigma methodologies. Gordon will speak to you shortly about the details of three large deals of this nature that together represent approximately $3.5 billion in total contract value.

The largest of these deals is with Health Net, a top 10 managed-care organization in the US. We've signed a letter of intent with Health Net and expect to finalize the contract before the end of Q3. The Health Net deal alone represents around $2.7 billion in total contract value, and is the single largest TCV deal in the history of Cognizant. This engagement builds on our longstanding relationship with Health Net for close to 10 years.

Judging by our pipeline, we are seeing increased opportunity in these types of engagements and anticipate this to be a long-term trend. Winning and delivering these deals requires a broad range of integrated capabilities, in which we have been investing over many years: a strong consulting front end, solid client-facing skills, deep domain knowledge, and at-scale capabilities in technology and operations. And behind deals like these lies a deep sense of trust that our clients place in us, trust that comes from multi-year client relationships and deep levels of engagement within our clients' organizations.

On the other side of the dual mandate, our clients continue to drive -- the drive to adopt new digital technologies to gain competitive advantage or to run different. Where, in run better, we're seeing larger integrated services deals, our run-different engagements tend to be sharply-focused value-focused initiatives that often include the use of new SMAC or digital technologies to reshape aspects of our clients' businesses or industries. Quite often, these tend to be IP-driven, non-linear, outcome-based engagements.

For example, we were recently chosen by TranCelerate BioPharma Incorporated, an industry body with membership representation from 90 major pharmaceutical companies, to develop a first of its kind, subscription-based platform that will transform the way pharmaceutical companies collaborate on clinical trials. TranCelerate's mission is to bring the global pharmaceutical R&D community together, so as to accelerate and simplify the process of drug development.

The shared-investigator platform, built as an industry utility, will enable the pharmaceutical industry to bring standardization and consistency to clinical trials. In keeping with our past practice, we continue to invest in building our capabilities in new technologies and service areas, as well as in new markets and geographies to meet our clients' evolving needs. Our initiatives in digital and SMAC technologies continue to show great traction, and drive deeper engagement with our clients.

Let me close by saying that, while we know that you are disappointed in our revised revenue outlook for the year, I can assure you that all of us at Cognizant are even more disappointed. But let me be clear: we believe that the market opportunity remains strong, and that Cognizant is well positioned to capture a disproportionate share of the growth in the market over the coming years. A new report by ISG, the sourcing advisory group, indicates that demand in the market is at record-high levels. This is also reflected in our strong order pipeline.

As part of our recent quarterly management meeting, our global leadership team assembled to take stock and review areas of focus, in view of our revised guidance for the year. Post these discussions, it's clear to us that we have the right strategy, and we remain confident in the long-term outlook of our business. Our portfolio of services across the three horizons has never been stronger, and we continue to hire in large numbers. This quarter, we had a net addition of approximately 8,800 people to our Company, our highest since the third quarter of 2011.

The run-better, run-different dual mandate for our clients is more real than ever, and we will continue to push harder in the coming quarters to continue to be our clients' partner of choice. With that, I'll now hand the call over to Gordon to share more about our performance, and to Karen to provide financial details. I'll be back for the Q&A. Gordon?

Thank you, Francisco. We're pleased to be able to speak with you today about three significant transformational deals, including an engagement with the largest total contract value, or TCV, in Cognizant history. But before I get into the details of these relationships, I want to first discuss our view on current market demand, and our strategy to deliver long-term industry-leading performance.

While our near-term 2014 revenue outlook of at least 14% growth is below our original expectations, we believe that these near-term, client-specific impacts we are experiencing are not a reflection of market environment or our approach to the broadening market. We remain confident in our strategy and long-term prospects.

Our commitment to industry-leading growth is something we take very seriously, and we believe that our three-horizon model is the right strategy to position us for industry-leading growth over the longer term. Given that overall market demand remains healthy -- and geographies beyond our traditional markets are underpenetrated and showing real signs of adopting our delivery model -- it is more important than ever to continue investing to further strengthen and differentiate our capabilities across our three growth horizons.

Within horizon one, we're seeing a shift towards transformational deals, and we are strengthening our capabilities and client-value proposition for these opportunities. Within horizon two, which includes business process services, or BPS, consulting, and IT infrastructure services, we believe that the market is still young, and we continue to invest and scale to compete and win deals based on our industry knowledge and ability to structure integrated solutions for clients. And finally, we're pleased with the revenue and mind-share traction we are gaining in our newer horizon-three businesses and services, where we have competitive offerings and differentiation, with a strong opportunity to penetrate our top accounts.

