How activist Mantle Ridge’s presence at Cognizant can help lift the company’s valuation

Business: Cognizant Technology Solutions engineers modern businesses. Its services include artificial intelligence (AI) and other technology services and solutions, consulting, application development, systems integration, quality engineering and assurance. Its segments include Health Sciences (HS), Financial Services (FS), Products and Resources (P&R), and Communications, Media and Technology (CMT). The HS segment consists of health-care providers and payers, as well as life sciences companies. The FS segment includes banking, capital markets, payments and insurance companies. The P&R segment includes manufacturers, automakers, retailers, consumer goods companies, and travel and hospitality companies, as well as businesses providing logistics, energy and utility services. The CMT segment includes global communications, media and entertainment, education, information services and technology companies.

Stock Market Value: $39.13B ($79.12 per share)

Ownership: ~2.4%

Average Cost: n/a

Activist Commentary: Mantle Ridge was launched by Paul Hilal, a veteran activist who was a former senior partner at Pershing Square. Hilal is an incredibly experienced activist investor with a unique mix of analytical abilities, communication skills and likability that you rarely see in the activist world. Mantle Ridge is very selective with its investments. While many activists look for three to four good ideas a year, Mantle Ridge looks for one good idea every three to four years. Hilal’s approach has generally been to constructively engage with the company, amicably get the required level of board representation for the given situation, bring in the right senior management team and then decide how to best optimize the portfolio of assets. Hilal played a leading role in several Pershing Square investments including Air Products, Ceridian and Canadian Pacific.

Mantle Ridge has taken a more than $1 billion position in Cognizant Technology Solutions.

Cognizant (CTSH) is a global IT services company specializing in digital transformation, consulting, and outsourcing solutions. The industry is highly concentrated, an oligopoly with Cognizant competing against major players such as Accenture, Infosys and Capgemini. These firms derive their durable profitability and growth from designing, implementing, maintaining and evolving technology solutions for their corporate clients. Cognizant was established more than 30 years ago with Kumar Mahadeva as a founding CEO. Mahadeva was a brilliant businessman who keenly identified the opportunity that laid ahead. Prioritizing industry-beating pricing and accelerated growth, he believed that this would help attract and retain the best talent in an industry in which attrition is perhaps the biggest risk. Under the leadership of Mahadeva and his successors, including Francisco D’Souza, Cognizant was massively successful, becoming one of the largest players in the industry, growing over 35,000% from its IPO in 1998 to the end of D’Souza’s tenure as CEO in 2019.

In 2019, DeSouza was succeeded as CEO by Brian Humphries, the former CEO of Vodafone. This was the first Cognizant CEO and the only CEO among its peers who was not an industry insider. Moreover, his leadership style was a poor cultural fit for the company, focusing too much on reducing costs and being characterized as aggressive in a people-oriented environment. Additionally, as an industry outsider, he simply lacked the expertise to push major contracts over the finish line relative to peers who could bring in a respected industry CEO to close big deals. As a result, over the course of Humphries tenure, there was increasing attrition in Cognizant’s workforce, spiking to 600 basis points above its peer average and was concentrated in key growth-oriented roles in long-tenured on and offshore delivery and sales. This was completely counter to Mahadeva’s original insight that minimizing employee churn, especially client-facing personnel, was the key to sustaining long-term growth. Integration processes are very long, expensive, and clients demand continuity. High employee churn disrupts sales cycles, weakens client trust, and makes it difficult to retain and attract new clients, setting off a negative flywheel of declining bookings and shrinking margins. As a result, Cognizant slipped from a best-in-class player in organic growth (compound annual growth rate of over 10%, firmly in the top quartile) to an industry laggard. By 2022, the company’s organic growth was trailing peers by up to 900bps. This inevitably led to a negative total shareholder return during Humphries’ tenure as CEO of -7% versus 70% and 115% for peers Accenture and Infosys, respectively.

