Cognizant Technology Solutions Corp: Form 10-Q for the period ended Sep 30, 2023

Executive Summary

Cognizant is one of the world’s leading professional services companies, engineering modern businesses and delivering strategic outcomes for our clients. We help clients modernize technology, reimagine processes and transform experiences so they can stay ahead in a fast-changing world. 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. Our services include digital services and solutions, consulting, application development, systems integration, quality engineering and assurance, application maintenance, infrastructure and security as well as business process services and automation. Digital services continue to be an important part of our portfolio, aligning with our clients' focus on becoming data-enabled, customer-centric and differentiated businesses.

In the second quarter of 2023, we initiated the NextGen program aimed at simplifying our operating model, optimizing corporate functions and consolidating and realigning office space to reflect the post-pandemic hybrid work environment. Our drive for simplification includes operating with fewer layers in an effort to enhance agility and enable faster decision making. We expect the savings generated by the program to help fund continued investments in our people, revenue growth opportunities and the modernization of our office space.

In connection with the NextGen program, in the third quarter of 2023 we incurred $72 million of employee separation, facility exit and other costs. Since the inception of the program, we incurred $189 million of employee separation, facility exit and other costs. See Note 4 to our unaudited consolidated financial statements. We currently expect to incur total costs of approximately $300 million with approximately $200 million of such costs anticipated in 2023 and approximately $100 million in 2024. The total costs consist of approximately $150 million of employee severance and other costs primarily related to non-billable and corporate personnel, with approximately $100 million in 2023 and $50 million in 2024, and approximately $150 million of costs related to the consolidation of office space, with approximately $100 million in 2023 and $50 million in 2024. The estimates of the charges and expenditures that we expect to incur in connection with the NextGen program, and the timing thereof, are subject to a number of assumptions, including local law requirements in various jurisdictions, and actual amounts may differ materially from estimates. In addition, we may incur other charges or cash expenditures not currently contemplated due to unanticipated events that may occur in connection with the NextGen program.

Q3 2023 Financial Results1

Revenue

Income from Operations

Operating Margin

Diluted EPS

GAAP Adjusted1

GAAP Adjusted1

GAAP Adjusted1

Revenue up $40 million or 0.8% from Q3 2022; a decline of 0.2% in constant currency1 Income from Operations down $112 million or 14.0% from Q3 2022 Adjusted Income from Operations1 down $40 million or 5.0% from Q3 2022 Operating margin down 240 bps from Q3 2022 Adjusted Operating Margin1 down 90 bps from Q3 2022 Diluted EPS down $0.18 or 14.8% from Q3 2022 Adjusted Diluted EPS1 down $0.01 or 0.9% from Q3 2022

1 Adjusted Income from Operations, Adjusted Operating Margin, Adjusted Diluted EPS and constant currency revenue growth are not measures 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.

During the quarter ended September 30, 2023, revenues increased by $40 million as compared to the quarter ended September 30, 2022, representing an increase of 0.8%, or a decline of 0.2% on a constant currency basis2. Revenue growth was driven by our Communications, Media and Technology and Products and Resources segments, partially offset by revenue decline in our Financial Services segment, which was negatively impacted by weakness in the banking sector. Our recently completed acquisitions contributed 110 basis points to revenue growth, primarily benefiting our Communications, Media and Technology and Products and Resources segment.

Our operating margin and Adjusted Operating Margin2 decreased to 14.0% and 15.5%, respectively for the quarter ended September 30, 2023 from operating margin and Adjusted Operating Margin of 16.4% each for the quarter ended September 30, 2022. Our 2023 GAAP and Adjusted Operating Margins were negatively impacted by increased compensation costs, primarily as a result of two merit increase cycles for the majority of our employees since October 2022, partially offset by the benefit of the depreciation of the Indian rupee against the U.S. dollar and savings generated from our NextGen program. In addition, our 2023 GAAP operating margin was negatively impacted by the NextGen charges, as discussed in Note 4 to our unaudited consolidated financial statements, which were excluded from our Adjusted Operating Margin.