For years now, we have been talking about the increasing importance of transformational deals that provide scale and leadership, and we have historically won a number of these deals, particularly in financial services and healthcare. With these deals, clients look to make large-scale changes to the way they operate significant parts of their businesses, or IT organizations. The goal is to dramatically improve the performance in multiple areas of their business. Increasingly, these deals involve solutions integrating multiple service offerings.

Let me now speak about three examples of these types of deals. Combined, these three deals are expected to generate approximately $3.5 billion in TCV for us. We anticipate these deals will ramp over the duration of the contracts, with the expected incremental revenue in 2015 of at least $200 million.

This morning, we are announcing the signing of a letter of intent for a multi-billion dollar engagement with Health Net, which provides and administers health benefits to approximately 5.8 million members across the country. At a total contract value of $2.7 billion over seven years, this engagement is significant from both a revenue and strategic perspective. Subject to contract finalization and applicable regulatory approval, Cognizant will provide end-to-end business services, including processing membership and claims, as well as providing transformational IT and underlying infrastructure services.

Included within this deal is access to certain intellectual property related to the platform used to run the operation of a healthcare payer organization. We believe that this will allow us to play an even larger role in the healthcare industry ecosystem going forward. The business model resulting from this deal is expected to be a benchmark for the industry, enabling Health Net to improve its quality of service, reduce G&A spending, and increase its agility in launching new products and participating in new markets.

Additionally, we recently won a multi-year transformational deal with a financial services company. This is a good example of how our long-term relationship with a client positions us to win a large integrated deal, covering all lines of business. Our track record in delivery gave the client confidence in our capabilities to leverage some synergies between IT and BPS, and to be responsible for efficiently running their core processes from the origination of new business, to back-office support, to maintaining critical systems. Providing a comprehensive solution will help not only to improve and streamline their core processes, but enhance insight into their business.

Finally, we were selected by [War Work], a large European consumer goods manufacturer and direct sales company to simplify, standardize, and centralize the company's IT infrastructure. The transformed IT infrastructure environment will enable this client to achieve higher levels of business agility and service quality, while sharpening its focus on its core competencies and driving down cost. Furthermore, this is a good example of how we are beginning to leverage the relationships of last year's C1 acquisition to further grow our business in Europe. These larger transformational opportunities are a testament to our ability to integrate multiple services, including our core IT services, as well as our horizon-two services of BPS consulting and IT infrastructure, and often our SMAC capabilities.

Let me now turn to a detailed discussion of our horizon-two service lines. Our BPS practice had a solid quarter, gaining traction through several strategic wins, as well as through the growth of existing project work and expanding into new divisions at existing clients. Capital markets and mortgage services demand in banking remains strong, as does underwriting in property and casualty insurance, and claims processing and membership enrollment, and revenue cycle management in healthcare. Cognizant Business Consulting, or CBC, continued its pace of above-Company average growth.

As we have discussed in previous quarters, CBC is often a key factor in our ability to win and deliver results in these larger transformational deals. By incorporating consulting and advisory work upfront, we provide our clients with comprehensive and integrated solutions, thus helping them to transform their organizations. For example, CBC recently served as a retail client's digital platform partner in developing their road map to drive their digital transformation by launching offerings such as in-store ordering, multi-channel fulfillment, and mobile point of sale. CBC takes a business-led approach in formulating solutions and plays a key role in the implementation of these solutions.

IT infrastructure services had another strong quarter. We're well positioned in this growth market, as we are increasingly competing for comprehensive deals requiring the integration of end-to-end IT infrastructure management and application management. The engagement we mentioned earlier with War Work is a good example of this type of win.

From an industry perspective, our banking and financial services segment grew 3.4% sequentially and 16.2% year over year, driven primarily by strength in insurance, where there's a growing focus on end-to-end managed services. More broadly within BFS, underlying demand drivers from regulatory compliance, real risk time monitoring, and fraud and trade surveillance support longer-term growth. Additionally, our Financial Services clients are looking to us to build and integrate SMAC solutions.

Growth in healthcare, which consists primarily of our payer, pharmaceutical, and medical device clients accelerated in the quarter, up 4.8% sequentially and 19.2% year over year. Within the pharmaceutical sector, several of our key pharmaceutical clients continue to work through the challenges associated with their drug pipelines, and with the patent cliff, though we are beginning to see a steady pickup in demand.

After significant step-up investments in 2013, many of our payer clients are taking a more cautious approach to incremental spending this year, especially associated with their activities with public and private health insurance exchanges. However, we are confident in the longer-term opportunities, given the significant disruption in the healthcare market that will continue to evolve over the coming years. The engagement with healthcare -- with Health Net will further enhance our ability to provide clients with both IT services and Cognizant-owned intellectual property platform-led solutions as they face these challenges.

