COGNIZANT TECHNOLOGY SOLUTIONS CORPORATION Executive Summary
Cognizant is one of the world's leading professional services companies, transforming clients' business, operating and technology models for the digital era. Our services include digital services and solutions, consulting, application development, systems integration, application testing, application maintenance, infrastructure services and business process services. Digital services have become an increasingly important part of our portfolio, aligning with our clients' focus on becoming data-enabled, customer-centric and differentiated businesses. We tailor our services and solutions to specific industries with an integrated global delivery model that employs client service and delivery teams based at client locations and dedicated global and regional delivery centers. In the first quarter of 2020, the global COVID-19 pandemic began causing significant loss of life and interruption to the global economy, including the curtailment of activities by businesses and consumers in much of the world as governments and others seek to limit the spread of the disease. In response to COVID-19, we have prioritized the safety and well-being of our employees, business continuity for our clients and supporting the efforts of governments around the world to contain the spread of the virus. In light of our commitment to help our clients as they navigate unprecedented business challenges while protecting the safety of our employees, we have taken numerous steps, and will continue to take further actions, to address the COVID-19 pandemic. We have been working closely with our clients to support them as they implemented their contingency plans, helping them access our services and solutions remotely. We also undertook a significant effort to enable our employees to work from home by providing them with computer and Internet accessibility equipment while seeking to maintain appropriate security protocols. Despite these efforts, we experienced some delays in project fulfillment as delivery, particularly inIndia andthe Philippines , shifted to work-from-home. While these delays continued early in the second quarter, we are now near full project fulfillment capacity with the exception of certain client projects where a work-from-home scenario is not possible due to regulatory or other requirements. As a result of the ongoing pandemic, we are experiencing reduced client demand. We expect project deferrals, furloughs, temporary rate concessions and deferred payment term requests to continue to adversely affect revenues across all our business segments in 2020 and potentially beyond. We continue to actively monitor the impacts of and responses to COVID-19 and the related risks, and plan to respond accordingly. The pandemic continues to rapidly evolve, and its ultimate impacts will depend on future developments that are uncertain and cannot be predicted with confidence, and may materially adversely affect our business irrespective of our efforts to mitigate the impact. See Part II, Item 1A. Risk Factors . In the second quarter of 2020, we incurred approximately$25 million of costs in response to the COVID-19 pandemic, including a one-time bonus to our employees at the designation of associate and below in bothIndia andthe Philippines and costs incurred to enable our employees to work remotely. During the third quarter of 2020 we may incur incremental costs related to the COVID-19 pandemic, primarily related to operating in a work-from-home environment. We remain committed to implementing our 2020 Fit for Growth Plan, investing in the key digital areas of IoT, AI and analytics, digital engineering and cloud, while working to maintain and optimize our core portfolio of services through efficiency, tooling and automation, delivery optimization, protection of renewals, industry alignment and geographic expansion. Our 2020 Fit for Growth Plan involves certain measures to simplify our organizational model and optimize our cost structure in order to partially fund the investments required to execute on our strategy and advance our growth agenda as well as our decision to exit certain content-related services that are not in line with our strategic vision for the Company. During the three months endedJune 30, 2020 , we incurred$59 million of employee separation, retention and facility exit costs under this plan, including$8 million of costs related to our exit from certain content-related services. See Note 4 for additional information on these costs which are reported in the caption "Restructuring charges" in our unaudited consolidated statements of operations. The optimization measures that are part of the 2020 Fit for Growth Plan are expected to result in total charges in the range of$170 million to$200 million , primarily related to severance and facility exit costs, and are expected to be substantially completed by the end of 2020. The optimization measures are expected to generate an annualized savings run rate, before anticipated investments, in the range of approximately$500 million to$550 million in 2021. The potential negative impact of the COVID-19 pandemic on our revenues may require us to take additional cost optimization measures. At the same time, the pandemic may adversely impact our ability to execute and realize the benefits of our strategy and various transformation initiatives, including the 2020 Fit for Growth Plan. See Part II, Item 1A. Risk Factors . 27 -------------------------------------------------------------------------------- Table of Contents Our 2019 decision to exit certain content-related services negatively impacted our second quarter 2020 revenues by approximately$48 million within our Communications, Media and Technology segment inNorth America and we anticipate the impact on 2020 revenues to be approximately$180 million . OnApril 20, 2020 , we announced a security incident involving a Maze ransomware attack. Based on numerous remediation steps that have been undertaken and our continued monitoring of our environment, we believe we have contained the attack and eradicated remnants of the attacker activity from our environment. Based on our investigation, we believe the attack principally impacted certain of our systems and data. The attack resulted in unauthorized access to certain data and caused significant disruption to our business. This included the disabling of some of our systems and disruption caused by our taking certain other internal systems and networks offline as a precautionary measure. The attack compounded the challenges we faced in enabling work-from-home arrangements during the COVID-19 pandemic and resulted in setbacks and delays to such efforts. The impact to clients and their responses to the security incident varied. Some clients experienced no disruption. As to other clients, we experienced service disruptions due to our reliance on certain of the impacted systems and networks to perform work for clients and the impact to our systems and networks supporting work-from-home capabilities. The systems that comprise the technology platforms that support our business process-as-a-service solutions were not impacted. Most clients maintained connectivity with our network, allowing us to continue to provide service, but some clients opted to suspend our access to their networks as a security precaution. In this circumstance, we are unable to continue providing services via client networks until access is restored. We engaged leading outside forensics and cybersecurity experts, launched a comprehensive containment and remediation effort and forensic investigation, restored the security of our internal systems and networks and are adopting various enhancements to the security of our systems and networks. We also notified and are coordinating with law enforcement. As a result of fulfillment challenges caused by the ransomware attack, our year over year revenue growth for the second quarter was negatively impacted by approximately 90 basis points. We do not expect the attack to significantly impact our revenues for the remainder of 2020. Additionally, in the second quarter of 2020, we incurred$24 million in costs related to the ransomware attack and we will continue to incur significant incremental costs for the remediation of the security incident and investments to enhance our overall security environment. The lost revenue and containment, investigation, remediation, legal and other costs may exceed our insurance policy limits or may not be covered by insurance at all. Other actual and potential consequences include, but are not limited to, negative publicity, reputational damage, lost trust with customers, regulatory enforcement action, litigation that could result in financial judgments or the payment of settlement amounts and disputes with insurance carriers concerning coverage. See Part II, Item 1A. Risk Factors . Q2 2020 Financial Results The following table sets forth a summary of our financial results for the three months endedJune 30, 2020 and 2019: Increase / (Decrease) 2020 2019 $ % (Dollars in millions, except per share data) Revenues$ 4,000 $ 4,141 $ (141) (3.4) Income from operations 467 619 (152) (24.6) Net income 361 509 (148) (29.1) Diluted EPS 0.67 0.90 (0.23) (25.6) Other Financial Information1 Adjusted Income from Operations$ 563 $ 668 $ (105) (15.7) Adjusted Diluted EPS 0.82 0.94 (0.12) (12.8)
1 Adjusted Income From Operations and Adjusted Diluted EPS are not measurements of financial performance prepared in accordance with GAAP. See "Non-GAAP Financial Measures" for more information and reconciliations to the most directly comparable GAAP financial measures.
28
--------------------------------------------------------------------------------
Table of Contents
The following charts set forth revenues and change in revenues by business
segment and geography for the three months ended June 30, 2020 as compared to
the three months ended June 30, 2019 :
Financial Services Healthcare
Increase / (Decrease)
Increase / (Decrease)
Dollars in millions Revenues $ % CC %2 Revenues $ % CC %2
North America $ 978 (57) (5.5) (5.4) $ 999 (7) (0.7) (0.7)
United Kingdom 110 (9) (7.6) (5.2) 36 7 24.1 27.2
Continental Europe 182 (12) (6.2) (4.8) 102 22 27.5 27.8
Europe - Total 292 (21) (6.7) (4.9) 138 29 26.6 27.6
Rest of World 126 1 0.8 6.5 20 1 5.3 9.5
Total $ 1,396 (77) (5.2) (4.3) $ 1,157 23 2.0 2.2
Products and Resources Communications, Media and Technology
Increase / (Decrease) Increase / (Decrease)
Dollars in millions Revenues $ % CC %2 Revenues $ % CC %2
North America $ 620 (38) (5.8) (5.6) $ 409 (31) (7.0) (7.0)
United Kingdom 89 (8) (8.2) (5.1) 79 2 2.6 5.3
Continental Europe 94 (16) (14.5) (10.2) 41 (2) (4.7) (2.5)
Europe - Total 183 (24) (11.6) (7.8) 120 - - 2.5
Rest of World 64 2 3.2 9.9 51 4 8.5 17.9
Total $ 867 (60) (6.5) (5.0) $ 580 (27) (4.4) (3.2)
Our second quarter revenue decline reflected the negative impact of fulfillment
challenges, project deferrals, furloughs and temporary rate concessions brought
on by the COVID-19 pandemic. While revenues across all our segments were
negatively impacted by the COVID-19 pandemic, retail, consumer goods, travel and
hospitality clients within our Products and Resources segment as well as
communications and media clients in our Communications, Media and Technology
segment were particularly adversely affected by the pandemic. Clients in those
industries represented 11% of our total revenues in the second quarter of 2020.