In the second half of 2022, Mantle Ridge began buying the stock which was trading in the high-50s to low-60s. Shortly after on Jan. 12, 2023, Cognizant announced a major reorganization. CEO Brian Humphries would be replaced by former Infosys president Ravi Kumar and chairman Michael Patsalos-Fox would be replaced by director Stephen Rohleder, a former executive of Accenture. Mantle Ridge has been very respectful of the events transpiring at the company and has not made any public comments regarding these changes. However, as somebody who has intimately followed every activist campaign for the past 20 years, we can tell you two things: (i) activists engage with fewer than 4% of public companies each year and (ii) significantly fewer companies announce a change in CEO and chairman at the same time. We are not saying that Mantle Ridge was the cause of these changes, but the odds of these two things happening contemporaneously in a vacuum are astronomically low and we expect that the board at the very least heard the footsteps.  

Since the elevation of Kumar and Rohleder, performance at Cognizant has been night and day. Returning to those three indicators of success, first, Cognizant has delivered a total shareholder return of over 30%, outpacing Infosys and Accenture, which are in the low 20s. Attrition has been reduced and, in fact, 13,000 employees who had left the company have returned since this new team took over. It’s quite a strong signal of a shifting tide, and confidence in the company has been restored for some of its most important stakeholders. In addition, from previously underperforming growth by 900bps, in 2024 the deficit has been all but eliminated to 100bps, posting a deficit of just 30bps in Q4 24 after several consecutive months of recovery. Management has signaled that, going forward, they expect to be in the winners’ circle (top quartile) again. Lastly, earnings before interest and taxes margins have also expanded and exceeded targets the past two years, up from 15.1% in 2023 to 15.4% in 2024, this doesn’t even account for the additional 30bps of underlying margin expansion adjusted out due to a recent acquisition.

One would think that between replacing the CEO, chairman and CFO with respected industry insiders and these drastically improved results, it would result in a rerating of Cognizant’s stock, yet the company continues to trade at a significant discount to peers. Cognizant trades at a total enterprise value per employee of $119,000 while peers trade at nearly twice that. In addition, despite having nearly identical revenue generation, Infosys’ enterprise value is nearly double that of Cognizant. Furthermore, despite clear signs of continuous closure of the organic growth gap with peers and management’s confidence in the future, outyear consensus still projects the spread between Cognizant and its peers widening. This is a company that after several years of underperformance has finally corrected its issues, but which the Street is not yet ready to trust.

Mantle Ridge is known for taking large board representation at their portfolio companies, often a majority, and replacing the CEO. None of that is happening here. This is a strong signal that Mantle Ridge likes the new CEO and is supportive of the actions that the board is taking. While we could not identify any direct relationships between Hilal and current board or senior management members, he is very well connected in many industries, and we would doubt there is more than one degree of separation between him and many of the key players here. Activists coming into underperforming stocks and taking action is generally a strong sign of potential future shareholder value. What may be an even stronger sign is an activist coming into a stock and not having to act. That is what we see here, and we have the comfort of the existence of the activist in case things start to go off track. Mantle Ridge has had a position (likely through non-13F reporting derivatives) in the company since 2022, and it is first being made public now, just before Cognizant’s investor day on March 25th. We do not think this is a coincidence. It is a signal to the company to educate the investors at investor week with what Mantle Ridge sees and the company knows: Growth, margins and attrition are all going in the right direction. Mantle Ridge’s stake will undoubtedly pique the interest of the market and increase turnout for the analyst day. It should signal to the Street that this is a company deserving of a revised outlook to adjust for the positive management and performance trends that have been percolating for several quarters now. Looking at EBIT/employee and price-to-earnings, there could be between 35% and 45% upside to the company’s current valuation if management can continue the march toward the winner’s circle.

Ken Squire is the founder and president of 13D Monitor, an institutional research service on shareholder activism, and the founder and portfolio manager of the 13D Activist Fund, a mutual fund that invests in a portfolio of activist 13D investments.