Our retail manufacturing segment was relatively flat sequentially, and up 11.4% year over year. In retail, continued pressure on discretionary spending among major clients has driven much of the softness in the quarter. Although revenue and manufacturing logistics was softer in the quarter, we are seeing clients focus on both solutions that can drive operational efficiencies, as well as embracing SMAC solutions, in the areas such as internet-enabled devices with built-in intelligence to improve supply chain visibility and logistics operations, and promote driver engagement through enhanced throughput.

Our other segment, which includes communications, information, media and entertainment, and high-tech, showed continued recovery, with 10.4% sequential growth and 20.8% growth year over year, primarily driven by increased traction with both communications and high-technology companies, where we have seen a pickup in discretionary spending.

From a geographic standpoint, North America improved from a slow start at the beginning of the year, growing 5% sequentially, and 15% year over year. Following a strong first quarter, revenue from Europe declined about 1% sequentially, but grew 20.4% year over year. The slowdown was driven by the UK, where we saw a 4.1% sequential decline in Q2. As Frank mentioned, the UK weakness came primarily from retail and financial clients, which have experienced leadership changes.

Continental Europe saw a 4% sequential growth, and 30.5% growth year over year, partially attributed to our 2013 acquisitions. We expect solid growth in the Continent, and we anticipate that the structural shift towards larger, multi-year outsourcing programs will continue to drive opportunities over the coming years.

The rest of world continued to show good growth, up 5.5% sequentially and 26.6% year over year. We added several new logos in the APAC region recently and remain encouraged by the growth prospects in that region. Now, let me turn the call over to Karen, to provide details on our numbers.

Thank you, Gordon, and good morning, everyone. Second-quarter revenue of $2.52 billion represented growth of 3.9% sequentially, and 16.5% over Q2 2013. Non-GAAP operating margin, which excludes stock-based compensation expense and acquisition-related expenses, was 21%, above our target range of 19% to 20%, while our GAAP operating margin was 19.4% for the quarter. Non-GAAP EPS of $0.66 exceeded our previous guidance by $0.04.

Consulting and technology services, and outsourcing services, represented 52% and 48% of revenue, respectively, for the quarter. Consulting and technology services increased 6.2% sequentially, and 20.9% year over year. Outsourcing services increased 1.5% sequentially, and 11.9% from Q2 a year ago. During the second quarter, 35% of our revenue came from fixed-price contracts, and as expected, overall pricing was stable. We closed the quarter with 1,242 active clients, and added 7 strategic customers, bringing our total number of strategic clients to 257.

As we discussed on the first-quarter earnings call, we have accelerated the rate of share repurchase. In Q2, we repurchased 2.1 million shares for a total cost of $101 million. To date, we have repurchased approximately 34.1 million shares, for a total cost of approximately $1.13 billion, under the previous share repurchase authorization of $1.5 billion.

Today, we are pleased to announce that the Board has authorized a $500-million increase in share repurchase authorization, bringing the total repurchase authorization to $2 billion, of which $872 million is still unutilized. Our fully diluted share count for the quarter was 612.2 million shares, a decrease of approximately 730,000 shares from the first quarter.

Our balance sheet remains very healthy. We finished the second quarter with approximately $4.13 billion of cash and short-term investments, up by approximately $264 million in the quarter ending March 31, and up by approximately $1.23 billion from the year-ago period.

During the second quarter, operating activities generated approximately $408 million of cash; financing activities were approximately a $93-million use of cash; and capital expenditures were approximately $39 million for the quarter. Receivables were $1.8 billion, and we finished the quarter with a DSO, including unbilled receivables, of 76.7 days, up by approximately 1.5 days from the year-ago period. The unbilled portion of our receivables balance was approximately $298 million, up from $267 million at the end of Q1. We billed approximately 57% of the Q2 unbilled balance in July.

Let me now provide some color on our business and operating metrics for the quarter. As Francisco mentioned earlier, we ramped up hiring during the quarter, with approximately 8,800 net new hires, our highest net addition since Q3 2011, reflecting our long-term growth expectations for the Company. Annualized attrition of 16.9% during the quarter, including BPO and trainees, was down by almost 200 basis points from the year-ago period.

Total headcount at the end of the quarter was approximately 187,400 employees globally, of which approximately 175,500 were service-delivery staff. 34% of our new hires were direct college hires, while 64% were lateral hires of experienced professionals. Utilization declined slightly on a sequential basis, as we on-boarded the 8,800 net new hires. Offshore utilization was approximately 74%; offshore utilization, excluding recent college graduates who are in our training program, was approximately 82%; and on-site utilization was approximately 93% during the quarter.