At the same time, our manufacturing, logistics, energy and utilities clients
within our Products and Resources segment generated revenue growth due to our
clients' continued adoption and integration of digital technologies. Our second
quarter revenues were also impacted by the ransomware attack, primarily among
clients in our Financial Services segment and healthcare clients within our
Healthcare segment. Additionally, our Financial Services and Healthcare segments
continued to see certain clients transition the support of some of their legacy
systems and operations in-house or to captives. Revenues among our life sciences
clients within the Healthcare segment experienced growth, primarily due to our
acquisition of Zenith in the third quarter of 2019. Revenues among our
technology clients in our Communications, Media and Technology segment in the
North America region were negatively impacted by approximately $48 million due
to our 2019 strategic decision to exit certain content-related services. We
continue to see growing demand from our technology clients for our digital
content services.
Our operating margin and Adjusted Operating Margin2 decreased to 11.7% and
14.1%, respectively, for the quarter ended June 30, 2020 from 14.9% and 16.1%,
respectively, for the quarter ended June 30, 2019 . Our GAAP and Adjusted
Operating Margin2 were adversely impacted by the decline in revenues brought on
by the COVID-19 pandemic, the effect of the ransomware attack on both revenues
and costs, and higher incentive-based compensation accrual rates. These impacts
were partially offset by the depreciation of the Indian rupee against the U.S.
dollar, a significant decrease in travel and entertainment expenses due to the
COVID-19 pandemic, lower immigration costs and cost savings generated by our
cost optimization initiatives. In addition, our 2020 GAAP operating margin was
negatively impacted by higher restructuring charges as discussed in Note 4
to our unaudited consolidated financial statements as well as COVID-19 Charges.
We finished the second quarter of 2020 with approximately 281,200 employees,
which is a decrease of approximately 7,000 as compared to June 30, 2019 and
10,500 as compared to March 31, 2020 . Annualized turnover, including both
voluntary and involuntary, was approximately 24.0% for the three months ended
June 30, 2020 . A significant portion of our attrition is related to involuntary
exits and is weighted towards the more junior members of our staff.
2 Constant currency revenue growth and Adjusted Operating Margin are not measurements of financial performance prepared in accordance with GAAP. See "Non-GAAP Financial Measures" for more information and reconciliations to the most directly comparable GAAP financial measures, as applicable.
29
--------------------------------------------------------------------------------
Table of Contents
2020 Business Considerations
The significant and continuing impact and rapidly evolving nature of the
COVID-19 pandemic makes it difficult to estimate its future impact on our
ongoing business, results of operations and overall financial performance. As
clients work through significant financial challenges related to the COVID-19
pandemic, we have faced and may continue to face reduced client demand for
services, client pricing pressure, payment term extensions and insolvency risk,
additional delivery challenges, increased costs, a diversion of and strain on
management and other corporate resources, and reduced employee morale and
productivity. See Part II, Item 1A. Risk Factors .
While the immediate focus of many clients is on the COVID-19 pandemic impacts to
their businesses, we continue to expect the long-term focus of our clients to be
on their digital transformation into data-enabled, customer-centric and
differentiated businesses. As our clients seek to optimize the cost of
supporting their legacy systems and operations, our core portfolio of services
may be subject to pricing pressure and lower demand due to clients transitioning
certain work in-house or to new or existing captives.
Our clients will likely continue to contend with industry-specific changes
driven by evolving digital technologies, uncertainty in the regulatory
environment, industry consolidation and convergence as well as international
trade policies and other macroeconomic factors, which could affect their demand
for our services. Additionally, revenue from our technology clients will be
affected by our 2019 strategic decision to exit certain content-related work
under our 2020 Fit for Growth Plan.
We expect our 2020 financial results to be impacted by the initial cost
optimization measures executed as part of our 2020 Fit for Growth Plan, and the
expected execution of additional measures under this plan during the remainder
of 2020. In addition, our 2020 results may be impacted by the uncertainty
regarding regulatory changes, including potential regulatory changes with
respect to immigration and taxes as well as costs related to the potential
resolution of legal and regulatory matters discussed in Note 12 to our
unaudited consolidated financial statements.
As discussed earlier in the Executive Summary, we expect the business disruption
caused by and incremental costs resulting from the ransomware attack to
adversely impact our financial results for the remainder of 2020. See Part II,
Item 1A. Risk Factors .
During the remainder of 2020, we intend to continue to invest in our digital
capabilities, our talent base and new service offerings across industries and
geographies, while increasing our investment in sales and marketing
professionals to help us expand existing accounts and acquire new ones. We will
continue to pursue strategic acquisitions that we believe add new technologies
or platforms that complement our existing services, improve our overall service
delivery capabilities or expand our geographic presence. Additionally, we will
continue to focus on maintaining and optimizing our core portfolio of services
through efficiency, tooling and automation, delivery optimization, protection of
renewals, industry alignment and geographic expansion. Finally, through the
execution of our 2020 Fit for Growth Plan and other initiatives, we will focus
on operating discipline in order to appropriately manage our cost structure,
giving consideration to the impact of the COVID-19 pandemic on our revenues.
30--------------------------------------------------------------------------------
Table of Contents Results of Operations
Three Months Ended
The following table sets forth, for the periods indicated, certain financial
data for the three months ended
% of % of Increase / Decrease
2020 Revenues 2019 Revenues $ %
(Dollars in millions, except per share data)
Revenues $ 4,000 100.0 $ 4,141 100.0 $ (141) (3.4)
Cost of revenues(1) 2,615 65.4 2,629 63.5 (14) (0.5)
Selling, general and administrative
expenses(1) 711 17.8 719 17.3 (8) (1.1)
Restructuring charges 71 1.8 49 1.2 22 44.9
Depreciation and amortization expense 136 3.4 125 3.0 11 8.8
Income from operations 467 11.7 619 14.9 (152) (24.6)
Other income (expense), net 28 57 (29) (50.9)
Income before provision for income taxes 495 12.4 676 16.3 (181) (26.8)
Provision for income taxes (134) (167) 33 (19.8)
Net income $ 361 9.0 $ 509 12.3 $ (148) (29.1)
Diluted earnings per share $ 0.67 $ 0.90 $ (0.23) (25.6)
Other Financial Information3
Adjusted Income from Operations and Adjusted
Operating Margin $ 563 14.1 $ 668 16.1 $ (105) (15.7)
Adjusted Diluted EPS $ 0.82 $ 0.94 $ (0.12) (12.8)
(1)Exclusive of depreciation and amortization expense.
Revenues - Overall
During the quarter ended June 30, 2020 , revenues decreased by $141 million as
compared to the quarter ended June 30, 2019 , representing a decline of 3.4%, or
2.5% on a constant currency basis3. The revenue decline reflected fulfillment
challenges, project deferrals, furloughs and temporary rate concessions brought
on by the COVID-19 pandemic. Additionally, as a result of fulfillment challenges
caused by the ransomware attack, our year over year revenue growth was
negatively impacted by approximately 90 basis points. We continue to experience
pricing pressure within our core portfolio of services as our clients optimize
the cost of supporting their legacy systems and operations. At the same time,
clients continue to adopt and integrate digital technologies and their demand
for our digital operations services and solutions continues to grow. In
addition, our revenues benefited from our recently completed acquisitions,
including Zenith, Contino and Collaborative Solutions. Revenues from clients
added since June 30, 2019 were $110 million .
Revenues from our top clients as a percentage of total revenues were as follows:
Three Months Ended June 30,
2020 2019
Top five clients 8.3 % 8.0 %
Top ten clients 14.4 % 14.5 %
3 Adjusted Income From Operations, Adjusted Operating Margin, Adjusted Diluted
EPS and constant currency revenue growth are not measurements of financial
performance prepared in accordance with GAAP. See "Non-GAAP Financial Measures"
for more information and reconciliations to the most directly comparable GAAP
financial measures, as applicable.
31
--------------------------------------------------------------------------------
Table of Contents
Revenues - Reportable Business Segments
Revenues by reportable business segment were as follows for the three months
ended June 30 :
Increase/ (Decrease)
2020 2019 $ % CC %4
(Dollars in millions)Financial Services$ 1,396 $ 1,473 $ (77) (5.2) (4.3) Healthcare 1,157 1,134 23 2.0 2.2 Products and Resources 867 927 (60) (6.5) (5.0) Communications, Media and Technology 580 607 (27) (4.4) (3.2) Total revenues$ 4,000 $ 4,141 $ (141) (3.4) (2.5) Financial Services Revenues from our Financial Services segment decreased 5.2%, or 4.3% on a constant currency basis4, for the three months endedJune 30, 2020 , as compared to the three months endedJune 30, 2019 . Revenues in this segment decreased by$41 million from our banking clients and$36 million from our insurance clients and were negatively impacted by the COVID-19 pandemic and the ransomware attack. Revenues from clients added sinceJune 30, 2019 were$26 million . Demand from certain banking clients has been and may continue to be negatively affected as they transition the support of some of their legacy systems and operations in-house or to captives. Healthcare Revenues from our Healthcare segment grew 2.0%, or 2.2% on a constant currency basis4, for the three months endedJune 30, 2020 , as compared to the three months endedJune 30, 2019 . Revenues in this segment increased by$49 million from our life sciences clients, driven by revenues from our acquisition of Zenith, while revenues from our healthcare clients decreased by$26 million . Revenues in this segment were negatively impacted by the COVID-19 pandemic and the ransomware attack. Revenues from clients added sinceJune 30, 2019 were$19 million . Demand from our healthcare clients may continue to be affected by uncertainty in the regulatory and political environment while demand among our life sciences clients may be affected by industry consolidation. Products and Resources Revenues from our Products and Resources segment decreased 6.5%, or 5.0% on a constant currency basis4, for the three months endedJune 30, 2020 , as compared to the three months endedJune 30, 2019 . Retail, consumer goods, travel and hospitality clients were particularly adversely affected by the pandemic and are expected to continue to be negatively impacted for the remainder of 2020 and possibly beyond. In the second quarter of 2020, revenues decreased by$51 million among our retail and consumer goods clients and$41 million among our travel and hospitality clients. Revenues from our manufacturing, logistics, energy and utilities clients increased$32 million due to our clients' adoption and integration of digital technologies. Revenues from clients added sinceJune 30, 2019 were$35 million . Communications, Media and Technology Revenues from our Communications, Media and Technology segment decreased 4.4%, or 3.2% on a constant currency basis4, for the three months endedJune 30, 2020 , as compared to the three months endedJune 30, 2019 . Revenues from our technology clients and our communications and media clients decreased by$23 million and$4 million , respectively. Revenues among our technology clients in this segment were negatively impacted by approximately$48 million due to our 2019 strategic decision to exit certain content-related services and we anticipate the impact on 2020 revenues to be approximately$180 million . Additionally, revenues were negatively impacted by the COVID-19 pandemic, particularly among our communications and media clients, partially offset by the demand from our technology clients for digital content services. Revenues from clients added, including those related to acquisitions, sinceJune 30, 2019 were$30 million . 4 Constant currency revenue growth is not a measurement of financial performance prepared in accordance with GAAP. See "Non-GAAP Financial Measures" for more information. 32 -------------------------------------------------------------------------------- Table of Contents Revenues - Geographic Markets Revenues by geographic market were as follows for the three months endedJune 30 : Increase / (Decrease) 2020 2019 $ % CC %5 (Dollars in millions) North America$ 3,006 $ 3,139 $ (133) (4.2) (4.1) United Kingdom 314 322 (8) (2.5) 0.2 Continental Europe 419 427 (8) (1.9) 0.2 Europe - Total 733 749 (16) (2.1) 0.2 Rest of World 261 253 8 3.2 9.7 Total revenues$ 4,000 $ 4,141 $ (141) (3.4) (2.5)North America continues to be our largest market, representing 75.2% of total revenues for the second quarter of 2020. Across all regions, revenues were negatively impacted by the COVID-19 pandemic and the ransomware attack, partially offset by the revenue from our recently completed acquisitions, including Zenith, Contino and Collaborative Solutions. OurNorth America region was also negatively impacted by our strategic decision to exit certain content-related services in our Communications, Media and Technology segment and the transition of the support of legacy systems for certain financial services and healthcare clients in-house or to captives. Revenue growth in our Rest of World region was driven by our communications and media clients. We believe that there are opportunities for long-term growth across all of our geographic markets. Cost of Revenues (Exclusive of Depreciation and Amortization Expense) Our cost of revenues consists primarily of salaries, incentive-based compensation, stock-based compensation expense, employee benefits, project-related immigration and travel for technical personnel, subcontracting and equipment costs relating to revenues. Our cost of revenues decreased by 0.5% during the second quarter of 2020 as compared to the second quarter of 2019, increasing as a percentage of revenues to 65.4% in the second quarter of 2020 compared to 63.5% in the second quarter of 2019. The increase in cost of revenues, as a percentage of revenues, was primarily due to the impact on revenues of the COVID-19 pandemic and the ransomware attack, as well as higher incentive compensation accrual rates. These impacts were partially offset by the depreciation of the Indian rupee against theU.S. dollar, a significant decrease in travel and entertainment costs as a result of a reduction in travel due to the COVID-19 pandemic and the cost savings generated as a result of our cost optimization strategy. SG&A Expenses SG&A expenses consist primarily of salaries, incentive-based compensation, stock-based compensation expense, employee benefits, immigration, travel, marketing, communications, management, finance, administrative and occupancy costs. SG&A expenses decreased by 1.1% during the second quarter of 2020 as compared to the second quarter of 2019. However, they increased as a percentage of revenues to 17.8% in 2020 as compared to 17.3% in 2019. The increase, as a percentage of revenues, was primarily due to the decline in revenues brought on by the COVID-19 pandemic, the effect of the ransomware attack on both revenues and costs, as well as higher incentive compensation accrual rates, partially offset by a significant decrease in travel and entertainment costs as a result of the reduction in travel due to the pandemic and lower immigration costs. Depreciation and Amortization Expense Depreciation and amortization expense increased by 8.8% during the second quarter of 2020 as compared to the second quarter of 2019. The increase is due to procurement of additional computer equipment primarily to provision work-from-home arrangements and amortization of intangibles from recently completed acquisitions. Restructuring Charges Restructuring charges consist of our 2020 Fit for Growth Plan and our realignment program. Restructuring charges were$71 million or 1.8%, as a percentage of revenues for the three months endedJune 30, 2020 , as compared to$49 million or 1.2%, as a percentage of revenues for the three months ended June 30, 2019. For further detail on our restructuring charges see Note 4 to our unaudited consolidated financial statements. 5 Constant currency revenue growth is not a measurement of financial performance prepared in accordance with GAAP. See "Non-GAAP Financial Measures" for more information. 33 -------------------------------------------------------------------------------- Table of Contents Operating Margin - Overall Our operating margin and Adjusted Operating Margin6 decreased to 11.7% and 14.1%, respectively, for the quarter endedJune 30, 2020 from 14.9% and 16.1%, respectively, for the quarter endedJune 30, 2019 . Our GAAP and Adjusted Operating Margin6 were adversely impacted by the decline in revenues brought on by the COVID-19 pandemic, the effect of the ransomware attack on both revenues and costs, and higher incentive-based compensation accrual rates. These impacts were partially offset by the depreciation of the Indian rupee against theU.S. dollar, a significant decrease in travel and entertainment expenses due to the COVID-19 pandemic, lower immigration costs and cost savings generated by our cost optimization initiatives. In addition, our 2020 GAAP operating margin was negatively impacted by higher restructuring charges as discussed in Note 4 to our unaudited consolidated financial statements as well as COVID-19 Charges. Excluding the impact of applicable designated cash flow hedges, the depreciation of the Indian rupee against theU.S. dollar positively impacted our operating margin by approximately 164 basis points, or 1.64 percentage points, during the three months endedJune 30, 2020 . Each additional 1.0% change in exchange rate between the Indian rupee and theU.S. dollar will have the effect of moving our operating margin by approximately 18 basis points or 0.18 percentage points. We enter into hedges of certain Indian rupee denominated payments inIndia , which are intended to mitigate the volatility of the changes in the exchange rate between theU.S. dollar and the Indian rupee. During the three months endedJune 30, 2020 , the settlement of our cash flow hedges negatively impacted our operating margin by approximately 28 basis points or 0.28 percentage points as compared to a positive impact of approximately 10 basis points or 0.10 percentage points during the three months endedJune 30, 2019 . Segment Operating Profit Segment operating profits were as follows for the three months endedJune 30 : Operating Margin Operating Margin Increase / 2020 % 2019 % (Decrease) (Dollars in millions) Financial Services$ 365 26.1$ 407 27.6$ (42) Healthcare 305 26.4 314 27.7 (9) Products and Resources 237 27.3 255 27.5 (18) Communications, Media and Technology 174 30.0 184 30.3 (10) Total segment operating profit 1,081 27.0 1,160 28.0 (79) Less: unallocated costs 614 541 73 Income from operations$ 467 11.7$ 619 14.9$ (152) Operating margins in our Financial Services and Healthcare segments decreased as revenues were negatively impacted by the COVID-19 pandemic and the ransomware attack, partially offset by cost savings generated by our cost optimization initiatives and a significant decrease in travel and entertainment costs due to COVID-19 related reductions in travel. Our operating margins in our Products andResources and Communications , Media and Technology segments remained relatively flat as revenues were negatively impacted by the COVID-19 pandemic, offset by cost savings generated by our cost optimization initiatives and a significant decrease in travel and entertainment costs due to COVID-19 related reductions in travel. Certain SG&A expenses, the excess or shortfall of incentive-based compensation for commercial and delivery personnel as compared to target, restructuring costs, COVID-19 Charges, costs related to the ransomware attack, a portion of depreciation and amortization and the impact of the settlements of our cash flow hedges are not allocated to individual segments in internal management reports used by the chief operating decision maker. Accordingly, such expenses are excluded from segment operating profit and are included above as "unallocated costs" and adjusted against our total income from operations. The increase in unallocated costs in 2020 compared to 2019 is primarily due to a smaller shortfall in 2020 than in 2019 of incentive-based compensation as compared to target, higher restructuring costs, COVID-19 Charges and costs related to the ransomware attack. 6 Adjusted Operating Margin is not a measurement of financial performance prepared in accordance with GAAP. See "Non-GAAP Financial Measures" for more information and a reconciliation to the most directly comparable GAAP financial measure. 34 -------------------------------------------------------------------------------- Table of Contents Other Income (Expense), Net Total other income (expense), net consists primarily of foreign currency exchange gains and losses, interest income and interest expense. The following table sets forth total other income (expense), net for the three months endedJune 30 : Increase/ 2020 2019 Decrease (in millions) Foreign currency exchange gains$ 1 $ 20 $ (19)
(Losses) on foreign exchange forward contracts not designated as hedging instruments
(3) (4) 1
Foreign currency exchange gains (losses), net (2) 16 (18)
Interest income 37 45 (8)
Interest expense (9) (6) (3)
Other, net 2 2 -
Total other income (expense), net $ 28 $ 57 $ (29)
The foreign currency exchange gains and losses were attributable to the
remeasurement of net monetary assets and liabilities denominated in currencies
other than the functional currencies of our subsidiaries. The gains and losses
on foreign exchange forward contracts not designated as hedging instruments
relate to the realized and unrealized gains and losses on foreign exchange
forward contracts entered into to partially offset foreign currency exposure to
non-U.S. dollar denominated net monetary assets and liabilities. As of June 30,
2020 , the notional value of our undesignated hedges was $1,156 million .
The decrease in interest income of $8 million was primarily attributable to a
decrease in average invested balances and lower yields in 2020.
Provision for Income Taxes
The provision for income taxes decreased to $134 million during the three months
ended June 30, 2020 from $167 million for the three months ended June 30, 2019
as a result of the decrease in the income before provision for income taxes,
partially offset by a higher effective income tax rate. The effective income tax
rate increased to 27.1% for the three months ended June 30, 2020 compared to
24.7% for the three months ended June 30, 2019 , primarily driven by the
depreciation of the Indian rupee against the U.S. dollar, which resulted in
non-deductible foreign currency exchange losses on our unaudited consolidated
statement of operations.
Net Income
Net income decreased to $361 million for the three months ended June 30, 2020
from $509 million for the three months ended June 30, 2019 , representing 9.0%
and 12.3% of revenues, respectively. The decrease in net income was driven by
lower income from operations.
Non-GAAP Financial Measures
Portions of our disclosure include non-GAAP financial measures. These non-GAAP
financial measures are not based on any comprehensive set of accounting rules or
principles and should not be considered a substitute for, or superior to,
financial measures calculated in accordance with GAAP, and may be different from
non-GAAP financial measures used by other companies. In addition, these non-GAAP
financial measures should be read in conjunction with our financial statements
prepared in accordance with GAAP. The reconciliations of our non-GAAP financial
measures to the corresponding GAAP measures, set forth below, should be
carefully evaluated.
Our non-GAAP financial measures, Adjusted Operating Margin, Adjusted Income From
Operations and Adjusted Diluted EPS exclude unusual items. Additionally,
Adjusted Diluted EPS excludes net non-operating foreign currency exchange gains
or losses and the tax impact of all the applicable adjustments. The income tax
impact of each item is calculated by applying the statutory rate and local tax
regulations in the jurisdiction in which the item was incurred. Constant
currency revenue growth is defined as revenues for a given period restated at
the comparative period's foreign currency exchange rates measured against the
comparative period's reported revenues.
We believe providing investors with an operating view consistent with how we
manage the Company provides enhanced transparency into our operating results.
For our internal management reporting and budgeting purposes, we use various
GAAP and non-GAAP financial measures for financial and operational
decision-making, to evaluate period-to-period comparisons, to determine portions
of the compensation for our executive officers and for making comparisons of our
operating results to those of our competitors. Therefore, it is our belief that
the use of non-GAAP financial measures excluding certain costs provides a
35
--------------------------------------------------------------------------------
Table of Contents
meaningful supplemental measure for investors to evaluate our financial
performance. We believe that the presentation of our non-GAAP financial measures
along with reconciliations to the most comparable GAAP measure, as applicable,
can provide useful supplemental information to our management and investors
regarding financial and business trends relating to our financial condition and
results of operations.
A limitation of using non-GAAP financial measures versus financial measures
calculated in accordance with GAAP is that non-GAAP financial measures do not
reflect all of the amounts associated with our operating results as determined
in accordance with GAAP and may exclude costs that are recurring such as our net
non-operating foreign currency exchange gains or losses. In addition, other
companies may calculate non-GAAP financial measures differently than us, thereby
limiting the usefulness of these non-GAAP financial measures as a comparative
tool. We compensate for these limitations by providing specific information
regarding the GAAP amounts excluded from our non-GAAP financial measures to
allow investors to evaluate such non-GAAP financial measures.
The following table presents a reconciliation of each non-GAAP financial measure
to the most comparable GAAP measure for the three months ended June 30 :
% of % of
2020 Revenues 2019 Revenues
(Dollars in millions, except per share amounts)
GAAP income from operations and operating margin $ 467 11.7 $ 619 14.9
Realignment charges (1) 12 0.3 49 1.2
2020 Fit for Growth plan restructuring charges (2) 59 1.5 - -
COVID-19 Charges (3) 25 0.6 - -
Adjusted Income from Operations and Adjusted
Operating Margin $ 563 14.1 $ 668 16.1
GAAP diluted EPS $ 0.67 $ 0.90
Effect of above adjustments, pre-tax 0.18 0.09
Non-operating foreign currency exchange (gains)
losses, pre-tax (4) - (0.03)
Tax effect of above adjustments (5) (0.03) (0.02)
Adjusted Diluted EPS $ 0.82 $ 0.94
(1)As part of the realignment program, during the three months ended June 30,
2020, we incurred employee retention costs and professional fees. See Note 4
to our unaudited consolidated financial statements for additional information.
(2)As part of our 2020 Fit for Growth plan, during the three months ended
June 30, 2020 , we incurred certain employee separation, employee retention and
facility exit costs. See Note 4 to our unaudited consolidated financial
statements for additional information.
(3)During the three months ended June 30, 2020 , we incurred costs in response to
the COVID-19 pandemic including a one-time bonus to our employees at the
designation of associate and below in both India and the Philippines and costs
to enable our employees to work remotely, partially offset by benefits provided
to us by certain jurisdictions in which we operate. Most of the costs related to
the pandemic are reported in "Cost of revenues" in our unaudited consolidated
statements of operations.
(4)Non-operating foreign currency exchange gains and losses, inclusive of gains
and losses on related foreign exchange forward contracts not designated as
hedging instruments for accounting purposes, are reported in "Foreign currency
exchange gains (losses), net" in our unaudited consolidated statements of
operations.
(5)Presented below are the tax impacts of each of our non-GAAP adjustments to
pre-tax income:
Three Months Ended
June 30,
2020 2019
(in millions)Non-GAAP income tax benefit (expense) related to: Realignment charges$ 3 $ 13 2020 Fit for Growth Plan restructuring charges 16 - COVID-19 Charges 6 - Foreign currency exchange gains and losses (8) -
The effective tax rate related to each of our non-GAAP adjustments varies depending on the jurisdictions in which such income and expenses are generated and the statutory rates applicable in those jurisdictions.
36--------------------------------------------------------------------------------
Table of Contents
Six Months Ended
The following table sets forth, for the periods indicated, certain financial
data for the six months ended
% of % of Increase / Decrease
2020 Revenues 2019 Revenues $ %
(Dollars in millions, except per share data)
Revenues $ 8,225 100.0 $ 8,251 100.0 $ (26) (0.3)
Cost of revenues(1) 5,362 65.2 5,204 63.1 158 3.0
Selling, general and administrative
expenses(1) 1,422 17.3 1,590 19.3 (168) (10.6)
Restructuring charges 126 1.5 51 0.6 75 147.1
Depreciation and amortization expense 269 3.3 248 3.0 21 8.5
Income from operations 1,046 12.7 1,158 14.0 (112) (9.7)
Other income (expense), net (41) 101 (142) (140.6)
Income before provision for income taxes 1,005 12.2 1,259 15.3 (254) (20.2) Provision for income taxes (276) (309) 33 (10.7) Income from equity method investments (1) - (1) * Net income$ 728 8.9$ 950 11.5$ (222) (23.4) Diluted EPS$ 1.34 $ 1.67 $ (0.33) (19.8) Other Financial Information (7) Adjusted Income From Operations and Adjusted Operating Margin$ 1,203 14.6$ 1,326 16.1$ (123) (9.3) Adjusted Diluted EPS$ 1.78 $ 1.85 $ (0.07) (3.8) (1)Exclusive of depreciation and amortization expense. *Not meaningful Revenues - Overall During the six months endedJune 30, 2020 , revenues decreased by$26 million as compared to the six months endedJune 30, 2019 , representing a decline of 0.3%, or growth of 0.5% on a constant currency basis7. The revenue decline reflected fulfillment challenges, project deferrals, furloughs and temporary rate concessions brought on by the COVID-19 pandemic. Additionally, as a result of fulfillment challenges caused by the ransomware attack, our year over year revenue growth was negatively impacted by approximately 45 basis points. We continue to experience pricing pressure within our core portfolio of services as our clients optimize the cost of supporting their legacy systems and operations. At the same time, clients continue to adopt and integrate digital technologies and their demand for our digital operations services and solutions continues to grow. In addition, our revenues benefited from our recently completed acquisitions, including Zenith and Contino. Revenues from clients added sinceJune 30, 2019 were$166 million . Revenues from our top clients as a percentage of total revenues were as follows: Six Months Ended June 30, 2020 2019 Top five clients 8.1 % 8.4 % Top ten clients 14.2 % 15.1 % 7 Adjusted Income From Operations, Adjusted Operating Margin, Adjusted Diluted EPS and constant currency revenue growth are not measurements of financial performance prepared in accordance with GAAP. See "Non-GAAP Financial Measures" for more information and reconciliations to the most directly comparable GAAP financial measures. 37 -------------------------------------------------------------------------------- Table of Contents Revenues - Reportable Business Segments Revenues by reportable business segment were as follows for the six months endedJune 30 : Increase / (Decrease) 2020 2019 $ % CC %8 (Dollars in millions) Financial Services$ 2,847 $ 2,909 $ (62) (2.1) (1.3) Healthcare 2,351 2,299 52 2.3 2.4 Products and Resources 1,821 1,841 (20) (1.1) 0.1 Communications, Media and Technology 1,206 1,202 4 0.3 1.5 Total revenues$ 8,225 $ 8,251 $ (26) (0.3) 0.5 Financial Services Revenues from our Financial Services segment declined 2.1%, or 1.3% on a constant currency basis8, for the six months endedJune 30, 2020 , as compared to the six months endedJune 30, 2019 . Revenues in this segment decreased$41 million from our insurance clients and$21 million from our banking clients and were negatively impacted by the COVID-19 pandemic and the ransomware attack. Demand from certain banking clients has been and may continue to be negatively affected as they transition the support of some of their legacy systems and operations in-house or to captives. Revenues from clients added, including those related to acquisitions, sinceJune 30, 2019 were$40 million . Healthcare Revenues from our Healthcare segment grew 2.3%, or 2.4% on a constant currency basis8, for the six months endedJune 30, 2020 , as compared to the six months endedJune 30, 2019 . Revenues in this segment increased by$95 million from our life sciences clients, driven by revenues from our acquisition of Zenith, while revenues from our healthcare clients decreased by$43 million . Revenues from our healthcare clients were negatively impacted by the establishment of an offshore captive by a large client, the COVID-19 pandemic and the ransomware attack. Revenues from clients added sinceJune 30, 2019 were$31 million . Products and Resources Revenues from our Products and Resources segment declined 1.1%, remaining relatively flat on a constant currency basis8, for the six months endedJune 30, 2020 , as compared to the six months endedJune 30, 2019 . Retail, consumer goods, travel and hospitality clients were particularly adversely affected by the pandemic. Thus, revenues decreased by$42 million from our travel and hospitality clients and$29 million from our retail and consumer goods clients. Revenues from our manufacturing, logistics, energy and utilities clients increased$51 million due to our clients' adoption and integration of digital technologies. Revenues from clients added sinceJune 30, 2019 were$50 million . Communications, Media and Technology Revenues from our Communications, Media and Technology segment grew 0.3%, or 1.5% on a constant currency basis8, for the six months endedJune 30, 2020 , as compared to the six months endedJune 30, 2019 . Revenues from our communications and media clients increased$14 million while revenues from our technology clients decreased$10 million . Revenues among our technology clients in this segment were negatively impacted by approximately$71 million due to our 2019 strategic decision to exit certain content-related services. Additionally, revenues were negatively impacted by the COVID-19 pandemic, particularly among our communications and media clients, partially offset by the demand from our technology clients for digital content services. Revenues from clients added, including those related to acquisitions, sinceJune 30, 2019 were$45 million . 8 Constant currency revenue growth is not a measurement of financial performance prepared in accordance with GAAP. See "Non-GAAP Financial Measures" for more information. 38 -------------------------------------------------------------------------------- Table of Contents Revenues - Geographic Markets Revenues by geographic market were as follows for the six months endedJune 30 : Increase / (Decrease) 2020 2019 $ % CC %9 (Dollars in millions) North America$ 6,196 $ 6,262 $ (66) (1.1) (1.0) United Kingdom 651 651 - - 2.2 Continental Europe 856 832 24 2.9 5.2 Europe - Total 1,507 1,483 24 1.6 3.9 Rest of World 522 506 16 3.2 8.6 Total revenues$ 8,225 $ 8,251 $ (26) (0.3) 0.5North America continues to be our largest market, representing 75.3% of total revenues for the six months endedJune 30, 2020 . Across all regions, revenues were negatively impacted by the COVID-19 pandemic and the ransomware attack, partially offset by the revenue from our recently completed acquisitions, including Zenith and Contino. OurNorth America region was also negatively impacted by our strategic decision to exit certain content-related services in our Communications, Media and Technology segment and the transition of the support of legacy systems for certain financial services and healthcare clients in-house or to captives. Revenue growth in our Continental Europe and Rest of World regions was driven by our life sciences clients and our Communications, Media and Technology clients, respectively. Cost of Revenues (Exclusive of Depreciation and Amortization Expense) Our cost of revenues consists primarily of salaries, incentive-based compensation, stock-based compensation expense, employee benefits, project-related immigration and travel for technical personnel, subcontracting and equipment costs relating to revenues. Our cost of revenues increased by 3.0% during the six months endedJune 30, 2020 as compared to the six months endedJune 30, 2019 , increasing as a percentage of revenues to 65.2% during the 2020 period compared to 63.1% in the 2019 period. The increase in cost of revenues, as a percentage of revenues, was due primarily to an increase in costs related to our delivery personnel (including employees and subcontractors), the impact on revenues of the COVID-19 pandemic and the ransomware attack. These impacts were partially offset by the depreciation of the Indian rupee against theU.S. dollar, a significant decrease in travel and entertainment costs as a result of a reduction in travel due to the COVID-19 pandemic and the cost savings generated as a result of our cost optimization strategy. SG&A Expenses SG&A expenses consist primarily of salaries, incentive-based compensation, stock-based compensation expense, employee benefits, immigration, travel, marketing, communications, management, finance, administrative and occupancy costs. SG&A expenses decreased by 10.6% during the six months endedJune 30, 2020 as compared to the six months endedJune 30, 2019 , decreasing as a percentage of revenues to 17.3% during the 2020 period as compared to 19.3% in the 2019 period. The decrease, as a percentage of revenues, was due primarily to the$117 million incremental accrual in 2019 related to the India Defined Contribution Obligation, as discussed in Note 12 to our unaudited consolidated financial statements, a significant decrease in travel and entertainment costs as a result of a reduction in travel due to the COVID-19 pandemic and lower immigration costs, partially offset by the decline in revenues brought on by the COVID-19 pandemic and the impact of the ransomware attack on both revenues and costs. Depreciation and Amortization Expense Depreciation and amortization expense increased by 8.5% during the six months endedJune 30, 2020 as compared to the six months endedJune 30, 2019 . The increase is due to procurement of additional computer equipment primarily to provision work-from-home arrangements and amortization of intangibles from recently completed acquisitions. Restructuring Charges Restructuring charges consist of our 2020 Fit for Growth Plan and our realignment program. Restructuring charges were$126 million or 1.5%, as a percentage of revenues for the six months endedJune 30, 2020 , as compared to$51 million or 0.6%, as a percentage of revenues for the six months ended June 30, 2019. For further detail on our restructuring charges see Note 4 to our unaudited consolidated financial statements. 9 Constant currency revenue growth is not a measurement of financial performance prepared in accordance with GAAP. See "Non-GAAP Financial Measures" for more information. 39 -------------------------------------------------------------------------------- Table of Contents Income from Operations and Operating Margin - Overall Our operating margin and Adjusted Operating Margin10 decreased to 12.7% and 14.6%, respectively, for the six months endedJune 30, 2020 from 14.0% and 16.1% for the six months endedJune 30, 2019 . Our GAAP and Adjusted Operating Margin10 were adversely impacted by an increase in costs related to our delivery personnel (including employees and subcontractors), the decline in revenues brought on by the COVID-19 pandemic and the impact of the ransomware attack on both revenues and costs. These impacts were partially offset by the depreciation of the Indian rupee against theU.S. dollar, a significant decrease in travel and entertainment expenses due to the COVID-19 pandemic, lower immigration costs and the cost savings generated as a result of our cost optimization strategy. In addition, our 2019 GAAP operating margin included a 2.9% negative impact of the incremental accrual in 2019 related to the India Defined Contribution Obligation as discussed in Note 12 to our unaudited consolidated financial statements, while our 2020 GAAP operating margin was negatively impacted by higher restructuring charges as discussed in Note 4 to our unaudited consolidated financial statements as well as COVID-19 Charges. Excluding the impact of applicable designated cash flow hedges, the depreciation of the Indian rupee against theU.S. dollar positively impacted our operating margin by approximately 105 basis points, or 1.05 percentage points, during the six months endedJune 30, 2020 . Each additional 1.0% change in exchange rate between the Indian rupee and theU.S. dollar will have the effect of moving our operating margin by approximately 18 basis points or 0.18 percentage points. We enter into hedges of certain Indian rupee denominated payments inIndia , which are intended to mitigate the volatility of the changes in the exchange rate between theU.S. dollar and the Indian rupee. During the six months endedJune 30, 2020 the settlement of our cash flow hedges negatively impacted our operating margin by approximately 17 basis points or 0.17 percentage points while the settlement of cash flow hedges during the six months endedJune 30, 2019 had an immaterial impact on our operating margin. Segment Operating Profit Segment operating profits were as follows for the six months endedJune 30 : Operating Margin Operating Margin Increase / 2020 % 2019 % (Decrease) (Dollars in millions) Financial Services$ 746 26.2$ 807 27.7$ (61) Healthcare 626 26.6 651 28.3 (25) Products and Resources 498 27.3 489 26.6 9 Communications, Media and Technology 364 30.2 358 29.8 6 Total segment operating profit 2,234 27.2 2,305 27.9 (71) Less: unallocated costs 1,188 1,147 41 Income from operations$ 1,046 12.7$ 1,158 14.0$ (112) In our Financial Services and Healthcare segments, operating margins were negatively impacted by an increase in costs related to our delivery personnel (including employees and subcontractors) and the impact on revenues of the COVID-19 pandemic and the ransomware attack, partially offset by cost savings generated by our cost optimization initiatives and a significant decrease in travel and entertainment costs due to COVID-19 related reductions in travel. In our Products andResources and Communications , Media and Technology segments, operating margins increased as a result of cost savings generated by our cost optimization initiatives and a significant decrease in travel and entertainment costs due to COVID-19 related reductions in travel, partially offset by an increase in costs related to our delivery personnel (including employees and subcontractors) and the negative impact of the COVID-19 pandemic on revenues. Additionally, 2019 operating margin in our Products and Resources segment was negatively affected by bankruptcy filings by several clients in that segment. The increase in unallocated costs in 2020 compared to 2019 is primarily due to a smaller shortfall in 2020 than in 2019 of incentive-based compensation as compared to target, higher restructuring costs, COVID-19 Charges and costs related to the ransomware attack, partially offset by the India Defined Contribution Obligation presented in unallocated costs in 2019. 10 Adjusted Operating Margin is not a measurement of financial performance prepared in accordance with GAAP. See "Non-GAAP Financial Measures" for more information and a reconciliation to the most directly comparable GAAP financial measure. 40 -------------------------------------------------------------------------------- Table of Contents Other Income (Expense), Net Total other income (expense), net consists primarily of foreign currency exchange gains and losses, interest income and interest expense. The following table sets forth total other income (expense), net for the six months endedJune 30 : Increase/ 2020 2019 Decrease (in millions) Foreign currency exchange (losses) gains$ (107) $ 23 $ (130)
Gains (losses) on foreign exchange forward contracts not designated as hedging instruments
3 (5) 8
Foreign currency exchange gains (losses), net (104) 18 (122)
Interest income 78 93 (15)
Interest expense (15) (13) (2)
Other, net - 3 (3)
Total other income (expense), net $ (41) $ 101 $ (142)
The foreign currency exchange gains and losses were primarily attributed to the
remeasurement of the Indian rupee denominated net monetary assets and
liabilities in our U.S. dollar functional currency India subsidiaries and, to a
lesser extent, the remeasurement of other net monetary assets and liabilities
denominated in currencies other than the functional currencies of our
subsidiaries. The gains and losses on our foreign exchange forward contracts not
designated as hedging instruments related to the realized and unrealized gains
and losses on foreign exchange forward contracts entered into primarily to
offset foreign currency exposure to non-U.S. dollar denominated net monetary
assets and liabilities. The decrease in interest income of $15 million was
primarily attributable to a decrease in average invested balances and lower
yields in 2020.
Provision for Income Taxes
The provision for income taxes decreased to $276 million during the six months
ended June 30, 2020 from $309 million during the six months ended June 30, 2019
as a result of the decrease in the income before provision for income taxes,
partially offset by a higher effective income tax rate. The effective income tax
rate increased to 27.5% for the six months ended June 30, 2020 from 24.5% for
the six months ended June 30, 2019 primarily driven by the depreciation of the
Indian rupee against the U.S. dollar, which resulted in non-deductible foreign
currency exchange losses on our unaudited consolidated statement of operations.
Net Income
Net income decreased to $728 million for the six months ended June 30, 2020 from
$950 million for the six months ended June 30, 2019 , representing 8.9% and 11.5%
of revenues, respectively. The decrease in net income was driven by foreign
exchange losses as well as lower income from operations.
41
--------------------------------------------------------------------------------
Table of Contents
Non-GAAP Financial Measures
The following table presents a reconciliation of each non-GAAP financial measure
to the most comparable GAAP measure for the six months ended June 30 :
% of % of
2020 Revenues 2019 Revenues
(Dollars in millions, except per share amounts)
GAAP income from operations and operating margin $ 1,046 12.7 $ 1,158 14.0
Realignment charges (1) 32 0.4 51 0.7
2020 Fit for Growth plan restructuring charges (2) 94 1.1 - -
COVID-19 Charges (3) 31 0.4 - -
Incremental accrual related to the India Defined
Contribution Obligation (4) - - 117 1.4
Adjusted Income from Operations and Adjusted
Operating Margin $ 1,203 14.6 $ 1,326 16.1
GAAP diluted EPS $ 1.34 $ 1.67
Effect of above adjustments, pre-tax 0.29 0.29
Non-operating foreign currency exchange (gains)
losses, pre-tax (5) 0.19 (0.03)
Tax effect of above adjustments (6) (0.04) (0.08)
Adjusted Diluted EPS $ 1.78 $ 1.85
(1)As part of the realignment program, during the six months ended June 30,
2020, we incurred employee retention costs and professional fees. See Note 4
to our unaudited consolidated financial statements for additional information.
(2)As part of our 2020 Fit for Growth plan, during the six months ended June 30,
2020 , we incurred certain employee separation, employee retention and facility
exit costs. See Note 4 to our unaudited consolidated financial statements
for additional information.
(3)During the six months ended June 30, 2020 , we incurred costs in response to
the COVID-19 pandemic including a one-time bonus to our employees at the
designation of associate and below in both India and the Philippines , costs to
enable our employees to work remotely and provide medical staff and extra
cleaning services for our facilities, partially offset by benefits provided to
us by certain jurisdictions in which we operate. Most of the costs related to
the pandemic are reported in "Cost of revenues" in our unaudited consolidated
statements of operations.
(4)In the first quarter of 2019, we recorded an accrual of $117 million related
to the India Defined Contribution Obligation as further described in Note 12
to our unaudited consolidated financial statements.
(5)Non-operating foreign currency exchange gains and losses, inclusive of gains
and losses on related foreign exchange forward contracts not designated as
hedging instruments for accounting purposes, are reported in "Foreign currency
exchange gains (losses), net" in our unaudited consolidated statements of
operations.
(6)Presented below are the tax impacts of each of our non-GAAP adjustments to
pre-tax income:
Six Months Ended
June 30,
2020 2019
(in millions)
Non-GAAP income tax benefit (expense) related to:
Realignment charges $ 8 $ 13
2020 Fit for Growth Plan restructuring charges 25 -
COVID-19 Charges 8 -
Incremental accrual related to the India Defined Contribution Obligation
- 31
Foreign currency exchange gains and losses (18) 1
The effective tax rate related to each of our non-GAAP adjustments varies depending on the jurisdictions in which such income and expenses are generated and the statutory rates applicable in those jurisdictions.
42--------------------------------------------------------------------------------
Table of Contents
Liquidity and Capital Resources
Our cash generated from operations has historically been our primary source of liquidity to fund operations and investments to grow our business. In addition, as ofJune 30, 2020 , we had cash, cash equivalents and short-term investments of$4,582 million . During the first quarter of 2020, we borrowed$1.74 billion against our revolving credit facility in order to increase our cash on hand inthe United States , as a large portion of our cash is held inIndia . This will allow us the flexibility to continue to help and support our clients during the COVID-19 pandemic and also to continue to invest in the business, both organically and inorganically.
The following table provides a summary of our cash flows for the six months
ended
2020 2019 Increase / Decrease
(in millions)
Net cash provided by (used in):
Operating activities $ 1,476 $ 844 $ 632
Investing activities (531) 1,623 (2,154)
Financing activities 964 (1,976) 2,940
Operating activities
The increase in cash provided by operating activities for the six months ended
June 30, 2020 compared to the same period in 2019 was primarily driven by
deferrals of certain tax payments due to COVID-19 pandemic regulatory relief
provided by several jurisdictions in which we operate and lower incentive-based
compensation payouts.
We monitor turnover, aging and the collection of accounts receivable by client.
Our DSO calculation includes receivables, net of allowance for doubtful
accounts, and contract assets, reduced by the uncollected portion of our
deferred revenue. Our DSO was 77 days as of both June 30, 2019 and 2020 and 73
days as of December 31, 2019 . During the fourth quarter of 2019, we changed our
policy with regard to the presentation of certain amounts due to customers, such
as discounts and rebates, and retrospectively applied this policy to the
calculation of DSO as of June 30, 2019 . This change in policy had the effect of
reducing our June 30, 2019 DSO by 2 days.
Investing activities
Net cash used in investing activities for the six months ended June 30, 2020 was
driven by payments for acquisitions and outflows for capital expenditures,
partially offset by net sales of investments. Net cash provided by investing
activities for the six months ended June 30, 2019 was driven by net sales of
investments partially offset by payments for acquisitions and outflows for
capital expenditures.
Financing activities
The cash provided by financing activities for the six months ended June 30, 2020
compared to cash used in financing activities in the six months ended June, 2019
is primarily a result of our borrowing against the revolving credit facility and
lower repurchases of common stock in the six months ended June 30, 2020 as
compared to the six months ended June 30, 2019 .
We have a Credit Agreement providing for a $750 million Term Loan and a $1,750
million unsecured revolving credit facility, which are due to mature in November
2023 . We are required under the Credit Agreement to make scheduled quarterly
principal payments on the Term Loan.
The Credit Agreement requires interest to be paid, at our option, at either the
ABR or the Eurocurrency Rate (each as defined in the Credit Agreement), plus, in
each case, an Applicable Margin (as defined in the Credit Agreement). Initially,
the Applicable Margin is 0.875% with respect to Eurocurrency Rate loans and
0.00% with respect to ABR loans. Subsequently, the Applicable Margin with
respect to Eurocurrency Rate loans may range from 0.75% to 1.125%, depending on
our public debt ratings (or, if we have not received public debt ratings,
from 0.875% to 1.125%, depending on our Leverage Ratio, which is the ratio of
indebtedness for borrowed money to Consolidated EBITDA, as defined in the Credit
Agreement). Our Credit Agreement also provides a mechanism for determining an
alternative rate of interest to the Eurocurrency rate after LIBOR is no longer
available. The outstanding balance under our revolving credit facility as of
June 30, 2020 is a Eurocurrency Rate loan with a maturity of November 2023 and
an Interest Period (as defined in the Credit Agreement) of one month.
43
--------------------------------------------------------------------------------
Table of Contents
The Credit Agreement contains customary affirmative and negative covenants as
well as a financial covenant. The financial covenant is tested at the end of
each fiscal quarter and requires us to maintain a Leverage Ratio not in excess
of 3.50 to 1.00, or for a period of up to four quarters following certain
material acquisitions, 3.75 to 1.00. We were in compliance with all debt
covenants and representations of the Credit Agreement as of June 30, 2020 .
In February 2020 , our India subsidiary renewed its one-year 13 billion Indian
rupee ($172 million at the June 30, 2020 exchange rate) working capital
facility, which requires us to repay any balances drawn down within 90 days from
the date of disbursement. There is a 1.0% prepayment penalty applicable to
payments made prior to 30 days after disbursement. This working capital facility
contains affirmative and negative covenants and may be renewed annually in
February.
During the six months ended June 30, 2020 , we returned $793 million to our
stockholders through $551 million in share repurchases under our stock
repurchase program and $242 million in dividend payments. We have not
repurchased any shares since April 30, 2020 . We review our capital return plan
on an on-going basis, considering the potential impacts of COVID-19 pandemic,
our financial performance and liquidity position, investments required to
execute our strategic plans and initiatives, acquisition opportunities, the
economic outlook, regulatory changes and other relevant factors. As these
factors may change over time, the actual amounts expended on stock repurchase
activity, dividends, and acquisitions, if any, during any particular period
cannot be predicted and may fluctuate from time to time.
Other Liquidity and Capital Resources Information
We seek to ensure that our worldwide cash is available in the locations in which
it is needed. As part of our ongoing liquidity assessments, we regularly monitor
the mix of our domestic and international cash flows and cash balances. As of
June 30, 2020 , the amount of our cash, cash equivalents and short-term
investments held outside the United States was $3,603 million , of which $2,098
million was in India . We evaluate on an ongoing basis what portion of the
non-U.S. cash, cash equivalents and short-term investments held outside India is
needed locally to execute our strategic plans and what amount is available for
repatriation back to the United States .
In March 2020 , the Indian parliament enacted the Budget, which contains a number
of provisions related to income tax, including a replacement of the DDT,
previously due from the dividend payer, with a tax payable by the shareholder
receiving the dividend. This provision reduces the tax rate applicable to us for
cash repatriated from India . As of the first quarter of 2020, we limited our
indefinite reinvestment assertion to India earnings accumulated in prior years.
Future events may occur, such as material changes in cash estimates,
discretionary transactions, including corporate restructurings, and changes in
applicable laws or interpretations of such laws, that may lead us to change our
assertion.
On July 20, 2020 , the U.S. Treasury Department and the Internal Revenue Service
released final regulations related to the global intangible low-taxed income, or
GILTI, high-tax exclusion. We are evaluating the potential impact of these
regulations. While we do not anticipate a material impact on our overall income
tax provision, the regulations may reduce our income taxes payable in 2020.
Given the dynamic nature of the COVID-19 pandemic, its future impact on our
ongoing business, results of operations, liquidity needs and overall financial
performance are difficult to estimate at this time. However, we expect our
operating cash flows, cash and short-term investment balances to be sufficient
to meet our operating requirements and service our debt for the next twelve
months. Our ability to expand and grow our business in accordance with current
plans, make acquisitions and form joint ventures, meet our long-term capital
requirements beyond a twelve-month period and execute our capital return plan
will depend on many factors, including the rate, if any, at which our cash flow
increases, our ability and willingness to pay for acquisitions and joint
ventures with capital stock and the availability of public and private debt and
equity financing. We cannot be certain that additional financing, if required,
will be available on terms and conditions acceptable to us, if at all.
Commitments and Contingencies
See Note 12 to our unaudited consolidated financial statements.
Off-Balance Sheet Arrangements
Other than our foreign exchange forward and option contracts, there were no off-balance sheet transactions, arrangements or other relationships with unconsolidated entities or other persons in the six months endedJune 30, 2020 that have, or are reasonably likely to have, a current or future effect on our financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources. 44
--------------------------------------------------------------------------------
Table of Contents Critical Accounting Estimates Management's discussion and analysis of our financial condition and results of operations is based on our unaudited consolidated financial statements that have been prepared in accordance with GAAP. The preparation of these financial statements requires management to make estimates and assumptions that affect the amounts reported for assets and liabilities, including the recoverability of tangible and intangible assets, disclosure of contingent assets and liabilities as of the date of the financial statements, and the reported amounts of revenues and expenses during the reported period. On an on-going basis, we evaluate our estimates. The most significant estimates relate to the recognition of revenue and profits, including the application of the cost to cost method of measuring progress to completion for certain fixed-price contracts, income taxes, business combinations, valuation of goodwill and other long-lived assets and contingencies. We base our estimates on historical experience, current trends and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. The actual amounts may differ from the estimates used in the preparation of the accompanying unaudited consolidated financial statements. For a discussion of our critical accounting estimates, see "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" in our Annual Report on Form 10-K for the year endedDecember 31, 2019 . Our significant accounting policies are described in Note 1 to the audited consolidated financial statements included in our Annual Report on Form 10-K for the year endedDecember 31, 2019 .Goodwill is tested for impairment at the reporting unit level on an annual basis and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value. During the first quarter of 2020, COVID-19 negatively affected all major economic and financial markets and, although there is an extremely wide range of possible outcomes and the associated impact is highly dependent on variables that are difficult to forecast, we deemed the deterioration in general economic conditions sufficient to trigger an interim impairment testing of goodwill as ofMarch 31, 2020 . Our interim test results as ofMarch 31, 2020 indicated that the fair values of all of our reporting units exceed their carrying values and thus, no impairment of goodwill existed as ofMarch 31, 2020 . No additional triggers for an interim impairment test have been identified sinceMarch 31, 2020 . Due to the size of past acquisitions in our healthcare reporting unit, this reporting unit carries the most significant portion of our goodwill balance and has the least amount of excess fair value over its carrying value.
Recently Adopted and New Accounting Pronouncements
See Note 1 to our unaudited consolidated financial statements.
Forward Looking Statements
The statements contained in this Quarterly Report on Form 10-Q that are not historical facts are forward-looking statements (within the meaning of Section 21E of the Exchange Act) that involve risks and uncertainties. Such forward-looking statements may be identified by, among other things, the use of forward-looking terminology such as "believe," "expect," "may," "could," "would," "plan," "intend," "estimate," "predict," "potential," "continue," "should" or "anticipate" or the negative thereof or other variations thereon or comparable terminology, or by discussions of strategy that involve risks and uncertainties. From time to time, we or our representatives have made or may make forward-looking statements, orally or in writing. Such forward-looking statements may be included in various filings made by us with theSEC , in press releases or in oral statements made by or with the approval of one of our authorized executive officers. These forward-looking statements, such as statements regarding our anticipated future revenues or operating margin, earnings, capital expenditures, impacts to our business, financial results and financial condition as a result of the COVID-19 pandemic, anticipated effective income tax rate and income tax expense, liquidity, access to capital, capital return plan, investment strategies, cost management, realignment program, 2020 Fit for Growth Plan, plans and objectives, including those related to our digital practice areas, investment in our business, potential acquisitions, industry trends, client behaviors and trends, the outcome of regulatory and litigation matters, the incremental accrual related to the India Defined Contribution Obligation and other statements regarding matters that are not historical facts, are based on our current expectations, estimates and projections, management's beliefs and certain assumptions made by management, many of which, by their nature, are inherently uncertain and beyond our control. Actual results, performance, achievements and outcomes could differ materially from the results expressed in, or anticipated or implied by, these forward-looking statements. There are a number of important factors that could cause our results to differ materially from those indicated by such forward-looking statements, including: •economic and political conditions globally and in particular in the markets in which our clients and operations are concentrated; 45
--------------------------------------------------------------------------------
Table of Contents •the significant and continuing adverse impact of the COVID-19 pandemic on our business, results of operations, liquidity and financial condition, and the potential for such impact being materially adverse to us as the pandemic continues to rapidly evolve and cause significant loss of life and interruption to the global economy; •our ability to attract, train and retain skilled professionals, including highly skilled technical personnel to satisfy client demand and senior management to lead our business globally; •challenges related to growing our business organically as well as inorganically through acquisitions, and our ability to achieve our targeted growth rates; •our ability to achieve our profitability and capital return goals; •our ability to successfully implement our 2020 Fit for Growth Plan and achieve the anticipated benefits from the plan; •our ability to meet specified service levels or milestones required by certain of our contracts; •intense and evolving competition and significant technological advances that our service offerings must keep pace with in the rapidly changing markets we compete in; •legal, reputation and financial risks related to our recent ransomware attack and if we otherwise fail to protect client and/or Cognizant data from security breaches or cyberattacks; •the effectiveness of our business continuity and disaster recovery plans and the potential that our global delivery capacity could be impacted; •restrictions on visas, in particular inthe United States ,United Kingdom and EU, or immigration more generally, which may affect our ability to compete for and provide services to our clients; •risks related to anti-outsourcing legislation, if adopted, and negative perceptions associated with offshore outsourcing, both of which could impair our ability to serve our clients; •risks related to complying with the numerous and evolving legal and regulatory requirements to which we are subject in the many jurisdictions in which we operate; •potential changes in tax laws, or in their interpretation or enforcement, failure by us to adapt our corporate structure and intercompany arrangements to achieve global tax efficiencies or adverse outcomes of tax audits, investigations or proceedings; •potential exposure to litigation and legal claims in the conduct of our business; •potential significant expense that would occur if we change our intent not to repatriate prior year Indian accumulated undistributed earnings; and •the factors set forth in "Part I, Item 1A. Risk Factors" in our Annual Report on Form 10-K for the year endedDecember 31, 2019 , as updated by " Part II, Item 1A. Risk Factors " in this Quarterly Report on Form 10-Q for the quarter endedJune 30, 2020 . You are advised to consult any further disclosures we make on related subjects in the reports we file with theSEC , including this report in the section titled "Part I, Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Part I, Item 1. Business" in our Annual Report on Form 10-K for the year endedDecember 31, 2019 . We undertake no obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except as may be required under applicable securities laws.
© Edgar Online, source
