Cognizant Technology Solutions Corporation (CTSH) Q1 2010 Earnings Report, Transcript and Summary

Ladies and gentlemen, welcome to the Cognizant Technology Solutions First Quarter 2010 Conference Call. [Operator Instructions] I would now like to turn the conference over to David Nelson, Vice President, Investor Relations and Treasury at Cognizant. Please go ahead, sir.

Thank you, and good morning, everyone. By now you should have received a copy of the company's first quarter 2010 earnings release. If you have not, a copy is available on our website, cognizant.com. The speakers we have on today's call are Francisco D'Souza, President and Chief Executive Officer; and Gordon Coburn, Chief Financial and Operating Officer of Cognizant Technology. Before we begin, I would like to remind you that some of the comments made on today's call and some of the responses to your questions may contain forward-looking statements. These statements are subject to the risk and uncertainties as described in the company's earnings release and other filings with the SEC. I would now like to turn the call over to Francisco D'Souza. Francisco, please go ahead.

Thanks, David, and good morning, everyone. I'm pleased to report yet another strong quarter and the resulting increase in our guidance for 2010. After summarizing our Q1 results and giving you some context for our revised 2010 outlook, I'd like to spend time today commenting on the strength of Cognizant's growth platform. Gordon will then discuss our financial and operating metrics. And as always, we'll conclude by opening the floor for questions. Our first quarter results reflect the fact that the cyclical downturn that has marred the global economy over the last 18 to 24 months appears to be turning. While our planning assumption remains, that it is premature to say that a full recovery is upon us, we're optimistic that the worst of the recession is behind us. First quarter revenue was $960 million against our guidance of at least $935 million, a sequential increase of 6.3% and 29% on the year. That growth was once again broad-base spanning many of our services, industries and geographies. We saw strong performance in core service offerings and believe that they have ample room for continued long-term growth. Application Development saw a surge this quarter, growing faster than Application Maintenance, perhaps signaling that a recovery in discretionary spending is underway. In terms of industries, we saw growth in Financial Services as an environment of relative stability continued in that industry. Retail and Manufacturing delivered another strong quarter, contributing significantly to both sequential and year-on-year results. Our Other Industry category also grew substantially, driven largely by success in the telecom and high-tech sectors. During the quarter, we added five accounts that we consider strategic and have the potential to ramp up to at least $5 million and more than $50 million in annual revenue; two from Financial Services, two from Retail and Manufacturing and one from Healthcare and Life Sciences. Turning to geographies, while a surge in North American revenues drove results, revenues increased throughout much of the world. The U.K. came back on stream, though continental Europe remained sluggish due to slower economic recovery and a negative impact from weaker currencies. We expect European recovery to take a few more quarters. We were encouraged by rapid expansion of our business outside North America and Europe, what we refer to as the rest of the world. Though growing from a small base, the region posted nearly 30% sequential growth and 90% year-on-year growth. Despite the optimism that our first quarter results portend, we remain cautious. The overall economic situation looks more positive, but still tenuous. Demand and credit, prerequisites for business investment, are resuming some normalcy, yet unemployment gnaws at developed economies. And while the economies of many European nations are looking up, those still struggling, Greece, Spain, Portugal, Italy, among others, could impact the broader European Union and the global economy. Consequently, our planning bias will remain cautious until we see, at a minimum, sustained improvement in the unemployment situation and less volatility in the currency markets. Given this posture of cautious optimism, we've increased our 2010 guidance to at least 25% revenue growth or at least $4.1 billion for the year, up from the at least 20% guidance we put forward last quarter. This increased guidance reflects our Q1 overall performance and strong expectations for Q2, but factors a more cautious approach in the back half of the year given the continued economic uncertainties that I referred to earlier. Gordon will cover our detailed results and guidance shortly. I'd now like to talk about Cognizant's growth platform. From our conversations with clients at our recently concluded customer event and from other sources, it's clear that clients have re-embarked on their growth agendas after a pause of 18 to 24 months. Given the reemergence of top line growth as a key priority for clients and the resulting demand for our services, it's appropriate to spend some time discussing Cognizant's overall architecture for sustained growth. Let's start with a look at the demand environment. Historically, economic recovery has been a strong catalyst for our business as client seek to free investment capital by outsourcing non-core processes. We saw this after the 2001 slowdown, and we are beginning again to see this trend driving demand for our services. During this recovery, we also see another powerful driver fueling demand. The past two years have not just been the time of a major cyclical downturn, but also that of a significant secular shift point for many of the industries we serve. These secular changes are driven by megatrends of digitization, demographic shifts, government-mandated change and new disruptive technologies such as cloud, social computing and virtualization. These shifts represent challenges and growth opportunities for our clients. In this environment, clients don't want to choose between a strategic partner and a cost-effective outsourcing provider. They want both. The investment that we've made over the years position us extremely well to serve these twin needs. To respond to market demand, Cognizant's approach has been to lead our market in terms of reinvestment, continually innovating so that our clients turn to us first as their needs of a partner change and evolve. Our reinvestment approach is underpinned by two tenets. First, at any point in time, we focus our investments on a small set of opportunities that represent the highest priorities for Cognizant, based on the strong conviction that our resources are most