I would now like to comment on our outlook for Q3 2014, and for the full year. As Francisco mentioned, while we are not where we expected to be, in terms of revenue, for the second half of the year, the overall services market remains strong, with tremendous opportunity for growth worldwide and across our regions and practice areas. However, given weakness at certain clients and longer-than-anticipated sales cycles for certain large integrated deals, we are revising our full-year revenue growth expectation to at least 14% growth, down from our previous expectations of at least 16.5% for the full year.

For the third quarter of 2014, we expect to deliver revenue of between $2.55 billion and $2.58 billion. During Q3, and for the second half of 2014, we expect to operate within our target non-GAAP operating margin range of 19% to 20% as we absorb the raises and promotions in the second half of the year.

For the third quarter, we expect to deliver non-GAAP EPS of at least $0.63. Our non-GAAP EPS guidance excludes net non operating foreign currency exchange gains and losses, stock-based compensation, and acquisition-related expenses and amortization. This guidance anticipates a share count of approximately 612 million shares, and a tax rate of approximately 26%.

Our full-year non-GAAP EPS guidance is unchanged. We expect to deliver at least $2.54 for the full year. This guidance anticipates a full-year share count of approximately 613 million shares, and a tax rate of approximately 26%. Now, we would like to open the call for questions. Operator?

(Operator Instructions)

Our first question is coming from the line of Tien-tsin Huang with JPMorgan.

So yes, your revenue outlook cut looks like $320 million, and I'm curious how much of that $320 million is due to weakness in the client spend, as you called out versus a longer sales cycle? And as a follow-up do you expect that lower client spend to come back, or has it lost to a vendor consolidation or what have you? Thank you.

Tien-tsin, It's Gordon. The majority of it is the client-specific issues, the smaller piece of it is the longer sales cycle on the transformational deals, and it's a combination. Some of it is, clients aren't spending quite as much as we expected on some projects we were anticipating, and some of it is delays in decisions where clients that had changes in leadership, so but certainly it's more related towards client-specific issues at a handful of clients.

Do you expect it to come back at some point, Gordon, and how broad-based, are we talking about a handful of clients, or something smaller?

Tien-tsin, it's Frank. Look, I think we're talking about a small handful of clients, some of our larger clients, and in terms of the spend coming back, I think our relationships across-the-board remain very healthy. But you know given where we are in the year, the dynamics of our business as such that, if you don't start projects and ramp up in the early part of the first half of the year, that it's hard to make it up on the back end. But as we go into next year look, I think we are positioned well with our client base, depending on where budgets come out and so on and so forth, you know those dynamics, I think we're well-positioned to capture our fair share of what our clients are going to be spending, and these same clients in the longer term.

Understood, thanks.

We'll move on to the next question, which is coming from the line of Edward Caso with Wells Fargo.

Could you talk a little bit about the competitive framework here? It sounds like you and some of your competitors are starting to chase larger and larger transactions, and wondering how much a greater role the advisors now play in it, as opposed to your old model of penetrate and radiate? What's the framework here? And also talk within the concept, I know you said pricing was stable but what's happening with total cost of ownership, and what that implies for revenue growth? Thank you.

Ed, it's Frank. Let me talk about the first part, and I'll turn it over to Gordon for the second piece of your question. For several quarters now, we've been talking to you about this trend towards larger, more integrated services deals, and that's really driven at the fundamental level by the fact that increased, there's an increasing body now of evidence and a track record at Cognizant that combining multiple service areas together, the traditional application development and application maintenance, IT infrastructure and BPO, allows us to combine those service areas together in creative ways, apply techniques like lean Six Sigma, advanced automation and so on, to drive even greater levels of productivity and efficiency.

So as our clients face this dual mandate, which is very, very real, of how do I run my operations better in order to fund the investments that I need in order to run different, this trend towards larger integrated deals is something that we're seeing more and more of. I think in that context, the role of the advisors certainly is more pronounced than it had been in our traditional model, but I would also say that the traditional model is still very much the large piece of the business, where it's a more land and expand kind of a model where we win a client, tend to lose some initial project and then expand from there, so that's still the big piece of our revenue growth. I just want to make that clear because we spent a lot of time in our prepared comments talking about these transformational deals, which is an important trend, but it's still a smaller part of the overall revenue mix.

And it's Gordon. Your question about are people focused on price or rate card versus total cost of ownership. Clearly, in most cases, it's total cost of ownership, particularly where intermediaries are involved. Because when you focus on total cost of ownership, you can have a win-win situation which is the basis for long term success so the focus is on efficiency, it's on effectiveness. As Francisco mentioned, it's on automation, it's on process improvement, and as long as we can deliver a lower cost of ownership to the client, that's what they care about, rather than what the rate card is.