As a global professional services company, we compete on the basis of the knowledge, experience, insights, skills and talent of our employees and the value they can provide to our clients. Our success is dependent, in large part, on our ability to keep our supply of skilled employees in balance with client demand. We closely monitor attrition trends focusing on the metric that we believe is most relevant to our business. This metric, which we refer to as Voluntary Attrition - Tech Services, includes all voluntary separations with the exception of employees in our Intuitive Operations and Automation practice. For the trailing twelve months ended September 30, 2023 our Voluntary Attrition - Tech Services was 16.2% as compared to 29.2% for the trailing twelve months ended September 30, 2022. We finished the third quarter of 2023 with approximately 346,600 employees as compared to 349,400 employees at the end of the third quarter of 2022.

Business Outlook

We continue to expect the long-term focus of our clients to be on their digital transformation into software-driven, data-enabled, customer-centric and differentiated businesses. We believe clients will 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 and geopolitical factors, including the increasing uncertainty related to the global economy, which could affect their demand for our services.

In 2023, we simplified our strategic priorities to the following:

• Accelerate growth - achieve faster growth by shifting the mindset and operating rhythm of the company;
• Become the employer of choice - steward and attract the best technology talent in the industry; and
• Simplify operations - improve operational execution and efficiency to free up cash to fund people and growth investments.

We are focused on expanding our partner ecosystem across a broad range of technology companies, including hyperscalers, cloud providers, enterprise software companies, best-in-class digital software enterprises and emerging start-ups. We believe this partner ecosystem will enable us to enhance our innovative, integrated offerings, by combining third-party products with our service solutions, to deliver enterprise-wide digital transformation.

We currently expect to incur total costs of approximately $300 million in connection with the NextGen program, with approximately $200 million of such costs anticipated in 2023 and approximately $100 million in 2024. See "Executive Summary." In addition to the NextGen program, potential tax law and other regulatory changes, including possible U.S. corporate income tax reform and potentially increased costs for employment and post-employment benefits in India as a result of the Code on Social Security, 2020, among other items, may impact our future results.

2 Adjusted Income from Operations, Adjusted Operating Margin, Adjusted Diluted EPS and constant currency revenue growth are not measures 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.

Results of Operations

Three Months Ended September 30, 2023 Compared to Three Months Ended September 30, 2022

The following table sets forth, for the periods indicated, certain financial data for the three months ended September 30:

(Dollars in millions, except per share data)

(a) Exclusive of depreciation and amortization expense.

N/A Not applicable

Revenues

During the quarter ended September 30, 2023, revenues increased by $40 million as compared to the quarter ended September 30, 2022, representing an increase of 0.8%, or a decline of 0.2% on a constant currency basis3. Our recently completed acquisitions contributed 110 basis points to revenue growth.

3Adjusted Income from Operations, Adjusted Operating Margin, Adjusted Diluted EPS and constant currency revenue growth are not measures 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.

Revenues - Reportable Business Segments and Geographic Markets

Revenues of $4,897 million were as follows for the three months ended September 30, 2023:

(Dollars in millions)

(Dollars in millions)

Recently completed acquisitions contributed 110 basis points to overall revenue growth, including 230 basis points of growth to our Products and Resources segment (primarily in North America) and 310 basis points of growth to our Communications, Media and Technology segment (primarily in Continental Europe and the United Kingdom).4

In addition:

• Reduced demand for discretionary work negatively impacted revenues, primarily in North America across all segments. Banking clients in our Financial Services segment and retail and consumer goods clients in our Products and Resources segment were particularly affected;
• The resale of third-party products in North America in connection with our integrated offerings strategy, primarily in the Financial Services segment, contributed 120 basis points to overall revenue growth;
• North America revenues in the Communications, Media and Technology segment included growing demand among the largest clients in this segment, including for services related to digital content, and revenues from several recently won large deals;
• Revenue growth in the United Kingdom was driven by expansion of work with clients in the Communications Media and Technology segment and insurance clients within the Financial Services segment. Revenue growth in this region was positively impacted by foreign currency exchange rate movements;
• Revenues in the Continental Europe region grew across all segments, led by increased demand from pharmaceutical clients within the Health Sciences segment and from automotive clients within the Products and Resources segment. Revenue growth in this region was positively impacted by foreign currency exchange rate movements; and
• Revenue decline in our Rest of World region was primarily driven by weakness in the Financial Services segment and the negative impact of foreign currency exchange rate movements.

4 Constant currency revenue growth is not a measure of financial performance prepared in accordance with GAAP. See “Non-GAAP Financial Measures” for more information.

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 costs of third-party products and services relating to revenues. The increase, as a percentage of revenues, was due to higher compensation costs for delivery personnel, primarily as a result of two merit increase cycles for the majority of our employees since October 2022, and costs related to resale of third-party products in connection with our integrated offerings strategy, partially offset by the benefit of the depreciation of the Indian rupee against the U.S. dollar.

SG&A Expenses (Exclusive of Depreciation and Amortization Expense)

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. The decrease, as a percentage of revenues, was primarily driven by savings generated from our NextGen program, partially offset by higher compensation costs, primarily as a result of two merit increase cycles for the majority of our employees since October 2022.

Restructuring Charges

Restructuring charges consist of costs related to the NextGen program. Restructuring charges were $72 million or 1.5%, as a percentage of revenue for the three months ended September 30, 2023. For further detail on our restructuring charges see Note 4 to our unaudited consolidated financial statements.

Depreciation and Amortization Expense

Depreciation and amortization expense decreased by 8.5%, or 0.3% as a percentage of revenues, during the third quarter of 2023 as compared to the third quarter of 2022, primarily driven by a reduction in amortization expense due to certain intangible assets reaching the end of their useful lives.

Operating Margin and Adjusted Operating Margin5 - Overall

Our 2023 third quarter GAAP operating margin and Adjusted Operating Margin5 were negatively impacted by increased compensation costs, primarily as a result of two merit increase cycles for the majority of our employees since October 2022, partially offset by the benefit of the depreciation of the Indian rupee against the U.S. dollar and savings generated from our NextGen program. In addition, our 2023 GAAP operating margin was negatively impacted by the NextGen charges, as discussed in Note 4 to our unaudited consolidated financial statements, which were excluded from our Adjusted Operating Margin.

5 Adjusted Income from Operations and Adjusted Operating Margin are not measures 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.

A predominant portion of our costs in India are denominated in the Indian rupee, representing approximately 24% of our global operating costs during the three months ended September 30, 2023. These costs are subject to foreign currency exchange rate fluctuations, which have an impact on our results of operations. We enter into foreign exchange derivative contracts to hedge certain Indian rupee denominated payments in India. These hedges are intended to mitigate the volatility of the changes in the exchange rate between the U.S. dollar and the Indian rupee. Net of the impact of the hedges, the depreciation of the Indian rupee benefited our operating margin for the three months ended September 30, 2023 by 84 basis points as compared to the three months ended September 30, 2022.

Excluding the impact of applicable designated cash flow hedges, the depreciation of the Indian rupee against the U.S. dollar positively impacted our operating margin by 67 basis points during the three months ended September 30, 2023. Each additional 1.0% change in exchange rate between the Indian rupee and the U.S. dollar will have the effect of moving our operating margin by 18 basis points (excluding the impact of the hedges). The settlement of our cash flow hedges negatively impacted our operating margin by 10 basis points during the three months ended September 30, 2023, compared to a negative impact of 27 basis points during the three months ended September 30, 2022.