productive when they aren't stretched thin. Second, we balance investments across multiple return horizons, making sure to capitalize on near-term opportunities, but never losing sight of planting seeds for the future. This discipline of consistently executing this reinvestment approach over many years through up-and-down cycles has resulted in a strong three-pillar growth platform that we believe can drive sustainable growth at Cognizant. Our core business represents the first pillar. Core services once again this quarter showed strong growth, driven by rising regulation, enhanced offshore adoption and modest redemption in discretionary spending. Our core businesses are strong and vibrant, and we see considerable untapped opportunity in these areas as illustrated by a recent industry analyst report that found that, collectively, the top six India-based providers share only 2.7% of the global services market. The second pillar of growth is comprised of new capabilities, which we have incubated over the past few years, that are now collectively starting to contribute to our growth in a meaningful way. Typically, these are new industries, new capabilities to service the evolving needs of our clients or new geographies to continue market expansion. Two illustrative examples that are showing results include our Enterprise Analytics Practice and our Engineering and Manufacturing Solutions Practice. In our Enterprise Analytics Practice, we help businesses around the world that are facing an explosion of data volumes to distill large quantities of data into actionable information. Through increased hiring of statisticians and analysts, combined with Cognizant's world-class data management technologists, our Enterprise Analytics Practice has helped clients in two major ways. First, by developing applications to automate repeatable analytical functions; and second by performing very sophisticated custom analytics for our clients that cannot be automated. As an example, we recently helped a large grocery retailer improve chain profitability by analyzing large amounts of customer data to optimize store placement and promotional activities. Another example, our Engineering and Manufacturing Solutions Practice has grown to nearly 1,000 associates in under two quarters. Initially, launched to have Invensys manage product development and innovation, this practice is now helping new customers integrate applications on the manufacturing shop floor and in control systems with back-office enterprise infrastructure. Cognizant's strong capabilities in controls and automation, product lifecycle management and embedded systems are helping clients improve efficiencies, reduce time-to-market and provide better customer service. We were recently chosen by a Fortune 500 organization in the building controls industry as their strategic engineering partner to advance its offerings to optimize energy and operational efficiencies of buildings. The Enterprise Analytics Practice and the Engineering and Manufacturing Solutions Practice are just two example of areas of recent investment that are showing results. We have a portfolio of similar opportunities across geographic markets, industry segments and new solutions, which we have incubated. The third pillar of our growth platform is comprised of the investments we are making today for the longer-term growth. First, there remain areas today where we are underrepresented. Geographic markets like Latin America and adjacent industries like healthcare providers and energy and utilities represent growth opportunities for us. In addition, all of the new technologies and approaches that fall under the umbrella of cloud computing represent opportunities for us to create a range of cloud-enabled solutions, which were not feasible with older-generation technologies. Cognizant is working on new offerings that could unlock new levels of business value by implementing next-generation delivery and commercial models based upon a cloud computing backbone. These vertically-aligned cloud-enabled business solutions weave together people, applications, infrastructure and business process services to address key business problems our clients face. This is an exciting shift in business technology, and we're taking the steps necessary to differentiate ourselves in this important area. When taken together, our three-pillar growth approach, supported by our strategy of reinvestment, creates an engine for sustainable growth at Cognizant. The final point before I turn it over to Gordon is, that our growth platform is only as good as our channel to market. As I've said in the past, our client-facing team is one of the strongest in the industry. A key part of that team is Cognizant Business Consulting, or CBC. CBC resources, now more than 1,800 strong, are involved in an increasing number of projects and accounts. Their role is to identify and deliver the value-added advisory services that our client need to navigate change. An example of this is the work we recently performed for a well-known global apparel brand. Our clients sought to aggressively diversify beyond their traditional business-to-business distribution channel and begin selling directly to consumers. They planned a series of retail acquisitions and also a program to organically open and operate retail stores. CBC consultants developed an M&A integration roadmap designed to standardize business processes and developed an IT strategy for the firm. Simultaneously, we helped the client create a business model that take control of, reopen and operate new retail stores. This program has helped our clients realize substantial synergy savings, eliminate transition costs and reduce IT spending. And we continue to invest in order to further strengthen our client-facing capabilities. As we undertake increasingly strategic roles, our engagements have become wider reaching transformational programs that touch many facets of client organizations. Managing these large initiatives is a unique capability onto itself. To that end, we have invested and will continue to invest in enhancing our client-facing organization with the program management capabilities needed to make these types of large-scale initiatives successful. So as we look forward to the rest of 2010, we are excited that we are well positioned with our clients. We have invested in opportunities across industries and geographies, embracing a range of solutions that give us breadth and balance, balance between efficiency and effectiveness which save our clients money and innovation which expand their businesses. Our customers don't need to compromise between a strategic partner and a cost-effective outsourcing provider. With that, let me now turn the call over to Gordon to detail our financial and operating results. Gordon?

Thank you, Francisco, and good morning to everyone. As Francisco mentioned, our strong revenue performance was broad-based, with all of our major industry segments experiencing healthy demand. During the first quarter, our Financial Services segment, which includes our practices in insurance, banking and transaction processing, grew 5.3% on a sequential basis and 20.3% on a year-over-year basis. It represented 41.5% of revenue for the quarter. The current demand within Financial Services continues to be fairly broad, with clients focusing on cost controls and efficiencies, transformational projects, M&A integration, regulatory compliance, risk management and certainly, discretionary innovation initiatives. Healthcare continued its strong performance during the quarter, with 5.1% sequential growth and 33.3% growth compared to the first quarter of 2009. The segment represented 26.3% of revenues for the quarter. The sequential growth was driven primarily by our healthcare insurance clients. Demand within these clients is driven by movements from the assessment stage to the remediation stage for code set 5010 implementation, demand for data warehouse in business development services to better understand and control medical costs, expansion of BPO services, including claims, benefits quoting and enrollment and the ramp up of new accounts. Manufacturing, Retail and Logistics was also strong during the quarter. This segment continued to build on the growth from 2009, growing 6.4% sequentially, 40.7% year-over-year and represent an 18% of revenues for the quarter. The remaining 14.1% of our revenue came primarily from other service-oriented industries of Communications, Media and High Technology, which grew 11.8% sequentially and 32.7% on a year-over-year basis. Within this other segment, we saw particular strength from our telecommunications clients as we continue to expand the range of services provided to them, as well as strength from our high-tech clients, who primarily purchase development services from us. For the quarter, Application Management represent 55% of revenues and grew 28% year-over-year at 4% sequentially. Application Development was 45% of revenue and grew 30% year-over-year and 9% sequentially. The strength in Application Development was driven in part by pent-up demand resulting from clients having underinvested in their businesses during 2008 and 2009 due to the economic uncertainty. During the quarter, 79% of revenues came from clients in North America, Europe was 18%, and 3% of revenues came from Asia-Pacific, Middle Eastern and Latin markets. On a reported basis, Europe grew 3.5% sequentially and approximately 28% year-over-year. In the first quarter, European revenues was negatively impacted by approximately $6.6 million compared to the fourth quarter of last year due to the weakening of European currencies in the quarter. On a constant dollar basis, Europe grew 7.5% sequentially. Pricing was down approximately 1% on a sequential basis. This was driven primarily by the growth in BPO services during Q1. We are having initial success in our pricing discussions with our client base and expect to see the benefits of these ongoing discussions over the coming quarters as rate increases start to kick in as the year progresses. We had gross additions of 52 new customers during the first quarter. We closed the quarter with 597 active customers. During the quarter, the number of accounts which we consider to be strategic increased by five. This brings our total number of strategic clients to 149. We continue to see a trend towards our newer strategic customers embracing a wider range of Cognizant services at an earlier stage of the relationship. Turning to costs, on a GAAP basis, cost of revenues, exclusive of depreciation and amortization, was approximately $556 million for the quarter compared to $420 million in the first quarter of 2009. The first quarter cost of revenues included approximately $3.7 million of stock-based compensation expense. The increase in cost of revenues is primarily due to additional technical staff, both on-site and offshore, required to support our revenue growth. We increased our technical staff by over 6,700 during the quarter and ended the quarter with close to 80,300 technical staff. Our first quarter SG&A, including depreciation and amortization expenses, were $220.8 million on a GAAP basis, up from $188 million in the first quarter of 2009. GAAP SG&A expense in Q1 included approximately $10.3 million of stock-based compensation expense. Our GAAP operating margin was 19.1% for the quarter, and our non-GAAP operating margin, which excludes stock-based compensation, was 20.5%, slightly above our target range of 19% to 20%. The average rate for the rupee was 45.9 in the first quarter of 2010 versus 46.6 in the fourth quarter of 2009 and 49.6 in Q1 2009. $90 million of rupee-denominated operating expense cash flow hedges settled in Q1. This resulted in a $9.4 million gain, which was recognized in operating expenses and partially offset the increase in cost resulting from the appreciation of the rupee. As of today, we have outstanding contracts with a notional value of $420 million and a weighted average forward rate of 48.9 rupees to the U.S. dollar scheduled to mature in the second to the fourth quarters of 2010. In addition, we have outstanding contracts with the notional value of $480 million and a weighted average forward rate of 48.3 rupees to the dollar scheduled to mature throughout 2011, and outstanding contracts with a notional value of $375 million and a weighted forward rate of 48.5 scheduled to mature in 2012. We had $6.1 million of interest income. In addition, we had $10.3 million of other non-operating expenses, which include $10.5 million foreign exchange loss related to balance sheet remeasurements and related balance sheet hedges, primarily associated with the movement of the dollar versus the rupee, pound and euro. The remaining $200,000 of non-operating expenses included the mark-to-market requirements related to our auction-rate securities portfolio. Our GAAP tax rate for the first quarter was 15.2%, below our original expectations due primarily to the tax impact of our foreign exchange hedges, the geographic mix of our earnings and the discrete item related to our non-U.S. operations. We expect the full year tax rate for 2010 to be approximately 16.3%. This projected rate for the year does not take into account any future tax impact from our foreign exchange hedge program. Turning to the balance sheet, our balance sheet continues to strengthen. We finished the quarter with approximately $1.57 billion of cash, short-term and long-term investments, up almost $21 million from the end of Q4. During the first quarter, operating activities generated over $2 million of cash, finance activities generated over $43 million of cash, comprised of the proceeds of option exercises and related tax benefits, as well as our employee stock purchase program. We spent approximately $24 million on capital expenditures during the quarter. As previously mentioned, for 2010, we expect to spend approximately $180 million on capital expenditures, the substantial majority of which will support another wave of facilities expansion as we finish absorbing our last wave of construction. Based on our $812 million balance on March 31, we finished the quarter with a DSO, including unbilled receivables, of 76 days, up just under four days on a sequential basis and also on a year-on-year basis. The unbilled portion of our receivables balance was approximately $106 million at the end of the first quarter. The growth in our unbilled balance resulted in part from the strong growth in our development services. Approximately 62% of the Q1 unbilled balance was billed in April. During the quarter, 31% of our revenues came from fixed price contracts, flat from fourth quarter of 2009 and up from 29% in the first quarter of 2009. Net headcount increased by 7,100 people during the quarter, of which approximately 28% of the gross additions were hired directly from college and 72% were lateral hires and experienced IT professionals. Similar to others in the industry, we experienced an increase in attrition during the first quarter. Annualized turnover, including both voluntary and involuntary, increased sequentially by 420 basis points to 16.4%. We believe this pick up in attrition resulted from a rapid return to hiring by many of our competitors, combined with a flushing of pent-up demand from those who were considering departing during 2009, but were unable to due to the economy. This attrition was primarily at the junior levels. If we look at attrition on a trailing 12-month basis, which is how many others in the industry report attrition, our Q1 attrition was 12.4%. During the first quarter, we continued the hiring of both recent college graduates and experienced professionals to position ourselves well to meet revised 2010 demand expectations. As a result, our utilization level in Q1 showed a slight decline from Q4. Offshore utilization was approximately 67% during the quarter. Offshore utilization, excluding recent college graduates who are in our training program during the quarter, was approximately 76%. On-site utilization was approximately 89% during the quarter. At the end of Q1, we had 7,500 unbilled people in our training program compared to 6,600 at the end of Q4 of 2009. I'd now like to comment on our growth expectations for Q2 and full year 2010. For the second quarter of 2010, we are projecting revenue of at least $1.015 billion. For the full year 2010, we continue to expect industry-leading revenue growth. Based on current additions and client indications, we have increased our guidance for revenue to at least $4.1 billion. This represents growth of at least 25%. Due to the fragile economy, our guidance assumes some lumpiness in the back half of the year. In addition, the guidance reflects the wind-down in the third quarter of some of the M&A integration work we have been doing and the stabilization of pent-up discretionary development spend from which we have recently benefited. As previously mentioned, during Q1, we exceeded our margin targets. Due to anticipated wage inflation and a weakening rupee, partially offset by an expected improvement in utilization and a slightly favorable pricing environment, we expect to operate within our target margin range of 19% to 20%, excluding stock-based compensation expense for the coming quarter and for the full year. Therefore, we are currently comfortable with our ability to deliver in Q2 GAAP EPS of $0.51 and non-GAAP EPS of $0.55, which excludes estimated stock-based compensation expense of $0.04. This guidance anticipates a Q2 share count of approximately 307.2 million shares and a tax rate of 16.6%. This guidance excludes any non-operating foreign exchange gains or losses. For the full year 2010, based on current business trends, we have increased our GAAP EPS guidance to at least $2.10, and we now expect our full year non-GAAP EPS to be at least $2.26, excluding $0.16 of estimated full year stock-based compensation expense. This guidance anticipates a full year share count of approximately 307.6 million shares and a full year tax rate of 16.3%. This guidance also excludes any future non-operating foreign exchange gain or losses. Now I'd like to open the call for questions. Operator?

[Operator Instructions] Your first question comes from the line of George Price with Stifel, Nicolaus. George Price - Stifel, Nicolaus & Co., Inc.: I guess first thing is, the stronger than expected guidance and strong demand, I was hoping maybe you could talk a little bit more detail about what's driving that, not only from a vertical perspective, but also maybe a technology and service perspective as we go through the rest of the year?

It's Frank. I think as we said during the comments, the growth was really very broad-based, which was encouraging. It was broad-based across industries, and it was broad-based across our service offerings. I think that there are a few things I'd point out. One is that we did see Development grow faster than Application Maintenance this quarter, which was the first time since, I think, the end of 2007 that we saw that happen. So after almost, in fact, a full two years of Maintenance growing faster than Development for the first time, we saw App Development growing faster than App Maintenance. Now I think it's too early to call a trend yet, but we are seeing some strength in discretionary spending and Application Development, and we think that that's largely because essentially our clients have underinvested in their business over the last two years. And now as they turn back to their growth agendas, they're starting to spend and reinvest in their business. So I think that that's one important factor. The other is, I'll just say it again that, as I said during my comments, that a lot of these new services that, as you know, we invested very heavily during the downturn in the premise that we wanted to come out of the downturn in a stronger position than we went in. So we invested heavily in new service offerings like EMS [Engineering and Manufacturing Solutions], like Enterprise Analytics and several others, new geographies like the rest of the world, what we call the rest of the world. And those also are starting to show results. I think it's collectively all of those things that we've invested in that are contributing to our growth.

And also, George, as you know in the fourth quarter, we really started hiring very aggressively. So we had the people in place with the right skills to meet demand as we saw the surge in demand in the first quarter. George Price - Stifel, Nicolaus & Co., Inc.: And looking in the press release, kind of the comments on operating efficiencies relative to the margin commentary. And again, when you look at the other Tier 1 competitors that have much higher margins. I mean, is there any suggestion in that, that 19% to 20% range is being revised upward at all?

To be very clear, absolutely not. We have wage inflation kicking in, in the second quarter, and we need those operating efficiencies, which is a combination of increase in utilization and capturing some scale efficiencies to partially offset the impact of the wage inflation. We fully expect, given the wage inflation, to be in our 19% to 20%, both for the second quarter and for the full year. George Price - Stifel, Nicolaus & Co., Inc.: What's the level of wage inflation that you're expecting, Gordon?

It's very similar to what others have announced recently. We expect, in India, it's going to be running for a combination of solid revisions and promotions running about 14% and then very low single digits in the U.S., so right in line with what our key competitors have already announced. George Price - Stifel, Nicolaus & Co., Inc.: I guess what's the big risk factor to the range at this point? I mean, is it still a sharp move in currency? Or you do you still have full comfort in the range as it stands now?

We're hedged for a little bit over half of our exposure to the rupee for the remainder of the year, so we can certainly absorb some rupee movement. If there was a drastic movement, obviously, that would be a little bit more tricky to absorb, or if something dramatic happened, where they had to be a second major round of wage inflation. But I don't see that yet. It looks like our key competitors, given the environment, are trying to be as disciplined as possible in wage inflation. So we're certainly feeling like that's under control.

Your next question comes from the line of Jason Kupferberg with UBS.

I wanted to focus on a couple of top line questions, if I could, please. Starting with the second-half outlook here, I guess, what's really implied in your revised full year guidance is you really only need, I think, on the average about 3% sequential growth in each of the last two quarters of the year to hit 25%. So that would imply a slowdown from the first half. And I hear your comments loud and clear around staying cautious on Europe and the discretionary spending environment to some extent. So can you just give us a sense, do you need to just see steady-state trends as it relates to Western Europe and discretionary spending to hit 25%? Or do you actually need to see some improvement in those areas to get to the new guidance?

We would not require any improvement.

And you've got almost 150, I think, strategic clients now. Can you help us understand? I mean, how many of those would you characterize as being at a mature run rate right now? Could you estimate any average across this slice of your client base in terms of the percentage of full revenue run rate that you're currently at among these customers? Just so people can get some appreciation for how much growth is still last year.

This is one of the things we're very excited about. Many clients that we would have fully expected to be mature at this point, given the length of the relationship and the size of the relationship are not mature. And the reason for that is we continue to expand the range of services that we offer. And clients are both going deeper on our existing services and starting to utilize us for a broader range of services. So really, very small portion of that 149 clients are mature. I think it's one of the big drivers of the growth opportunity for us over the coming years.

And then have you baked any pricing improvement in to the new 2010 guidance? I mean it sounds like you're a little bit more upbeat on the prospects there as you go through the year and get some new bill rates negotiated with clients. But is that kind of more a potential source of incremental upside? Or have you baked in a little bit of improvement there?

We're facing a little bit of improvement through the back half of the year. Let me spend a minute on this. We are starting to get price increases. Yes, I think clients understand as they're starting to give their own employees wage increases. They're much more open to the discussion about rate increases for us. But they don't all kick in day one because the clients need a little time to plan for it and so forth. But based on what we see now on an apples-to-apples basis -- because you may have some mix shift towards BPO, et cetera. But on an apples-to-apples basis, as the year continues, I think we'll start to see a favorable realized pricing environment.

And just one last quick one on SG&A, I think it was almost down at around 20% of revenues or 20.3%. It may have been your lowest level ever. Any drivers worth highlighting there or one-offs? And is that a new baseline we should work off of going forward?

That was really driven by -- we wanted to continue to invest heavily as we move through the year. But recall how we run the business. We run the business to target 19% to 20% in operating margin. We overshot a little bit this quarter because we had a very healthy surge in margin. We didn't want to go spend against that because we knew wage inflation was coming in the second quarter. So Q1 was a little bit of an anomaly. You'll always see SG&A bounce around a little bit.

Your next question comes from the line of Rod Bourgeois with Bernstein. Rod Bourgeois - Sanford C. Bernstein & Co., Inc.: Is there any reason to believe -- based on what you're seeing in clients' spending intentions, is there any reason to believe that the pent-up demand-driven discretionary spending in the first half of the year would not repeat in the second half of the year? Can you comment on that?

I think, Rod, this is a place where we don't have clear visibility in the back half of the year, and so we're taking a bit of a cautious approach. The reality is that there is an awful lot of work that has not been done over the last couple of years that needs to get done. We don't know how much of that will get released, and we don't know what the new normal is. So if you will, once that pent-up demand flushes through the system, it's unclear to us what the new normal of discretionary spending is going to be, given that many of the industries that we serve are going through these fundamental secular shifts in business models and so on and so forth. So we're not assuming, at least our guidance doesn't assume that discretionary spending continues at the same level that we saw in the first quarter through the rest of the year because we think that there's some possibility. And I can't put a number on it or quantify it at this point, but we think there's some possibility that discretionary spending will return to a new normal, which is a little bit lower level than during the first half of the year. Rod Bourgeois - Sanford C. Bernstein & Co., Inc.: And our sort of back-of-the-envelope numbers would say that maybe it's about half of your business that's actually outside of the core. Are they, at least, the historical core Application Development and Maintenance segments? And I guess I'm wondering if you look outside of the Application Development and Maintenance areas, which of those areas are you seeing the best growth prospects in over the next year? Is it continuing to be in the infrastructure area and business intelligence? And specifically, are you seeing an uptick in demand for ERP-related services in that non-ADM area as well.

We really think about the businesses slightly differently, Rod. When I think about Development, I would include in that data warehousing work, testing work, because a lot of that is integrated into large Development projects. The stuff that I would view as outside of core Maintenance and Development would be things like BPO and IT IS. So I still think about the significant majority of our business being broadly defined Maintenance and Development work. And I think we clearly have opportunities in both. And particularly this year, depending on what absolute discretionary spending, the pent-up demands, which do tend to have more of impact on testing on data warehousing than it would on the Maintenance services. Rod Bourgeois - Sanford C. Bernstein & Co., Inc.: In the Development segment, are you seeing ERP services kind of come back with this pent-up demand? Or is that still not as strong as some of the other areas in the Development category?

I think it's a mixed bag. Certainly, we've seen some of the ERP vendors, see an increase in license revenues. So we think that, that may be a good leading indicator. But remember that our business is only -- our ERP business is only partially tied to new license revenues. At this point, our ERP businesses are -- I wouldn't say that we're seeing remarkable strength in those businesses. They're doing well. Our CRM business or our Customer Solutions business is doing okay. I think that's driven by the BPM part of that business, which is focused on the business process management and business process re-engineering needs within our clients. And given again, back to these secular shifts that are taking place, we're seeing clients doing a lot of BPM-type project. But within the core ERP, those businesses are doing well, but I wouldn't characterize them as being on a remarkable growth trajectory at this point. Rod Bourgeois - Sanford C. Bernstein & Co., Inc.: On the pricing front, it's great to hear that you've got some ability to take rates up. Is that a Cognizant specific opportunity that you're seeing because of the uniqueness of your model? Or do you think rates for the other top offshore players are also on the rise right now?

I'd be very surprised if other offshore players were unable to gain the same opportunities that we're seeing. The clients clearly value the type of services that Cognizant, and I think others of the top tier players, can provide a combination of very strong technology and deep industry knowledge. And clients, as I said, are seeing wage inflation for their own staff and are open to discussions. So we're certainly out there talking to all our clients about rate increases. And I would kind of scratch my head if the competition was not doing the same.

Your next question comes from the line of Ed Caso with Wells Fargo Securities.

Can you talk, Gordon, a little bit about the quarter-over-quarter trends in revenue on sort of a same-day basis?

For the quarter, the number of billing days was down a couple of percent. It was down about 3% from Q4, and that has to impact about half. So billing days cost us about 1 point, 1.5 points.

And what's the outlook for the rest of the year?

If you look at Q2, it's up about four days, which benefits us by about 2 points, and then it's flat each quarter after that.

Tell us if you've got sort of a cash flow model, like percent of net income plus or minus depreciation or non-cash comp plus what the DSO assumption would be?

Obviously, the cash flow, we don't guide specific cash flow. The cash flow characteristics in this business are very good. Q1 cash flow historically has always been the weakest quarter for us because that's when a lot of the bonus money is paid out. So that's why you saw cash flow certainly was weaker in Q1 than we would anticipate it to be for the remaining quarters of the year. And as I mentioned, we expect to spend about $180 million on CapEx this year. But this is a business that generates substantial cash.

Can you talk a little bit about any update you can offer on the immigration and visa front, given the increased noise in the U.S., at least?

It's Frank. I think it's a little early to tell. I mean, obviously, we've seen the revised or the proposal that's been recently circulated. If we step back for a minute, in general, we support the idea of immigration reform. We think that, in the United States, there are changes that are necessary and which could be very beneficial to global knowledge-intensive industries, which is the bulk of our client industries. So we support the idea of comprehensive immigration reform, particularly skilled immigration reform, obviously, which is what impacts our business most directly. But it's a little too early to tell beyond that, how things play out. We've obviously looked at the draft. We think there are portions of the draft that, for example, the green cards that are helpful to our business model and there are areas that we're concerned about, particularly around the H and the L programs. But I think there's a long way between here and legislation, so we'll watch it carefully. We're participating actively in the dialogue, and we'll continue to stay close to it.

Your next question comes the line of Tim Fox with Deutsche Bank.

Sticking with the government theme, any impact at all -- I mean Healthcare, obviously, put up another good quarter here, but have you seen any impact at all in any of the different sub-segments within Healthcare relative to the reform that's going on now? And do you anticipate any headwinds from that as we go throughout the year?

It's too early for the regulatory reform to have impact on our business. And as I look forward, I think that we're still going through in assessing the full impact. But I actually see this as being the longer-term opportunity for us as the focus on medical cost management and so on and so forth is going to require the healthcare ecosystem in general to be far more technology and data-intensive than it even is today. So I think that, that, as a macro trend, will play well to our Healthcare business.

You've been doing some material amount of hiring on the front end of the business over the past downturn here. And I'm just wondering if there's any way to think about how to quantify where you are in that transition. I'm getting some of these rainmakers if you were on board and ramped up and engaged with clients. Where would you characterize that process today?

I think it's an ongoing process. I don't think that there's -- we don't have a target of saying we have x number of people we need to hire in the business. As the business grows, I think you'll continue to see us expanding what we think of broadly as the client-facing team. If you think about the growth in that team, let me try and characterize it for you in a slightly different way. There really are, I would say, three buckets that we're hiring into or building capability around on the client-facing team. The first is what we call the client partners and account managers and account executives. These are the folks that manage our client relationships on a day-to-day basis. And you'll see us continue to hire into that, driven by business growth. As the business grows, we will continue to hire that. As we move into new geographies, we'll need to bring those people into new geographies and so on and so forth. So that will be an ongoing process, driven by business growth. The second area we're investing in is in our Consulting business, in the CBC team that I talked about. CBC, as I mentioned in my remarks, is about 1,800 people at this point, and those are largely billable folks, give or take, with utilization. And so we'll continue that build-out. I would say that in that build-out, although we're not focused on scale, we're focused far more on quality of outcomes in that business. I would say that we probably are about halfway through the process of building out that team. If I look at the parts of our business that are covered by CBC today, we still have work to do to build that out. And then the last piece of the build-out are new capabilities in the front-end teams that we need to continue to build out as the nature of our business changes as we get engaged in larger and more strategic complex programs, things like program management, for example, which is a very important part of and becoming an increasingly important part of how we need to engage with clients. We didn't have to have extremely sophisticated program management five or 10 years ago because the nature of our client relationships didn't require it. As we are becoming much more integral and much larger in terms of our footprint at given clients, we're going to continue to build out the program management capability. And that's a place where we're at somewhat earlier in our journey, and it's a place that we look to accelerate over the coming days and quarters.

And then, Gordon, just one quick. Any thoughts on 2011 tax rate at this point? Any change to the range we should be thinking about?

In the India budget, that's in the process' final approval. There is no extension of the STPI holiday. However, there is proposals out there for a fairly fundamental restructuring of the India tax code. So the real question is how does that play out if the devil's in the details. So a little too early to know. Clearly, there'll be a jump in the tax rate. But after Direct Tax Code goes through the jump, it would probably be a little less for us than if the Direct Tax Code does not go through.

Your next question comes from Adam Frisch, Morgan Stanley.

Just wanted to pick up some of Tim's question, I believe it was, on reforms. And the turmoil in financials right now is obviously pretty drastic. Is this a good thing for your business? And any examples you can give where increased regulatory action, increased demand for your services would be helpful.

And I think it's early to tell. Obviously, as Gordon said in his remarks, if we look backwards, we've benefited from some of the M&A activity in financials as our clients have merged, acquired, consolidated. There's been an awful lot of work that's been driven by that. But in terms of the regulatory reform that's currently being discussed, I think it's early to tell. We are seeing things like projects in the area of compliance, risk management and so on and so forth, which are driven, not necessarily directly by these regulatory reform, but perhaps, as a strengthening of controls coming out of this crisis. So that's another area that we're benefiting from. But I think it's too early for me to comment on specifically financial regulatory reform and impact on our business.

I want to talk now about where you are in terms of investment in new growth areas, whether analytics, cloud and mobile, relating to the core product itself, like the investment in the technology and the offering, and then how that would compare to the building out aspect of people, marketing, et cetera? Are we still in the early stages of some of these new growth initiatives, or are we kind of further along?

Well, I think you have to think of it as a portfolio. And the portfolio is at different places. The traditional core services are very mature at this point. We continue to enhance them and make investments, but those are -- I would characterize those as more incremental. Then we've got a set of services that you could say we've incubated or that are relatively new, let's say, in the last 18 to 24, 36 months. And I would include things like BPO and IT IS in that group. I would include the Enterprise Analytics business. I would even put Engineering and Manufacturing Solutions or EMS in that group. We've largely made the investments, we'll continue to invest. They still require care and feeding but are already starting to show revenue that are profitable in almost all cases. And we're seeing good solid revenue growth. So those are well on their way and doing well. And then we have a set around new emerging opportunity areas. For example, the easy ones to think about will be new geos, like what we call the rest of the world, where we're very early. We've been making investments. We still have lots of work to do in those areas to continue to build out, and those will require attention and investment dollars over the next few years to continue to grow there. Let me spend a minute on cloud, since you specifically asked about cloud. The cloud opportunity is an interesting one. And we actually think about the cloud opportunity along two dimensions. Cloud is the technology and it impacts a lot of the areas of our business or has opportunities around a lot of the areas of our business. So when you think about cloud from an infrastructure standpoint, our IT infrastructure team is very heavily involved in the technologies around virtualization, around helping clients put in private clouds, around advising clients on how to use public clouds from an infrastructure standpoint. When you think about cloud from a platform standpoint, like the platforms that are available through Salesforce and so on and so forth, there, we have -- that impacts principally our Application Development business. And we're already engaged in a number of projects where we're helping clients build new applications, sitting on top of public cloud platform infrastructure, so building apps for Salesforce.com and so on and so fourth. That's already under way, and I think we've got lots of projects that we have when you think about those things. But we also think that cloud is going to enable. Beyond the technology of cloud, we think that cloud is going to enable us to deliver services to our clients in a different way. We think that business services delivered over the cloud, so it's sort of a combination of our traditional BPO business platforms, and people will allow us to create industry utilities delivered over the cloud. That will be a change in how these services are delivered in some segments. And so that's an early area of investment for us. We're continuing to put energy and attention, and that's something that, I think, is in early stages and will start to show results some quarters down the road.

Your next question comes the line of Moshe Katri from The Cowen Group.

Just going back to the income statement, Gordon, gross margin was down year-over-year for the quarter. Can you talk about some of the different factors that are driving that decline?

That's going to be a bunch of noise. Probably, the biggest single thing will be the rupee, which went from, I think, 40, 49 to 45 or so. But there'll be a -- it's just the whole combination of things in there. I could get you some more detail but one that would stick out would be the rupee.

And then going back and talking a bit about some of the recent currency moves, obviously, a year or two years ago, we had one year where the rupee appreciated significantly versus some of the other currencies. And that created a tailwind, actually a headwind for the industry in terms of impact on EBIT margins. Let's go to the worst case scenario and the rupee appreciates, continues to appreciate versus the dollar versus some of the other currencies. Should we assume that Cognizant will do whatever it takes to protect its margins, i.e. will you be willing to bring down some of the other expenses to be able to maintain that 18% to 19% EBIT gap bandwidth that you're talking about?

We're in the fortunate position now. We have quite a few hedges set up going through 2012 which certainly mitigates the impact of movements on the rupee. So for it to have a material impact on us, it really would have to be a quite substantial movement on the rupee. So at this point, we remain quite comfortable, given the hedges that we have set up.

At least one of your competitors is actually talking about recent successes and being able to lock in specific contracts with the customers that will protect them somewhat from the fluctuations of the rupee. Is this a practice that Cognizant is also kind of looking at, at this point?

That's very client-by-client specific. Some of our clients, the client takes the risks. Other clients, we take the risk. And obviously, we try to charge a little bit of a premium where we take the risk. So it's all over the board. I don't think there's been a movement one way or the other. There's always been a balance between the two.

Your final question comes from Julio Quinteros with Goldman Sachs.

One quick question that go back to the gross margins. The 42 level that we're kind of settling in, that was actually also in the fourth quarter number, and since then, I think you look at the run rate for SG&A down to 19%, 19.2% now. Does the gross margin actually go back from here? Or with the kind of puts and takes of the rupee and the hiring, kind of things that you're seeing there, should we sort of continue to model along these lines? Or is there some other way to think about how that gross margin could possibly come back from the 42.5 level that we're seeing now for the last two quarters?

I don't see any big movements one way or the other. Obviously, we have the wage inflation kick in. I think we'll got some price benefit as we get later into the year. Do I see it magically bouncing back up to the 44, 45 level? Probably unlikely. It's going to stay somewhere around here. But let me be clear, it bounces around quarter-to-quarter both ways. We do not manage the business to a gross margin levels. We manage the business to an operating margin level.

I mean, to be fair, though, the 42 level is relatively recent phenomena because 44 to 45 had been, as I go back all the way 2007, I think we've seen this all before.

That's fair. Now remember in 2009, growth slowed. And when growth slows, you tend to have a bit higher margins because you have less and all those transfer going on. But if you compare now to 2007, yes, gross margins come down a little bit. Be a little careful comparing it to 2009, though, because they are different in the growth rates.

And then no matter -- relative to that and the buffer at the operating margin level, you're obviously comfortable with the 19% to 20% range with the SG&A sort of being the offset to sort of manage against the gross margin number?

Yes, that's the right way to think about it. Our goal is to manage the business to a 19% to 20% margin, excluding equity expensing. And we think we have all the levers lined up to do that.

Well, thanks, everyone, and thanks for your attention. We appreciate the opportunity to explain the factors behind this quarter's success and our raised outlook. We're optimistic that our investments have created a platform for growth that positions us well in the marketplace, and we look forward to speaking to you again next quarter. Thank you.

Thank you. This concludes today's conference call. You may now disconnect.