So does that imply lower revenue growth for you, given this TCO pressure, basically less revenue per person?

It's not less revenue per person, because if it's lower cost of ownership and employing the efficiency, automation, and process improvement levers, I can do the work with less people. So yes, it can result to providing the same service with less people and therefore less revenue, but remember, that's on the run better side, and what clients are doing, is they are freeing up those dollars, and then investing them on the run different side. So as long as we can provide services on both sides of the house, that model works well for us.

Thank you.

Our next question is coming from the line of Bryan Keane with Deutsche Bank.

Just wanted to ask the weakness in outsourcing, that's two quarters in a row, just trying to figure out if something structurally is going on. I don't know if SaaS is having an impact, cloud, obviously, are the two themes that we see out there. Does that have any impact on the outsourcing business? And second question, just on wage hike expected what percentage wage hike are you expecting in the third? Thanks so much.

Sure Bryan, it's Karen. I'll take the first part and I think Gordon will take the wage part of your question. So as you mentioned, the outsourcing growth has been a little bit slower in the first half of this year, sequentially. In Q1, we talked about where we had seen a couple clients who were actually redirecting revenue dollars from run better to run different, and that was the beginning of a bit of a shift that we had seen there.

I think a little bit of that trend continued in Q2, where clients as Gordon was just talking about right there, looking to optimize their spend, redirect investment dollars towards the run different and more transformational side of their business, but as we look out over the near term and the long term, there's actually a tremendous amount of growth for the outsourcing segment of our business. If you keep in mind, outsourcing includes not just the application maintenance side of the business, but also the BPO and infrastructure services which are continuing to grow faster than Company average, and certainly will for the foreseeable future.

But also if you think about the three transactions that we talked about this morning, that Gordon talked about with the Health Net transaction, the War Work transaction, and the financial services client, the vast majority of that revenue actually will be part of what we call the outsourcing segment, because it includes application, maintenance, infrastructure and BPO. So I think you will continue to see growth out of that segment moving forward.

And on your question about wage inflation, first of all, our increases and promotions, vast majority are effective July 1. We're going to be in line with the other leading players, so that translates into roughly 10% wage inflation offshore, and on site wage inflation in the lower single digits.

Okay, thanks so much.

Thank you. Our next question is coming from the line of Darrin Peller with Barclays.

Look, your guidance obviously implies lower trends into the second half of the year, and when we still see some strength now in the financials and healthcare vertical, and you obviously call out some larger transformational deals like Health Net and others that you've won, I think it would be helpful for the market if you can just provide more detail regarding the pipeline that you actually have now, beyond just those three large deals, with respect to maybe geography verticals. And maybe give us a little confidence on whether or not the run rate of growth should be able to improve from what you're seeing in the second half, which is really roughly in the 10% to 11% range.

So first of all, the larger transformational deals, the revenue largely kicks in next year, not in the second half of this year, because we have to get regulatory approvals, in addition to all that. So that helps drive next year. We are seeing, we are pleased with the pipeline. You'd look at horizon two, as an example. We can now compete in larger deals, because this is one of those things, you had to have scale to compete in larger deals, we now have the scale. So when I look at the pipeline, I don't just look at number of deals, but I look at the size of the deals, and the size is clearly materially larger.

When I look at our traditional horizon one businesses, clearly, Europe is a lot better than it had been, and that's a combination of the markets more open to it, and quite honestly, our execution has gotten better as we've done some acquisitions, and as we've won some marquee names. We're picking up some traction in the Middle East.

In the short-term, certainly BFS and healthcare, we expect to be a bit soft, a little too early to know what that will be for next year in sort of the core, less so the pipeline, but just the growth of the core existing customers. But I want to be and we tried to stress this on the earlier part of the call, this is not -- our adjustment in guidance is not due to the market, it's due to specific clients, and unfortunately, sometimes you are fortunate with what your specific clients are doing and sometimes you aren't fortunate. This time, many times we've been fortunate in the past, this time we've been unfortunate, but it is isolated to a relatively -- majority of the impact is isolated to a relatively small number of clients. The overall market demand, we're actually feeling quite good about, and I think you've seen that evidence from many of our competitors.

Given those points, should we expect that the 2015 growth rates to look better, only because if it's just a specific few clients, the core underlying organic story is still pretty much unchanged. And it looks like you're adding larger transformational business as well, and lastly, these clients could potentially come back at some point.

Look, it's Frank. I think the fundamentals of our industry remain very, very strong. Our thesis has been that we operate in a very large market that's highly fragmented, and it gives the opportunity for us to gain incremental share, and those fundamentals still hold. And so I think we're very confident that with our strategy of reinvesting in the business, there are still a lot of long-term growth opportunities, and in the long run, I think we can continue to drive industry-leading growth.

