In the highly competitive software services arena, Indian software companies have changed the way services are made available to clients. They have almost perfected the offshoring model with respect to software services. US companies have also started replicating this model and have set up bases in India. However, there is one US software company that has adopted the Indian offshoring model ever since inception. The company in question is Cognizant Technologies, headquartered in the United States. In this article, we try to bring about a comparison between Cognizant and domestic software giant Infosys, especially as they share a very similar model of service offerings.
Cognizant has emerged from being a division of Dun & Bradstreet to an outsourcing major. Headquartered in Teaneck, New Jersey, Cognizantís major development work is carried out at its Indian and Irish centers. It is one of the major offshore companies that are organized around verticals they cater to, rather than just regions and development centres. Having extensive research capabilities enables the company to provide high-end services to verticals like healthcare, banking, retail and manufacturing. This is somewhat similar to what Infosys does.
While both Infosys and Cognizant have similar business models, their services offerings are slowly graduating from ADM to high value added offerings. A major chunk of Cognizantís revenues comes from services like application development and maintenance (ADM). However, the company is moving towards providing services in the high-margin consulting space. It provides technology strategy and architecture consulting in data warehousing, CRM, ERP, and other strategic competencies. On the other hand, while Infosysí major revenues do come from ADM, it is fast moving up the value chain and growing its presence in high-end segments like package implementation, IT consulting and products (Finacle).
Comparative parameters - FY03 numbers
*12 months ended Decemberí02
|Revenues (US$ m)
|Average no. of employees
|Revenues/employee (US$ '000)
|PAT/employee (US$ '000)
A financial comparison of the two companies will however bring about a better picture. A look at the table above shows that Infosys scores over Cognizant on both margins and income per employee fronts. Cognizant's lower margins could be on account of the fact that a major chunk of its revenues comes from services like application development and maintenance (ADM) that essentially have lower realisations and consequently lower margins. Infosysí relatively higher margins are a result of the companyís wider revenue base. This helps Infosys to reduce pressure on its margins as high-end services like consulting are mainly carried out onsite, thus contributing to higher margins. Also, an ever-increasing contribution to revenues coming from Infosysí products business is helping the company to keep a check on declining margins.
While we can see that Infosys has better operating margins than Cognizant, the latter has been able to maintain its margins better in the wake of falling IT spends and increased competition. As per NASSCOM, billing rates for offshore projects have fallen by around 10%. However, we can observe from the table that Cognizant has been better able to manage its operating margins despite falling realisations.
One of the main reasons for this is the fact that Cognizant being a relatively younger company has projects, which have billing rates that were already low and in line with present average billing rates. Infosys on the other hand saw its older clients negotiating to rationalise billing rates further. Another reason for Cognizant performing better than Infosys as far as maintaining margins are concerned is seemingly due to its low incremental marketing and infrastructure costs. This is because Cognizant already has systems in place to service its clients that are highly concentrated in the US geography. Also what is apparent is the fact that Cognizantís margins are already very low and further fall from here is rather unlikely. On the other hand, the chances of Infosys seeing a downward movement in its margins are rather high.
Both Infosys and Cognizant have taken advantage of the Indian offshoring proposition in order to create quality service offerings. And both, recognizing the need to move up the value chain, have been graduating towards providing high value added services. However, as far as operational efficiencies are concerned, Infosys scores above its competition. But Cognizantís case indicates that Infosysí (relatively high) margins are likely to settle down to more realistic levels in the long term. What is certain, however, is that the Indian software sector is yet to reach maturity and we may witness further changes towards stability going forward.
* Trailing FY03 numbers
On the valuations front, Cognizantís share is trading at a P/E multiple of 42x its FY03 earnings (year-ending December 2002), while Infosysí share is at a P/E multiple of 21x its FY03 earnings. However, since Cognizant is listed on the NASDAQ, a comparison of its stock price with that of Infosysí ADR bridges the gap between the two companiesí valuation. Infosysí ADR is trading at a P/E of 34x its FY03 earnings. Even though the business models of both companies are similar, Cognizant command better valuations. We believe as Infosys is higher up the value chain, it is in a better position to capture a bigger pie of global IT spending going forward. Thus, in this light Infosysí stock seems undervalued from a long-term perspective.