Segment Operating Profit

In the first quarter of 2023, we made certain changes to the internal measurement of segment operating profit for the purpose of evaluating segment performance and resource allocation. The primary reason for the change was to reflect a more complete cost of delivery. Specifically, segment operating profit now includes an allocation of both SG&A costs related to our integrated practices and the excess or shortfall of incentive-based compensation for commercial and delivery employees as compared to target, which were previously included in "unallocated costs." We have reported 2023 segment operating profits using the new allocation methodology and have recast the 2022 results to conform to the new methodology.

Segment operating profit and operating margin percentage were as follows:

Segment operating profit% Segment operating margin

In the third quarter of 2023, segment operating margins across all our segments were negatively impacted by increased compensation costs, primarily as a result of two merit increase cycles for the majority of our employees since October 2022, partially offset by the benefits of the depreciation of the Indian rupee against the U.S. dollar. In addition, third quarter of 2023 segment operating margin in Health Sciences benefited from higher margin integrated software solutions for healthcare payer clients, while segment operating profit in Communications, Media and Technology was negatively affected by higher costs typical to the initial phases of several recently won large deals in this segment.

Total segment operating profit and operating margin were as follows for the three months ended September 30:

(Dollars in millions)

Unallocated costs for three months ended September 30, 2023 as compared to September 30, 2022 was impacted by the NextGen charges in 2023, see Note 4 to our unaudited consolidated financial statements, partially offset by lower corporate expenses.

Other Income (Expense), Net

The following table sets forth total other income (expense), net for the three months ended September 30:

(in millions)

The foreign currency exchange losses were attributed to the remeasurement of net monetary assets and liabilities denominated in currencies other than the functional currencies of our subsidiaries. The gains on foreign exchange forward contracts not designated as hedging instruments related to the realized and unrealized gains and losses on contracts entered into to offset our foreign currency exposures. As of September 30, 2023, the notional value of our undesignated hedges was $1,248 million. The increase in interest income and interest expense was primarily attributable to higher interest rates in the current period.

Provision for Income Taxes

The Q3 2022 effective income tax rate was impacted by the recognition in the third quarter of 2022 of an income tax benefit of $36 million related to a specific uncertain tax position that was previously unrecognized in our prior-year consolidated financial statements, as previously reported in our Annual Report on Form 10-K. See Note 8 to our unaudited consolidated financial statements for additional information.

Net Income

The decrease in net income was primarily driven by lower income from operations and a higher effective tax rate, partially offset by higher interest income.

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 non-GAAP financial measures to the corresponding GAAP measures set forth below should be carefully evaluated.

Our non-GAAP financial measures Adjusted Operating Margin and Adjusted Income from Operations excludes unusual items, such as NextGen charges. Our non-GAAP financial measure Adjusted Diluted EPS excludes unusual items, such as NextGen charges and the effect of recognition in the third quarter of 2022 of an income tax benefit related to a specific uncertain tax position that was previously unrecognized in our prior-year consolidated financial statements, and net non-operating foreign currency exchange gains or losses and the tax impact of all the applicable adjustments. For further detail on the NextGen charges, see Note 4 to our unaudited consolidated financial statements. The income tax impact of each item excluded from Adjusted Diluted EPS 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 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 executive officers and for making comparisons of our operating results to those of our competitors. We believe that the presentation of non-GAAP financial measures, which exclude certain costs, read in conjunction with our reported GAAP results and 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 may exclude costs that are recurring such as 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 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 September 30:

(1) As part of the NextGen program, during the three months ended September 30, 2023, we incurred employee separation, facility exit and other costs. See Note 4 to our unaudited consolidated financial statements for additional information.

(2) 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.

(3) Presented below are the tax impacts of our non-GAAP adjustment to pre-tax income:

(in millions)

The effective tax rate related to non-operating foreign currency exchange gains and losses varies depending on the jurisdictions in which such income and expenses are generated and the statutory rates applicable in those jurisdictions. As such, the income tax effect of non-operating foreign currency exchange gains and losses shown in the above table may not appear proportionate to the net pre-tax foreign currency exchange gains and losses reported in our unaudited consolidated statements of operations.