It's too early for me to comment on 2015 specifically, as you know, we go through the cycle towards the end of the year, and in the early part of the subsequent year, as clients go through the budgeting process so on and so forth. But when I step back and look at the overall situation, we're going through this big transition in technology. That's creating this dual mandate for our clients, we're still in a fragmented market, we are underpenetrated in key geographies around the world. I think those fundamentals remain strong, and allow us to, if we continue to invest, to maintain industry-leading growth.

Thanks.

Thank you. The next question is coming from the line of Joseph Foresi with Janney Montgomery Scott.

It sounded like we saw delays in project ramps in the back half of the year. What gives us confidence that doesn't continue on some of these new projects, and will you be taking over any assets on the new projects?

Joe, I'm assuming you're talking more about the larger transformational deals. It took a little longer just to get all our ducks in a row, and then you run into some year-end timing of when you start doing the work, so some of that did get pushed out from what we initially expected. We will be picking up some intellectual property as part of one of these deals, which we think we can leverage with other clients, so there will be some asset pick ups, as part of this, in terms of intellectual property. And we're taking on people who we think will be wonderful contributors on a long term basis.

Okay, so maybe you could just give us some idea of like how the longer-term transformational deals differ from the traditional businesses that you normally do, and give us some idea of how that translates into revenues, as we start to see larger pieces of this in your pipeline?

I'm not sure they differ materially from a revenue standpoint. As they start ramping up, we recognize revenue depending on the deal, if it's time and material, or if it's fixed price. So I'm not sure the dynamics are any different, other than when do you start the ramp up. The margin profiles, those will differ from client to client, some are normal margin profiles from day one, others you have an investment phase, but obviously, we have the room for that within our existing margin ranges.

Thank you.

Thank you. The next question is coming from the line of Steven Milunovich with UBS. Please proceed with your question.

Regarding the client-specific issues, how much of those are due to leadership change versus customers not spending as much as you expected, and when you see leadership changes, what's your history there? Will the new leaders come in and decide to do something different, or does it just turn out to be a delay in business?

The answer is just a combination. There's some cases where you have a new leader come in and they want to reevaluate overall IT priorities. Other times they want to reevaluate their sourcing strategy, but normally they just want to understand what they're spending money on. In other cases it's situations where a client is just going to spend less money, and that's going to impact us as well, or that their priorities of sourcing it have changed. So when I look across the handful of clients where we've been impacted, it's no single answer, but it's some combination of all of those.

On the integrated deals, is it the market is buying in a different way, or more that Cognizant is able to provide a broader set of capabilities, so you're seeing larger deals and therefore some delays?

I think the market is buying in a different way, Steve. I think there is a growing recognition in the marketplace, and it's a position that we hold as well, that by combining service lines together, we can drive greater levels of efficiency and effectiveness for clients.

As you know, clients across the industries that we serve, we've been talking about this for some time, are under continued pressure to drive ever greater levels of productivity efficiency, effectiveness, that's what we call the run better part of the dual mandate. And so creating these large integrated deals is a natural outcome of that.

In parallel with that, since we recognized this trend several years ago, we've been building out the core individual service lines that are required to service these large integrated deals, and largely those are the traditional Cognizant application development and application maintenance service line, the IT infrastructure service line, and the BPS service line. And all of that wrapped with a consulting layer that Cognizant Business Consulting provides, so we feel like we're well-positioned, our capabilities, the ones we've invested in over the last few years, really enable us to play in these large integrated deals.

Thank you. We'll move on to the next question, which is coming from the line of Moshe Katri with Cowen and Company.

Just a follow-up regarding the large deals, you indicated that you're going to take some assets. Will there be a margin impact from those deals? Anything unusual there? I think that's going to be helpful if you'll provide color on that, and obviously, you expanded your share buyback program. On the flip side of it, what's the logic for not introducing a symbolic dividend payment some time this year? Thanks.

Sure. Let me take the first question of, on the large deals, is there margin impact. Each -- with these large deals, both the three that we talked about here and others, the margin characteristics are a little different on each one. Some are normal margins or steady margins from day one.

Others, there are an investment period. But let me be clear, the ones where there is an investment period, we can handle those within our existing margin profile, because there are also larger deals that are coming out of the investment period, so as long as you have these things staggered, you're fine. So we're comfortable with that, but the margin, the timing of the margin, will differ from deal to deal.

On capital structure, as we've been saying for a while, we think the right answer for us is to focus on share repurchases, and if you look historically, we've been -- we've looked at relative valuation of Cognizant to the market in terms of deciding how aggressive to be. And even in Q2, we picked up the pace of acquisition of share repurchases from Q1. Obviously we're signaling that we expect to continue to do share repurchases with the expansion of the program.

We do not have any plans nearer term to focus on a dividend, because the dividend, once you start doing it, obviously you want to continue doing it, and this is still a very dynamic market. We think we're going to end up being a clear leader in the market, and we want to make sure we have the flexibility to do that. As acquisitions may come up or other things may come up, so we don't want to box ourselves in, and that's why we think share repurchases are the right way to go, because it gives us more flexibility, and obviously even before today, share repurchases were accretive to earnings.

Thanks.

The next question is coming from the line of Glenn Greene with Oppenheimer.

Just a couple real quick, but maybe just going back to the client-specific issues. Just to be clear, are these delays in decision-making, or has there been a reallocation or a cut in either the technology or offshore budgets of the clients for this year? Just trying to understand that a little better.

I think it's a little bit of both frankly, Glenn. What's happened is, as Gordon said, sometimes we're seeing clients reassessing priorities, shifting dollars from say run better to run different kinds of initiatives. In other times, its just been straight delays, frankly, where projects get pushed out, and as I said earlier, when that happens, just given the calendarization and the timing of things during the year, it becomes difficult to essentially catch up in the year.

Also we do see a client here and there where they have a real budget gap that they have to close, which goes against overall industry trends, but it does impact that particular client, and we seen that as well.

Gordon, maybe you could help us, you obviously -- it's a pretty big cut for the back half a little over $200 million in revenue. The degree of conservatism you're thinking about into the back half, did you sort of like if you're going to cut, cut hard? But I just want to understand how you're thinking about the back half.

I think our thinking about it is similar to what you just described.

Okay, thank you.

The next question is coming from the line of Charles Brennan with Credit Suisse.

Great. Thanks for taking my question. It's actually coming back to the idea of 2015, if we can. I know you don't want to give some specific guidance, but the guidance in the back half of 2014 is for slowing momentum, it's something like 12% growth in the third quarter, going to something like 8% in the forth quarter, and that gives us a fairly weak exit run rate.

Are you confident that Q4 is the low point of the growth cycle, and then as we look at 2015, you'll be facing some tough comps in the first half. Is it going to be one of those hockey stick years, where we are relying on the second half to deliver the growth?

So let me caveat my comments with, we've not gone through the budget cycle with clients, and we clearly don't want to get ahead of ourselves in talking about 2015. But the issues we face this year are not market demand issues, and you've seen that from our competitors. They are client specific to us.

When we look at those that are client specific to us, we think a lot of the -- many of those challenges wash out of the system by the end of this year, so I don't think we have the headwinds from those specific clients as we go into next year, or at least in aggregate. But obviously we want to go through the planning cycle with the other 1,000 clients before we have a full view on 2013. Certainly, we're pleased that we have stuff under our belt now with these transformational deals that we've won, and certainly we've been winning other stuff, just doesn't rise to the size that we talked about on the call.

I'm just wondering doesn't lower spend in the second half annualize in the first half of next year, are you assuming that spend comes back, or are you assuming that business wins overcompensate for it?

Use the term business wins, not just new logos, but growth of existing accounts. Essentially, we have an anchor of a handful of accounts that are offsetting really quite healthy growth at the vast majority of our accounts, and that anchor doesn't continue to decline, as we go into next year, is our belief. But once again, we haven't done the planning yet on what the other 1,000 clients will do, that will be part of the budget process.

Thanks.

The next question is coming from the line of Brian Essex with Morgan Stanley.

I just want to dig in a little bit to the mix of revenue attributable to renewals. How is that this year relative to last year, and what are those conversations like with your customers? I understand that some of your peers have been very competitive, particularly on the outsourcing front, and just want to get a sense of when it comes time for renewal, you indicated pricing is stable, but how are you able to maintain that stable pricing in that environment?

Yes, I think -- this is Frank. Let me just step back and say first of all, that I think there are different kinds of renewal circumstances and situations, and I think, as I said earlier, the vast majority of our business continues to be what I think of as the traditional model in which we've operated, where we tend to have preferred vendor status with a client and we win projects incrementally as the clients identify new work.

Now sometimes that's renewal work, for example, we might be doing an engagement and an maintenance engagement that comes up and then the client renews it. That tends to be one renewal cycle, and generally speaking, those fall under the overall master agreement that we have with the client. Those master services agreements will sometimes come up for renewal once every several years, and the competitive dynamics there have largely remained unchanged, I think, over several years. There's nothing remarkable about that. So that's what I consider to be the normal cycle of our business.

On top of that, we're seeing this trend towards larger deals and I think we are benefiting from this trend towards larger deals. There, what's happening is that the client is either taking a traditional, what I would consider to be a more legacy contract, usually that's in infrastructure, and moving it to a global services model, and then combining that with applications and/or with BPO to create these integrated deals. In those cases, the competitor dynamics are such that we're able to drive a lot of additional value by combining those together. We have a very strong process historically of understanding what the levers are that we can pull, in each of those circumstances, and translate that into, as Gordon said earlier, lower total cost of ownership for the client.

In those cases, the competitive dynamics are such that the advisors play a little bit of a stronger role, and oftentimes, as is the case in some of the big transactions that we announced today, the scope of those larger deals includes some current scope that Cognizant is already executing. So in a sense, it becomes a renewal but a much larger renewal, because you take the existing scope of work that we might already be executing for the client, you add a lot more around it to create a much larger deal. So that's a second kind of renewal circumstance, so I don't know if that gives you some color on how these renewals are playing out, but overall, we feel good about our competitive position and our ability to win in those circumstances.

Okay and just want to touch real quick on attrition, unless we misheard, it looked like it spiked in the quarter, and I think your peers are having similar issues. Maybe if you can comment on what's being done to address attrition, how that might impact the seasonal increase in promotional and salary increased spend that you're seeing going in the back half of the year.

Sure. So going from Q1 to Q2, we always see an in increase in attrition. Or almost always. The reason why is we pay out our bonuses in March so people who were waiting their bonuses who were planning to leave would leave, plus you have people going back for higher education, so we're down about two points from second quarter of last year. Still running a little bit higher than we want, but certainly in better shape, much better shape than we were last year.

That's one reason obviously, why we gave salary increments at the higher end of the industry, because we wanted to send a strong message to our people at Cognizant, they can have terrific careers and great growth paths. So we'll continue to watch it, but the key things we're doing is a lot of efforts around employee engagement that we started when we saw a spike last year, and that has helped things. We have given healthy increments which we think will help things, so continuing to keep an eye on it, but the trend is actually -- seasonally adjusted trend is actually going in the direction that we want, not fully there, but certainly we've made good progress.

Great, thank you.

And operator, we have time for one more question.

Thank you. Our final question is coming from the line of Jason Kupferberg with Jefferies.

Appreciate some of the comments around what appears to be conservatism for the back half, but obviously it's the second straight quarter where it seems like we've been caught off guard a bit by client spending plans. So I'm just wondering if this is causing you to rethink on kind of a more structural basis, any of your internal budgeting and forecasting processes, as well as how you might translate the out put of those processes to the formal guidance that you give to the Street?

Jason, look, I think we're taking a long hard look at all of our internal processes to understand if we need to adjust how we think about our own forecasting, and then as you said, translating that into the guidance that we provide. I think the reality is that we're going through a somewhat of a transition of a marketplace, as I've said several times over the last quarters, where you have these big technology shifts going on, and that's leading to some -- I think it's leading to two things, right?

One is great opportunity for us. I feel really optimistic about how we're positioned and the opportunities that are available to us in the marketplace. It also leads to a more dynamic market, a much more dynamic demand environment, with shifting client priorities. And that makes it a little difficult to get clear longer term fixes on exactly where we are, in terms of revenue and so on and so forth.

We'll continue to do everything we possibly can to strengthen our internal processes and to give you and the rest of our investors as clear a picture as we can, that's been our historical approach. At this point, I don't see fundamental upper internal operational issues that would require us to retool the way we forecast or anything like that fundamentally, but we continue to look at that just all the time, and look at how we ourselves can run better and run different, just as we explain that to our clients.

And just a very quick follow-up on that. The 2 points of growth, or at least 2 points of growth that you're expecting these renewed deals to add to next year's growth rate, would you characterize the degree of conservatism around those 2 points of growth the same way you would the degree of conservatism for the back half of 2014? Or is it still just a little bit early to really know what the ramp on those deals will look like? It seems like that could end up being a very significant swing factor in determining whether or not next year's growth rate could potentially accelerate a little bit versus this year's growth rate?

I think the ramp is fairly clear, based on the assumption of timing of when it starts next year, and we've been a little bit conservative on the timing, just to play it safe. Obviously, as we've said in our press release, the Health Net deal is subject to contract finalization and applicable regulatory approvals, which -- so we got to get through that process, but we've been a bit conservative in terms of when the ramp actually starts.

Got it. Thank you.

Well thanks everybody for joining us today and for your questions. We appreciate your time, and we look forward to speaking with you again next quarter.

Thank you. This concludes today's Cognizant Technology Solutions second-quarter 2014 earnings conference call. You may now disconnect.