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Executives

David Nelson -

Francisco D'Souza - Chief Executive Officer, President and Director

Gordon J. Coburn - Chief Operating Officer, Chief Financial Officer, Principal Accounting Officer and Treasurer

Karen McLoughlin -

Analysts

Rod Bourgeois - Sanford C. Bernstein & Co., LLC., Research Division

Julio C. Quinteros - Goldman Sachs Group Inc., Research Division

Darrin D. Peller - Barclays Capital, Research Division

Arvind A. Ramnani - UBS Investment Bank, Research Division

Edward S. Caso - Wells Fargo Securities, LLC, Research Division

Bryan Keane - Deutsche Bank AG, Research Division

Mayank Tandon - Needham & Company, LLC, Research Division

Moshe Katri - Cowen and Company, LLC, Research Division

Tien-Tsin T. Huang - JP Morgan Chase & Co, Research Division

Cognizant Technology Solutions (CTSH) Q4 2011 Earnings Call February 8, 2012 8:00 AM ET

Operator

Ladies and gentlemen, welcome to the Cognizant Technology Solutions Fourth Quarter 2011 Earnings Conference Call. [Operator Instructions] I would now like to turn the conference over to David Nelson, Vice President, Investor Relations and Treasury at Cognizant.

David Nelson

Thank you, operator, and good morning, everyone. By now, you should have received a copy of the earnings release for the company's fourth quarter 2011 results. 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, Chief Executive Officer; and Gordon Coburn, President, both of which are slightly under the weather, recovering from colds. And we're also delighted to have with us Karen McLoughlin, our new Chief Financial Officer.

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 risks 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. Please go ahead, Francisco.

Francisco D'Souza

Thank you, David, and good morning, everyone. Thanks for joining us today. This morning, I'm joined by Gordon Coburn, our newly appointed President; and Karen McLoughlin, our newly appointed CFO. As we announced this morning, Gordon and Karen have taken expanded roles within Cognizant, which I will talk about shortly. I'm pleased to announce solid fourth quarter results for Cognizant that capped very strong 2011 performance. Our revenue grew nearly 4% sequentially and nearly 27% over the year-ago quarter to $1.66 billion. This brings full year revenue to $6.12 billion, more than 33% growth over 2010, once again demonstrating the strength of our value proposition, the depth of our client relationships and the exceptional execution of our strategy.

As I look back on 2011, I'm proud of Cognizant's many accomplishments. First, we continued our track record of industry-leading growth. 33% growth is all the more significant when considered against the backdrop of an economy that was more volatile than we expected at this time last year. Europe grew slower than expected during the back half of 2011, but demand throughout other geographies remained solid, fueling strong annual results and reinforcing confidence in our approach and our value proposition.

Second, we strengthened our client relationships by delivering on our unique value proposition that pairs intimate domain expert client teams with a robust seamless global delivery network. Throughout 2011, we added 317 new clients and increased the number of strategic clients by 25 to 191, the largest increase in our history. Strong results from our recently concluded third-party annual customer satisfaction survey showed that clients continue to see high levels of service quality even as we scale. And perhaps most significantly, 13 accounts contributed more than $100 million in 2011 revenue, illustrating the depth of our client relationships.

Third, we, again, hired and retained an outsized share of the talent marketplace. We grew our team by more than 33,000 this year and closed the fourth quarter with an attrition rate just over 10%, amongst the lowest in our industry. The fact that associates see Cognizant as a great place to work and to build long-term careers is reflected in record-high satisfaction scores from our third-party annual employee survey. Fourth, we stayed true to our reinvestment strategy by maintaining stable operating margins, and reinvesting in the business. Our approach of distributing investments across 3 horizons strengthened an already robust services portfolio. As a result, we are well-aligned to help clients with the dual mandates of simultaneously reducing costs and innovating for growth and competitiveness.

Within our Horizon 1 services, offerings such as application development and maintenance, testing and packaged application services, our emphasis has been on driving ever-greater levels of productivity for clients through best-in-class methodologies and a more aggressive move to variable pricing models, so-called managed services. We also continue to strengthen our offerings with tuck-under acquisitions such as Zaffera, which bolsters our SAP capabilities.

Within our Horizon 2 offerings, we have achieved critical mass across consulting or CBC, Business Process Outsourcing or BPO and IT Infrastructure Services or ITIS. Our focus is now on scaling them across industries and clients. Our business consulting ranks have grown to over 2,900 consultants that are increasingly working with senior members of the CXO suite to deliver large-scale, end-to-end transformational programs.

Within BPO, we executed on our strategy of focusing on vertical processes that require deep domain and functional knowledge and then benefit from the integration of consulting, IT and BPO services. This included enhancing our mortgage processing capabilities through our acquisition of CoreLogic's India operations. And within ITIS, we continue to win and manage a growing pipeline of large deals, launching one of the biggest projects in practice history with a European investment bank and beginning an end-to-end infrastructure outsourcing program for a retailer with more than 1,000 facilities in over 75 cities.

And finally, within Horizon 3, we are seeding investments in emerging offerings that lay a foundation for our long-term growth. Though these practices remain in their infancy, we saw strong traction amongst clients. This was partially a result of the mind share that we have captured through our thought leadership campaign that highlight the changing nature of the Future of Work. I'll speak more about Horizon 3 shortly.

Before moving on, I'd like to take a moment to thank our associates around the world for their contributions to making 2011 another stellar year for Cognizant. We could not continue to deliver strong results quarter after quarter without their support.

I'd now like to shift gears and turn to our outlook for 2012. Two weeks ago, I attended the World Economic Forum in Davos, and I had an opportunity to speak with and hear from global leaders in government and business. While there was universal acknowledgment that tough challenges lie ahead, the overall tone was optimistic. As we look to our future, we share that sense of optimism. While the macro environment, especially in Europe, will remain volatile in the coming months, our optimism stems from our strong conviction that our value proposition is more relevant than ever. As clients seek a partner who can drive cost savings and innovation on one integrated platform, they are increasingly turning to us.

In North America, our largest market, recent economic data has been encouraging. Close examination of that data shows that while overall unemployment remains high in the U.S., it is only 4% for those with a college degree. This is creating an acute talent shortage that will only be exacerbated by the growing intensity with which clients use technology. Our ability to provide clients with global access to talent is a key enabler of their competitiveness and will be a long-term driver of our business.

At the same time, we continue to be strong advocates of immigration and education reform as solutions for long-term U.S. competitiveness. In Europe, the protracted volatility is more concerning. While some clients have slowed their pace of discretionary spending for the short-term, they continue to seek out cost savings. In addition, shrinking populations in many European countries create a talent gap that is arguably more intense than that of the U.S. We have seen some European financial institutions relocating technology and operations activities to geographies such as Asia-Pacific in order to address these issues. This trend will fuel our growth in those regions.

Europe remains attractive over the long term, especially as economic pressures create additional demand for our services. The demand is reflected in the 14 new logos we signed across the U.K. and Continental Europe in Q4 and a growing pipeline of work at existing clients. As an example, we recently signed a multimillion euro contract with a large European multinational to provide a broad range of IT services. This global strategic partnership will see increasing scope of IT services over time.

When we look at spending patterns for 2012, we continue to see normal budget cycles in North America and Europe. Our view remains that 2012 IT and operations budgets will remain flat with a slight upward bias in the U.S. as the recovery continues. While we expect long-term prospects for our European business to be strong, we have assumed that growth could remain muted during 2012. In light of these assumptions, we are confident in our ability to deliver revenue of at least $1.7 billion for the first quarter of 2012 and at least $7.53 billion for the full year, an annual growth rate of at least 23%.

Our success in 2012 will rely on strong execution in 3 areas. First, we will strengthen our Horizon 1 and Horizon 2 offerings by expanding their reach across clients, industries and geographies. Second, we will invest heavily in Horizon 3 offerings to stay ahead of changing client needs and to build a strong foundation for future growth. And third, we will continue to scale our operating model and expand our senior leadership team.

Let me briefly touch on each of these 3 areas. Offerings from Horizon 1 and 2 will continue to deliver the lion's share of Cognizant's revenue and revenue growth in 2012. In each of these core areas, the global delivery model remains under-penetrated. When combined with relentless economic pressure to continuously lower costs, we see robust expansion of an addressable market where we have routinely captured market share.

Turning to Horizon 3. We will continue to invest in emerging opportunities that keep Cognizant on a trajectory of long-term market-leading growth. While these offerings are unlikely to have a material revenue impact in 2012, they represent areas of high importance for our clients where we will differentiate ourselves.

Horizon 3 investments will fall into 3 broad areas. First, our investments in new markets. These involve adapting our global delivery model around existing offerings to serve new industries, including targeted areas of government and new geographies such as Latin America. Second, our investments in services around the new IT architecture, namely, enterprise analytics and cloud, mobile and social computing. And third, our investments in new delivery models, primarily nonlinear models that are based on proprietary intellectual property and allow us to decouple revenue and headcount, most notably will be investments in platform-based, business process solutions, where we leverage our people and a multi-tenant technology platform to process clients' transactions.

And finally, we recognize that our continued success depends on scaling the business and managing with equal vigor and discipline across all 3 horizons. In recognition of this imperative, this morning, we announced an expansion of our management team of which you have no doubt already read. Gordon Coburn, our long-time Chief Financial and Operating Officer, has promoted to President. Gordon will work closely with Raj Mehta, who's been promoted to Group Chief Executive of Industries and Markets, overseeing our industry vertical teams; and Chandra Sekaran, who has been promoted to Group Chief Executive of Technology and Operations, overseeing our service lines that span across industry groups. Together, Gordon, Raj and Chandra will oversee all aspects of our current business operations. Each is a tremendously accomplished Cognizant veteran, who has been with the company for well over a decade. I have the utmost confidence in their continued success.

Karen McLoughlin, an 8-year veteran of Cognizant, has been promoted to Chief Financial Officer. Karen has most recently led our financial planning and analysis team, a group that she architected and built during her time here. In addition, Karen has spearheaded critical transformation initiatives that have contributed materially to the efficiency and effectiveness of our operations. This includes the role she has recently played, leading the team responsible for the execution of our Cognizant 2015 program, an enterprise-wide initiative that is examining every aspect of our business to ensure continued success as our clients' most trusted partner.

Malcolm Frank, who joined Cognizant in 2005, has been promoted to Executive Vice President of Strategy and Marketing. During his tenure, Malcolm has made extraordinary contributions to Cognizant's position as a Tier 1 provider. An industry-recognized thought leader, Malcolm has been the Chief Architect of our corporate strategy and built an award-winning marketing approach that he has -- that has made Cognizant's success possible.

I will retain the role of Chief Executive Officer and continue to oversee Cognizant's strategic direction with a special focus on our long-term growth agenda. Specifically, I'll lead a group comprised of a few senior executives responsible for working hand-in-hand with our core business to develop profitable, sustainable and scalable new offerings around the Horizon 3 areas I outlined earlier.

Over time, our goal will be to increase the share of revenue that Cognizant derives from recently introduced offerings and to increase the proportion of clients that consume those offerings. I will now turn the call over to Gordon Coburn, our new President, to review our detailed financial and operating metrics; and Karen, our new CFO, who will take you through 2012 guidance, after which, we'll open up the floor to questions, and I'll end with a few closing remarks. Gordon?

Gordon J. Coburn

Thank you, Francisco, and good morning to everyone. 2011 was a great year for us. We grew over 33%, while maintaining stable margins and a healthy balance sheet. While we did not see any budget flush in Q4, we saw broad-based growth across industries and service lines through the quarter.

During the fourth quarter, we experienced continued growth in our financial services segment, which includes our practices in insurance, banking and transaction processing. This segment grew 3.7% on a sequential basis and 22.6% year-over-year. It represented 40.9% of revenue for the quarter. For the full year, this segment grew over 29%. Q4 growth within financial services was driven by ongoing traction for IT infrastructure services and high-end BPO services such as securities processing, mortgage operations and underwriting and claims processing and continued ramp-up in regulatory work including initial development assignments in addition to consulting.

Healthcare continued its growth during the quarter with 6.3% sequential growth and 34.7% year-over-year. This segment represented 27.5% of revenues. For the full year, healthcare grew almost 38%. The continued solid growth within this segment was driven by reform-related work including ICD-10 and consumerization of health plans, ramp-up of pharmacy benefit, management providers and initial traction in Horizon 3 offerings such as business process as a service, cloud-based CRM and mobile technology.

Retail manufacturing and logistics continued its growth during the quarter and grew 2.8% sequentially and 30.9% year-over-year. It represented 19.2% of revenues. For the full year, this segment grew over 40%. Demand within this segment was driven by ramp-up of transformation projects and large strategic accounts as well as growing demand for services such as e-commerce integration.

The remaining 12.5% of revenue came primarily from other service-oriented industries of communications, entertainment, media and high technology, which as a group, grew 1.3% sequentially and 20.1% year-over-year. For the full year, this segment grew 26%. Application development represented 51% of revenue and application management, 49% for the quarter. Development grew 30.9% year-over-year and 4.3% sequentially. Management grew 23.1% year-over-year and 3.5% sequentially. We saw fairly balanced growth between development and management as clients expanded outsourcing projects to address their 2012 savings objectives. For the full year, application development represented 51% of revenue and grew 41%, while application management represented 49% of revenue and grew 26%.

During the quarter, 79.8% of revenue came from clients in North America. Europe was 16.5%, and 3.7% of revenue came from our clients in Asia Pacific, the Middle East and Latin America. For the quarter, North America grew 6.1% sequentially and 31.1% year-over-year. For the year, North America grew 34%. For the quarter, all of Europe declined 5.6% sequentially and grew 8.8% year-over-year. For the year, Europe grew 28%. Continental Europe declined 8% sequentially in Q4, and the United Kingdom declined 4.2%. European revenue was negatively impacted by currency movements of approximately $8.6 million compared to the third quarter. On a constant-dollar basis, Europe declined 2.7% sequentially and grew 8.6% year-over-year. The macroeconomic issues in Europe continued to result in some volatility and constraints on discretionary spending, particularly in life sciences and financial services.

As expected, on a sequential basis, our pricing was flat during the fourth quarter as most of our 2011 price increases were reflected in our run rate coming into the quarter. We closed the quarter with over 785 active customers, and a number of accounts which we consider to be strategic increased by 6. This brings our total number of strategic clients to 191. We continue to see a trend towards our newer strategic clients, embracing a wider range of Cognizant services at an earlier stage in the relationship.

Turning to costs. On a GAAP basis, cost of revenues, exclusive of depreciation and amortization, was approximately $971 million and included $4.1 million of stock-based compensation expense. The increase in cost of revenues is primarily due to additional staff both on-site and offshore required to support our revenue growth. We increased our technical staff by over 7,200 during the quarter and ended the quarter with over 132,000 technical staff.

Fourth quarter SG&A, including depreciation and amortization, was $385 million on a GAAP basis and included approximately $21.9 million of stock-based compensation expense. Our GAAP operating margin was 18.5% for the quarter, and our non-GAAP operating margin, which excludes stock-based compensation expense, was 20.1%, slightly above our target range of 19% to 20%. The average rate of the rupee was 50.7 in Q4 versus 45.7 in Q3. $225 million of rupee-denominated operating expense cash flow hedges were settled in Q4. This resulted in a $14.3 million loss, which was recognized in operating expenses. We have further extended our India rupee expense hedging program with over $3.5 billion in outstanding hedges of our rupee expenses, which will mature each month through 2015 at an average rate of approximately 50.9. We had $10.9 million of interest income. In addition, we had $4 million of other nonoperating income. This included a net foreign exchange gain of $3.8 million.

Our GAAP tax rate for the quarter was 25.7% and, for the full year, 24.4%. Our diluted share count for the quarter was 308.8 million shares, down slightly from Q3, primarily due to the full quarter impact of the share repurchase we made in late Q3. During the fourth quarter, we repurchased 40,000 shares at an average price of $60 for a total cost of $2.4 million. Within our currently authorized $600 million repurchase program, we have purchased approximately 5.6 million shares at a cost of $380 million.

Turning to the balance sheet. Our balance sheet remains very healthy. We finished the quarter with over $2.4 billion in cash and short-term investments. During the fourth quarter, operating activities generated $285 million of cash. Finance activities generated $21 million of cash. This was comprised of net proceeds of $23.7 million related to option exercises and related tax benefits as well as our employee stock purchase program, partially offset by expenditures of $2.4 million towards our share repurchase program.

We spent approximately $124.6 million on capital expenditures during the quarter. Our full year capital expenditures for 2011 were approximately $290 million, slightly above our original expectations of $285 million. During 2012, we expect our capital expenditures to total approximately $370 million.

Based on our approximately $1.3 billion receivables balance on December 31, we finished the quarter with a DSO including unbilled receivables of 73 days, unchanged from third quarter and up slightly from 71 days in the fourth quarter of last year. The unbilled portion of our receivables balance is approximately $140 million, down from $163 million at the end of Q3. Approximately 66% of the Q4 unbilled balance was billed in January.

32.3% of our revenues came from fixed-price contracts during the fourth quarter and 31.7% during the full year. Net headcount increased by over 7,300 people during the quarter. 56% of gross additions for the quarter were direct college hires, while 44% were lateral hires of experienced professionals. We ended the quarter with over 137,700 employees globally. During 2011, we added over 33,700 employees globally. One of our goals for 2011 was to achieve an improved balance between college hirings and lateral hires. I am pleased to report that we were successful in achieving this goal, with 48% of our 2011 hires coming from campus.

Attrition in the fourth quarter was 10.1%, lower than Q3 attrition of 13.4%. Our attrition rate for Q4 was the lowest since the first quarter of 2003, barring the first quarter of 2009, which was the aftermath of the financial crisis. As we have discussed in the past, there's no consistent methodology in the industry to report attrition. We have historically reported attrition by annualizing the turnover, which occurs within the quarter, including both voluntary and involuntary. Our attrition statistics include all departures, including BPO and employees in our training program.

Utilization decreased slightly on a sequential basis during Q4. Offshore utilization was approximately 68%. Offshore utilization, excluding recent college graduates who were in our training program, was approximately 80%. On-site utilization remained flat at about 94% during the quarter.

Our operational focus for 2011 was centered around our ability to scale our people, processes and infrastructure to support the increasing complexity of our business and to capitalize on opportunities that the market presented. We made significant progress against these goals through the year, particularly in the area of talent management and community relations, which we expect to build on further in 2012.

On prior earnings calls, we highlighted various initiatives to sharpen and enhance our employee value proposition. These efforts resulted in the highest employee satisfaction scores in our history during 2011. Our associates believe that we are winning the war for talent and are proud to work for us. They see value in the long-term opportunities our industry-leading growth offers for them. The relevance of our employee value proposition is also reflected in our Q4 attrition rate of 10%, among the lowest in the industry.

We continue to be regarded as the #1 employer of choice in India for graduates of top business and technical schools and enjoy top placement at every one of the schools we target. Our university campus -- our U.S. Campus Recruiting Program, which kicked off in 2010, has yielded dividends as our first class is now serving our clients in various parts of the country. We've expanded the program to add 3 additional undergraduate institutions and 7 more business schools. Our next class starts work next month. We have also launched similar programs in the United Kingdom and Continental Europe. We accomplished all this while actively giving back to the communities in which we live and operate. In India, our grassroots Outreach program started by associates in 2007 logged more than 80,000 volunteer hours, a 200% increase over 2010. This is now being replicated globally in Argentina, China, the Philippines, the U.K. and the United States.

This year in the United States, we unveiled our Making the Future campaign, an education-based initiative designed to promote programs that support stem education. We believe that stem education can have a long-term impact on the economic development in the U.S. through a promotion of innovation and the concept of creating and building.

Before I turn the call over to Karen McLoughlin, our new CFO, to discuss our 2012 outlook, I'd like to wrap up by saying that I am excited about my new role at Cognizant. As I move into the President role, I do so with confidence that we have a world-class financial organization in place. Karen is an outstanding finance professional with a deep understanding of the importance of a CFO being tightly aligned and involved in the business, and she has a solid knowledge of the Cognizant business.

With Karen reporting to me in her new role, I plan to stay actively involved with our ongoing investor communications programs and look forward to seeing many of you at future investor events. I'd like to now make the hand off to our new CFO as I turn the call over to Karen for discussion of our 2012 guidance.

Karen McLoughlin

Thank you, Gordon, and good morning, everyone. I am very excited about the opportunity to serve as Cognizant's new CFO and look forward to meeting many of you over the coming months through our investor Outreach programs. I would now like to comment on our growth expectations for Q1 and for the full year 2012.

For the first quarter of 2012, we are projecting revenue of at least $1.7 billion. For the full year 2012, we expect to continue delivering industry-leading revenue growth. Based on current conditions and client indications, we are projecting revenue of at least $7.53 billion, which represents full year growth of at least 23%.

During Q1 and for the full year, we expect to operate within our target operating margin range of 19% to 20%, excluding the impact of stock-based compensation expense. Therefore, we are currently comfortable with our ability to deliver in Q1 GAAP EPS of $0.79 and non-GAAP EPS of $0.85, which excludes estimated stock-based compensation expense of $0.06. This guidance anticipates a Q1 share count of approximately 310 million shares and a tax rate of approximately 25%. Our guidance excludes any nonoperating FX gains or losses.

For the full year 2012, we expect our GAAP EPS to be at least $3.43 and our full year non-GAAP EPS to be at least $3.69, excluding $0.26 of estimated full year stock-based compensation expense. This guidance anticipates a full year share count of approximately 312 million shares and a tax rate of approximately 25%. It also excludes any nonoperating FX gains or losses.

Now we would like to open the call for questions. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] Your first question comes from the line of Rod Bourgeois with Sanford C. Bernstein and Company.

Rod Bourgeois - Sanford C. Bernstein & Co., LLC., Research Division

I wanted to ask about the demand environment in Europe and some of the challenges you guys apparently had late in the year in Europe. When you look at the results of some of your large competitors in India, TCS, Infosys and HCL, they all showed quarter-to-quarter growth rates in Europe of late that were actually above North America. So it seems to imply that European companies are moving to offshore outsourcing, given the need for more austerity in that region. Are you seeing that as a boost to your demand, but with that boost potentially being offset by cuts in discretionary spending? Is that the situation that you're seeing in Europe? And can you elaborate on that?

Francisco D'Souza

Rod, it's Frank here. Thanks for the question, and certainly, Europe continued to show -- Q4 was impacted by short-term volatility in Europe, but I think you put your finger on the trend we're seeing. What we're seeing in general in Europe is that there's a mix shift going on as clients come under economic pressure. The discretionary spending is coming under pressure there, pushing projects out a little bit but, at the same time, shifting emphasis to a more cost-containment-type of initiatives around our more traditional outsourcing and managed services types of services. So as that mix shift continues and we shift the pipeline from discretionary spending more to the outsourcing or managed services types of engagement, we expect that in the coming quarters, there will be some continued volatility in our European results, and we've baked that into our 2012 guidance. So we are not assuming any recovery from here in our European results in our 2012 guidance.

Rod Bourgeois - Sanford C. Bernstein & Co., LLC., Research Division

Okay, so on the discretionary spending side in Europe, are you seeing any encouraging signs early in 2012 that discretionary spending is somewhat recovering? Or are you still worried that there's more downside on that front? And then if you -- just to help a little bit, I mean, when you look at our your 2012 guidance, can you help us understand what type of growth assumption you have for Europe versus the rest of the world?

Francisco D'Souza

Let me comment on what we're seeing with discretionary spending, and then I'll ask Gordon to talk a little bit about our assumptions for Europe and guidance. On discretionary spending in Europe, particularly, we don't see -- we are seeing some discretionary spending delays with clients. We -- I don't think there's a tremendous amount of downside from where we are right now to discretionary spending. But I think discretionary spending will continue to be lumpy for at least for the coming 2 quarters in Europe as that mix shift continues to play out from discretionary spending moving more towards outsourcing.

Gordon J. Coburn

Sure, and let me just follow up on that. Rod, our guidance assumes continued healthy growth in North America. Q4 was great. We grew over 6% sequentially in North America. Obviously, Europe was weak. Our 2012 guidance assumes that Europe stays weak. We're not betting on a rebound in revenue for us. So I view it as that we expect North America to be healthy and Europe to be stable at a weak level.

Operator

Your next question comes from the line of Julio Quinteros with Goldman Sachs.

Julio C. Quinteros - Goldman Sachs Group Inc., Research Division

So congratulations to everybody on the moves here on the promotions. I just wanted to start off, I guess, to the BFSI expectations. As you think about that vertical and all of the puts and takes that are kind of going on, but maybe just frame the same commentary question about your expectations for BFSI as a vertical as you move into 2012, application development spending versus application management spending.

Gordon J. Coburn

Yes, BFSI looks okay for 2012. We expect it to have good growth, certainly, not company average, given its deeper penetration rates of lower large numbers, but we expect it to be quite respectable. I think it will be more weighted towards health in North America than Europe. No question about that. But when I look at BFSI overall, we're feeling okay about it.

Julio C. Quinteros - Goldman Sachs Group Inc., Research Division

And just in the AD spending versus the apps management or outsourcing spending?

Gordon J. Coburn

That, I think, will be balanced. Our guidance assumes that there's a shift more towards maintenance, and as in similar years, we always want to be conservative on our expectations for development in a volatile economy. So our guidance assumes that maintenance is stronger than development.

Operator

Your next question comes from Darrin Peller with Barclays Capital.

Darrin D. Peller - Barclays Capital, Research Division

Would you mind touching on just what you're seeing around market share and how many bids are actually coming out there in Europe in particular? I mean, I know there was a question earlier around some of the trends on discretionary. But maybe on the outsourcing side, you're saying you're expecting a shift towards more on the maintenance projects. Do you expect to continue to gain share in that area?

Francisco D'Souza

We do. When we look at our pipeline around the world, North America and Europe, obviously, being our largest markets, we don't have any significant concern about the size and health of our pipeline. We continue to see a strong, healthy pipeline of opportunities, both with new clients and with existing clients. As I said, during my prepared comments, our European new customer wins were healthy during the fourth quarter. We saw 14 new clients in the quarter in Europe. So we feel pretty good about both the health of our pipeline and our continued ability to take share from competition as we execute on what we think of as our differentiated approach broadly. But particularly, in Europe, where having strong local teams in the countries particularly in the continent, that's very important for local language and cultural issues.

Darrin D. Peller - Barclays Capital, Research Division

Okay, so just to kind of -- when you think about the actual opportunity from an outsourcing standpoint in Europe, given the shift you're seeing, I mean, I guess, do you see there's enough there to really offset any shift away from discretionary so that your revenue can be pretty strong or at least as strong as you're expecting in guidance? Or do you need to see some discretionary spend increase? Or is the discretionary spend increase all upside from your 23% guidance?

Francisco D'Souza

Let me just give you sort of the macro picture, and then I'll ask Gordon, again, to comment specifically on the guidance topics. At the macro level, Europe is probably less penetrated from an outsourcing standpoint than from a discretionary spending standpoint. Historically, in Europe, over the last, let's say, decade or so, European customers have tended to outsource development in discretionary spending first and have not taken the more traditional application outsourcing or other kinds of managed services to an offer of global delivery model. So from an opportunity standpoint, I think that the opportunity in outsourcing in Europe is actually very, very large. And we're starting to see clients now turning their sights as they come under pressure to that opportunity and moving some of those types of activities to a global delivery model. In some countries in Europe, that shift takes a little bit of time because some of the European regulations and laws make that shift a little bit more tricky, particularly, the labor laws, and so it takes a little bit of time to work through those issues. But overall, I'm very optimistic about the opportunity and the trend we're seeing in outsourcing in Europe.

Gordon J. Coburn

Let me just add to that a little bit because this is really an important point. Over the past 15 years, every economic downturn served as a catalyst to expand our addressable market, but there's a timing. There's a timing lag, and I think the timing lag may be a little bit more significant in Europe due to some of the labor and cultural issues. And that's why in our guidance for 2011, we assumed we don't see the benefit of that catalyst. But when we look at -- maybe if we get lucky, we start to see it late in the year, but we're not counting on it. But when we look over time, it's very clear to us that the economic challenges that the European community is facing right now is leading to an openness to global sourcing, and we are clearly a player in that. It's just a question of how quickly does it kick in and ramp up.

Operator

Your next question comes from Arvind Ramnani with UBS.

Arvind A. Ramnani - UBS Investment Bank, Research Division

Just wanted to find out, did Q4 turn out as you were expecting to play out when you provided guidance? Or was December weaker than you were expecting? The month of December, was that weaker than what you were anticipating?

Gordon J. Coburn

The end result came pretty close to where we were expecting. At the conferences in late November, early December, we were being very clear, there's no budget flush. If I parse it out a little bit, North America was a little stronger than I expected. Europe was a little bit weaker, but the net outcome was within a tolerance level in the ballpark that we were expecting.

Arvind A. Ramnani - UBS Investment Bank, Research Division

Great. And within BFSI, can you provide some color on specific areas in terms of kind of demand such as investment banking, retail banking, risk management and regulation because the segment of [ph] BFSI, there’s probably kind of different areas of strength and weakness?

Gordon J. Coburn

Sure. So I think the one area where you're seeing a general trend towards weakness is in the pure-play investment banks and the investment banking divisions of the multinationals. Once you go beyond that, demand's actually reasonably healthy.

Operator

Your next question comes from Edward Caso with Wells Fargo Securities.

Edward S. Caso - Wells Fargo Securities, LLC, Research Division

I was hoping you could talk a little bit about the attrition number being at an amazingly low 10% and what that implies, whether that's a signal of superior execution or really is an indication of a slowing demand outlook because it is coming down at the other Tier 1 firms as well.

Gordon J. Coburn

Yes, Ed, this is an issue we've spent a lot of time looking at because we were surprised at how favorable Q4 attrition was, and I think the answer is it's a little of both. So overall, the industry has come down a bit, but we're running with -- once you kind of normalize how everyone counts it, we're running with about as big a gap between us and the rest of the field as we've ever had. So I think part of it is just supply catching up with demand, and some of that is everyone shifting back towards the college hiring. But then I think what's unique to Cognizant is our growth rate. We promoted a far more significant percentage of our population in 2011 quite simply because we were growing faster. So people are seeing that their career growths can be more positively impacted at Cognizant. So I think it's a little of both, part the market, but I think the bigger part of is what's specifically happening at Cognizant.

Edward S. Caso - Wells Fargo Securities, LLC, Research Division

The other question is the rupee has moved sort of against the dollar here. It's strengthening against the dollar so far this year, suggesting sort of a negative item in the other income line. Is that baked into your assumptions for the Q1 EPS? Or do you have a 0 number in the below line FX impact?

Gordon J. Coburn

Yes, so let's break it into 2 pieces. For operating expenses, the cash flow hedges, which is a big part of our hedges, that is reflected in operating income. We actually had a loss in Q4. Obviously, that loss will either be smaller swing to a positive in Q1. So the movement in the rupee does not have a particularly significant impact on our operating margin because we're so heavily hedged. We're by far the most heavily hedged in the industry. It does generate some gains and losses below the line, but those tend not to be material. And as I mentioned, our guidance assumes that there is no FX gain or loss below the line, but our guidance does include the cash flow hedges which show up above the line.

Operator

Your next question comes from Bryan Keane with Deutsche Bank.

Bryan Keane - Deutsche Bank AG, Research Division

Just looking at the 2012 guidance, it looks like a little north of 2% sequential revenue guidance for 1Q '12, which is a little bit of a slower start, but that's pretty seasonal. And then followed by a significant sequential growth of probably something in the order of at least 7% in 2Q and maybe even in 3Q. Just wanted to get your thoughts on the visibility and the ramp-up that's probably likely to happen in 2Q and 3Q.

Gordon J. Coburn

Yes, so Bryan, I think you're thinking about it absolutely correctly, and you said the key thing. This is a normal pattern. If I look at last year, we jumped from about 4% growth up to 8% growth between Q1 and Q2, and it stayed about 8% for Q3. So to have Q2 be substantially stronger than Q1 is a normal pattern. Let me explain why. Clients tend to finish their budget cycles in early February, which means January tends to be weak because they don't release the new budget dollars. And what you see is a pattern. January weak, February is modest and March tends to be good, and then, obviously, you have the full quarter impact in the second quarter. So this -- when we look at reaching the 23% growth, this, I would view as a very normal pattern.

Bryan Keane - Deutsche Bank AG, Research Division

Okay, but it doesn't feel like just as a result of that ramp. It doesn't feel like there's a lot of upside maybe compared to the last few years for the full year outlook just to hit the at least 23%?

Gordon J. