We Donít Make All The Profit We Can

A decade ago, Cognizant Technology made a curious decision to keep its profit margin lower than its peers. Today, the strategy is paying off

Published: Jul 15, 2009

The Firm
Cognizant Technology Solutions, ranked 7th in the Forbes List of 25 Fastest Growing Technology Companies in America

The Boss
Francisco D’Souza, 40, CEO

The Gamble

To sacrifice some profit and reinvest it in growth

The Risk
Investor discontent at lower returns

The Reward
Among the least hit by the slowdown, growth intact

Track Record
Five-year average revenue growth 48 percent, net profit growth 46 percent

Future Projects
10 percent revenue growth in 2009 vs. industry growth in single digits for 2009-10

The decision to stick to a 19-20 percent operating profit margin was a strategic choice. We started as a captive shop for Dun & Bradstreet in 1994. When we wanted to take our company public a few years later, our challenge was to differentiate ourselves from the other 600 to 700 offshore companies in India.

QUITE AT HOME: Fransisco D'Souza on a street in Sao Paulo, Brazil
Image: Maurico Lima/ AFP for Forbes India
QUITE AT HOME: Fransisco D'Souza on a street in Sao Paulo, Brazil
We did a fairly detailed analysis of the marketplace. We found that, from a customer viewpoint, there were traditional Indian offshore firms that were good for low-end, repeatable tasks. And there were traditional technology consulting firms [Big Eight], good for high-end transformational work that required deep domain and industry expertise and frequent interaction with business users.

We said to ourselves, if we could provide our customers with experience that was equivalent to the Big Eight but with the global delivery capability of an offshore company, we could differentiate ourselves. In those days, the Big Eight were operating in mid-to-high single-digit operating margins, and the offshore companies were in the very high 20s and 30s. We chose an operating margin that was in the middle of those two.

When we went for IPO we hadn’t achieved 19 percent. We told our investors we had a reasonable game plan to bring it to 19 percent. But we also said that it was part of a trade-off.

Cognizant would use a cushion of 5-6 percent margins to reinvest in the business to deliver higher growth. So, we told them we will grow faster than our competitors. Shortly after we went public, in three or four quarters, we were able to demonstrate that higher growth rate. Once we did that investors were more comfortable with that trade-off.

These investments go into many things. The key is to think ahead and get ahead of market trends. Let me describe just two.

In 1998, the first major investment we made was in our client facing organisation. In today’s environment, that team of people, now 700 strong, is one of the key reasons that we are able to navigate so effectively through this difficult economic environment. As our clients face a difficult economic environment, we have people at customer locations every day talking in customer shoes so that we can understand pressure points and respond.

Another such investment was in 2003-04-05. Our company and our industry were poised for rapid growth and we said the best way to capitalise on growth at that time is to have a best team of people at short notice for our clients. We brought [staff] utilisation to lower levels.

If we encounter a quarter where we are faced with some expenses that we did not expect, we regulate our investment in that quarter, so that we still deliver the 19-20 percent.

At this point, we are comfortable with a 19-20 percent operating margin. In the last one decade, there were changes around pricing, cost structure, and the exchange rate. Yet we were able to maintain 19-20 percent. So going forward, it will have to be something very fundamental and far reaching which would cause us to look at the margin and say 19-20 is no longer the appropriate range. Ours is still a nascent market. I believe, penetration being low, growth rates and therefore margins can still continue to be healthy.

As for future growth, there are a lot of white spaces that Cognizant doesn’t occupy today. Our presence in Asia is small. We will do market studies in Latin America and the Middle East. We will continue to invest in our BPO services, our IT infrastructure services and analytics. And there are industries in which we have limited footprint. We will invest in those.

I don’t think it took a lot of brilliant strategy to come up with this model of being positioned in the middle.

What we did extraordinarily well was execution. I always say that strategy without execution is simply conversation. Conversation about the things that you would like to do and you would do, but if you don’t execute well, it’s meaningless. We picked a strategy and then we just stuck with it through the good times and the bad.

Now it was not a dogmatic conviction that it’s always the right strategy. We have a healthy discipline in Cognizant of always second guessing ourselves. Market will and can be brutally honest with you. You have to be prepared to make mid-course correction.

(As told to N.S. Ramnath)

(This story appears in the 17 July, 2009 issue of Forbes India. You can buy our tablet version from Magzter.com. To visit our Archives, click here.)

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  • Yuvraj

    Though nothing can be taken away from Cognizant for this strategy. But the lesser impact it is enjoying also has to do with the sectors they are in. Almost 30% of the revenues come from Health Sciences which is not impacted by recession.<br /> <br /> Though its great that they have re-invested in making a stable framework for further growth, it will be a crucial stage when they themselves feel that they are in the maturity phase. Will be interesting to see what will be the next step then. And what will happen to all the latent value.

    on Aug 4, 2009
  • Vishnu

    After I read this piece in Forbes, I went back and looked at the company' financials over the last 10 years of their listed history. Then I realized that Cognizant should have ideally been the cover story in Forbes and not Infosys. The PSPD model that Infosys so unabashedly talks about (what predictability is Infosys talking about when they bring down their revenue guidance thrice a year!) seems to be more applicable to Cognizant. 10 years of managing operating margins within a narrow band of 19 to 20 percent is no joke.<br /><br /> <br /><br /> On a slightly different note, may be Forbes should explore doing a story on the correlation between media coverage and business success. Less the column centimers of space that a company gets, the more successful it is. Cognizant and Infosys are two sides of that coin.

    on Jul 22, 2009
  • Score

    While initially it all sounded like fluff talk, over the years Cognizant has managed to actually prove that they are true to their words when it comes to making promises to the investors and clients. Congratulations for breaking away from the pack.

    on Jul 18, 2009
  • Shah

    While a lot of companies are mortgaging their future for short term gains, it's interesting that Cognizant has taken such a bold step to ensure long term growth. A strategy worth emulating by others who are priding themselves in increasing their margins at the cost of long term growth. Investors need to start long-term growth strategies from companies rather than focusing on their EPS for the next few quarters.

    on Jul 17, 2009
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