(4) As previously reported in our Annual Report on Form 10-K, during the three months ended September 30, 2022, we recognized an income tax benefit of $36 million related to a specific uncertain tax position that was previously unrecognized in our prior-year consolidated financial statements. The recognition of the benefit in the third quarter of 2022 was based on management’s reassessment regarding whether this unrecognized tax benefit met the more-likely-than-not threshold in light of the lapse in the statute of limitations as to a portion of such benefit.

Nine Months Ended September 30, 2023 Compared to Nine Months Ended September 30, 2022

The following table sets forth, for the periods indicated, certain financial data for the nine months ended September 30:

(Dollars in millions, except per share data)

(a) Exclusive of depreciation and amortization expense.

N/A Not applicable

Revenues

During the nine months ended September 30, 2023, revenues increased by $6 million as compared to the nine months ended September 30, 2022, essentially flat on a reported basis, or growth of 0.4% on a constant currency basis6. Our recently completed acquisitions contributed 110 basis points to revenue growth.

6 Adjusted Income from Operations, Adjusted Operating Margin, Adjusted Diluted EPS and constant currency revenue growth are not measures 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.

Revenues - Reportable Business Segments and Geographic Markets

Revenues of $14,595 million were as follows for the nine months ended September 30, 2023:

(Dollars in millions)

(Dollars in millions)

7Our recently completed acquisitions contributed 110 basis points to revenue growth, including 250 basis points of growth to our Products and Resources segment (primarily in North America) and 290 basis points of growth to our Communications, Media and Technology segment (primarily in Continental Europe and the United Kingdom).

In addition:

• Reduced demand for discretionary work negatively impacted revenues, primarily in North America across all segments. Banking clients in our Financial Services segment and retail and consumer goods clients in our Products and Resources segment were particularly affected;
• The resale of third-party products in North America in connection with our integrated offerings strategy, primarily in the Financial Services segment, contributed 60 basis points to overall revenue growth;
• North America revenues in the Communications, Media and Technology segment included growing demand among the largest clients in this segment, including for services related to digital content, and revenues from several recently won large deals, while growth in our Health Sciences segment in the region benefited from increased demand from healthcare payer clients for our integrated software solutions;
• Revenue growth in the United Kingdom was driven by expansion of work with clients in the Communications Media and Technology segment and insurance clients within the Financial Services segment;
• Revenues in the Continental Europe region grew across all segments, led by increased demand from automotive clients within the Products and Resources segment and pharmaceutical clients within the Health Sciences segment; and
• Revenue decline in our Rest of World region was primarily driven by weakness in the Financial Services segment and the negative impact of foreign currency exchange rate movements, partially offset by increased demand from clients in our Products and Resources segment.

7 Constant currency revenue growth is not a measure of financial performance prepared in accordance with GAAP. See “Non-GAAP Financial Measures” for more information.

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 costs of third-party products and services relating to revenues. The increase, as a percentage of revenues, was due to higher compensation costs for delivery personnel, primarily as a result of two merit increase cycles for the majority of our employees since October 2022, partially offset by the benefit of the depreciation of the Indian rupee against the U.S. dollar.

SG&A Expenses (Exclusive of Depreciation and Amortization Expense)

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. The decrease, as a percentage of revenues, was primarily due to the beneficial impact of foreign currency exchange rate movements and savings generated from our NextGen program, partially offset by higher compensation costs, primarily as a result of two merit increase cycles for the majority of our employees since October 2022.

Restructuring Charges

Restructuring charges consist of costs related to the NextGen program. Restructuring charges were $189 million or 1.3%, as a percentage of revenue for the nine months ended September 30, 2023. For further detail on our restructuring charges see Note 4 to our unaudited consolidated financial statements.

Depreciation and Amortization Expense

Depreciation and amortization expense decreased 8.4%, and by 0.2% as a percentage of revenues, during the nine months ended September 30, 2023 as compared to the 2022 period, primarily driven by a reduction in amortization expense due to certain intangible assets reaching the end of their useful lives.

Operating Margin and Adjusted Operating Margin8- Overall

Our 2023 GAAP operating margin and Adjusted Operating Margin8 were negatively impacted by increased compensation costs, primarily as a result of two merit increase cycles for the majority of our employees since October 2022, partially offset by the benefit of the depreciation of the Indian rupee against the U.S. dollar, and savings generated from our NextGen program. In addition, our 2023 GAAP operating margin was negatively impacted by the NextGen charges, as discussed in Note 4 to our unaudited consolidated financial statements, which were excluded from our Adjusted Operating Margin.

Net of the impact of applicable designated cash flow hedges, the depreciation of the Indian rupee benefited our operating margin for the nine months ended September 30, 2023 by 102 basis points as compared to the nine months ended September 30, 2022. Excluding the impact of the hedges, the depreciation of the Indian rupee against the U.S. dollar positively impacted our operating margin by approximately 121 basis points during the nine months ended September 30, 2023. The settlement of our cash flow hedges negatively impacted our operating margin by 15 basis points during the nine months ended September 30, 2023, compared to a positive impact of 4 basis points during the 2022 period.

8 Adjusted Income from Operations and Adjusted Operating Margin are not measures 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.

Segment Operating Profit

In the first quarter of 2023, we made certain changes to the internal measurement of segment operating profit for the purpose of evaluating segment performance and resource allocation. The primary reason for the change was to reflect a more complete cost of delivery. Specifically, segment operating profit now includes an allocation of both SG&A costs related to our integrated practices and the excess or shortfall of incentive-based compensation for commercial and delivery employees as compared to target, which were previously included in "unallocated costs." We have reported 2023 segment operating profits using the new allocation methodology and have recast the 2022 results to conform to the new methodology.

Segment operating profit and operating margin percentage were as follows:

During the first nine months of 2023, segment operating margins across all our segments were negatively impacted by increased compensation costs, primarily as a result of two merit increase cycles for the majority of our employees since October 2022, partially offset by the benefit of the depreciation of the Indian rupee against the U.S. dollar. In addition, 2023 segment operating margin in Health Sciences benefited from higher margin integrated software solutions for healthcare payer clients, while segment operating profit in Communications, Media and Technology was negatively affected by higher costs typical to the initial phases of several recently won large deals in this segment.

Total segment operating profit and margin were as follows for the nine months ended September 30:

(Dollars in millions)

The increase in unallocated costs for nine months ended September 30, 2023 as compared to September 30, 2022 was primarily driven by the NextGen charges in 2023, see Note 4 to our unaudited consolidated financial statements, partially offset by lower corporate expenses.

Other Income (Expense), Net

The following table sets forth total other income (expense), net for the nine months ended September 30:

(in millions)

The foreign currency exchange losses were attributed to the remeasurement of net monetary assets and liabilities denominated in currencies other than the functional currencies of our subsidiaries. The gains on foreign exchange forward contracts not designated as hedging instruments related to the realized and unrealized gains and losses on contracts entered into to offset our foreign currency exposures. The increase in interest income and interest expense was primarily attributable to higher interest rates in the current period.

Provision for Income Taxes

The effective income tax rate remained flat for the nine months ended September 30, 2023, when compared to the same period in 2022. The 2023 effective income tax rate was impacted by discrete benefits in 2023 resulting from a settlement related to U.S. state income taxes and the settlement of the IRS examination for tax years 2017 and 2018. The 2022 effective income tax rate was impacted by the recognition, in the third quarter of 2022, of an income tax benefit of $36 million related to a specific uncertain tax position that was previously unrecognized in our prior-year consolidated financial statements, as previously reported in our Annual Report on Form 10-K. See Note 8 to our unaudited consolidated financial statements for additional information.

Net Income

The decrease in net income was driven by lower income from operations, partially offset by higher interest income.

Non-GAAP Financial Measures

See “Three Months Ended September 30, 2023 Compared to Three Months Ended September 30, 2022 – Non-GAAP Financial Measures” above for additional information about our use of non-GAAP financial measures.

The following table presents a reconciliation of each non-GAAP financial measure to the most comparable GAAP measure for the nine months ended September 30:

(Dollars in millions, except per share amounts)

(1) As part of the NextGen program, during the nine months ended September 30, 2023, we incurred employee separation, facility exit and other costs. See Note 4 to our unaudited consolidated financial statements for additional information.

(2) 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.

(3) Presented below are the tax impacts of each of our non-GAAP adjustments to pre-tax income:

(in millions)

Cognizant Technology Solutions 38 September 30, 2023 Form 10-Q

The effective tax rate related to non-operating foreign currency exchange gains and losses varies depending on the jurisdictions in which such income and expenses are generated and the statutory rates applicable in those jurisdictions. As such, the income tax effect of non-operating foreign currency exchange gains and losses shown in the above table may not appear proportionate to the net pre-tax foreign currency exchange gains and losses reported in our unaudited consolidated statements of operations.

(4) As previously reported in our Annual Report on Form 10-K, during the three months ended September 30, 2022, we recognized an income tax benefit of $36 million related to a specific uncertain tax position that was previously unrecognized in our prior-year consolidated financial statements. The recognition of the benefit in the third quarter of 2022 was based on management’s reassessment regarding whether this unrecognized tax benefit met the more-likely-than-not threshold in light of the lapse in the statute of limitations as to a portion of such benefit.

Liquidity and Capital Resources

Our cash generated from operations has historically been the primary source of liquidity to fund operations and investments to grow our business. As of September 30, 2023, we had cash, cash equivalents and short-term investments of $2,368 million and available capacity under our credit facilities of approximately $2.0 billion.

The following table provides a summary of cash flows for the nine months ended September 30:

(in millions)

Operating activities

The decrease in cash provided by operating activities for the nine months ended September 30, 2023, as compared to the nine months ended September 30, 2022, was primarily driven by an increase in income tax payments. In 2023, we made tax payments related to the mandatory capitalization of research and experimental expenditures for the 2022 tax year as well as the estimated tax payments for the nine months ended September 30, 2023. Cash provided by operating activities for the nine months ended September 30, 2023 benefited from improved collections of our trade accounts receivable.

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 deferred revenue. Our DSO was 77 days as of September 30, 2023, an increase of 3 days from 74 days as of December 31, 2022. Our DSO was 74 days as of September 30, 2022, an increase of 5 days from 69 days as of December 31, 2021.

Investing activities

The increase in cash used in investing activities for the nine months ended September 30, 2023, as compared to the nine months ended September 30, 2022, was primarily driven by payments for business combinations in 2023 and lower net maturities of investments in 2023 as compared to 2022.

Financing activities

The decrease in cash used in financing activities for the nine months ended September 30, 2023, as compared to the nine months ended September 30, 2022, was primarily driven by lower repurchases of common stock.

The Credit Agreement provides for a $650 million Term Loan and a $1,850 million unsecured revolving credit facility, which are each due to mature in October 2027. We are required under the Credit Agreement to make scheduled quarterly principal payments on the Term Loan beginning in December 2023. As of September 30, 2023, we had no outstanding balance on the revolving credit facility. See Note 7 to our unaudited consolidated financial statements.

In March 2023, our India subsidiary renewed its working capital facility at 15 billion Indian rupee ($181 million at the September 30, 2023 exchange rate). This facility 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 within 30 days after disbursement. This working capital facility contains affirmative and negative covenants and may be renewed annually. As of September 30, 2023, we have not borrowed funds under this facility or any of its predecessor facilities.

Capital Allocation

Acquisitions

Share Repurchases

Dividend payments

We review our capital allocation on an ongoing basis, considering 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 cash is available in the locations in which it is needed. As part of ongoing liquidity assessments, we regularly monitor the mix of domestic and international cash flows and cash balances. We evaluate on an ongoing basis what portion of the non-U.S. cash, cash equivalents and short-term investments is needed locally to execute our strategic plans and what amount is available for repatriation back to the United States.

In connection with our ongoing dispute with the ITD, the High Court is evaluating whether we will be required to make an additional deposit with the tax authorities to proceed with the appeal, possibly as early as in the fourth quarter of 2023, and whether the lien on any of the bank deposits of CTS India will be lifted if the additional deposit with the tax authorities is made. See Note 8 to our unaudited consolidated financial statements.

We expect operating cash flows, cash and short-term investment balances, together with the available capacity under our revolving credit facilities, to be sufficient to meet our operating requirements, including purchase commitments, making Tax Reform Act transition tax payments and servicing our debt for the next twelve months. The ability to expand and grow our business in accordance with current plans, make acquisitions, meet 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 cash flow increases, our ability and willingness to pay for acquisitions with capital stock and the availability of public and private debt, including the ability to extend the maturity or refinance our existing 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.

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 ongoing 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 and valuation of goodwill and other long-lived assets. We base our estimates on historical experience, current trends and 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 ended December 31, 2022. 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 ended December 31, 2022.

Recently Adopted and New Accounting Pronouncements

There have been no changes in the information provided regarding recently adopted and new accounting pronouncements in our Annual Report on Form 10-K for the year ended December 31, 2022.

There have been no material changes in our quantitative and qualitative disclosures about market risk from those disclosed in Part II, Item 7A, Quantitative and Qualitative Disclosures about Market Risk, in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022, filed with the SEC on February 15, 2023.

Evaluation of Disclosure Controls and Procedures

Our management, under the supervision and with the participation of our chief executive officer and our chief financial officer, evaluated the design and operating effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of September 30, 2023. Based on this evaluation, our chief executive officer and our chief financial officer concluded that, as of September 30, 2023, our disclosure controls and procedures were effective.

Changes in Internal Control over Financial Reporting

No changes in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the fiscal quarter ended September 30, 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

There have been no material changes in our risk factors from those disclosed in Part I, Item 1A, Risk Factors, in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022 filed with the SEC on February 15, 2023, except as follows:

Our NextGen program and the associated reductions in headcount and consolidation of office space could disrupt our business, may not result in anticipated savings, and could result in total costs and expenses that are greater than expected.

Guided by our strategic priorities, in the second quarter of 2023 we initiated the Nextgen program aimed at simplifying our operating model, optimizing corporate functions and consolidating and realigning office space to reflect the post-pandemic hybrid work environment. Our drive for simplification will include operating with fewer layers in an effort to enhance agility and enable faster decision making. In connection with the NextGen program, we currently expect to record total costs of approximately $300 million consisting of approximately $150 million of employee severance and other personnel costs and $150 million of costs related to the consolidation of office space. The NextGen program may result in the loss of institutional knowledge and expertise, as well as the reallocation of certain roles and responsibilities across the Company, all of which could adversely affect our operations. Such effects from our NextGen program could have a material adverse effect on our ability to execute on our business plan. There can be no assurance that we will be successful in implementing our NextGen program, which may be disruptive to our operations, or may cause difficulties in the retention of our remaining employees or reduced productivity among remaining employees. In addition, we may not realize, in full or in part, the anticipated benefits, savings and improvements in our cost structure from the NextGen program due to unforeseen difficulties, delays or unexpected costs. If the actual amount and timing of costs differ from our current expectations and estimates or we are unable to realize the expected operational efficiencies and cost savings from the NextGen program, our operating results and financial condition would be adversely affected. Furthermore, we may incur unanticipated charges or be required to make cash payments as a result of our NextGen program that were not previously contemplated, which could result in an adverse effect on our business or results of operations.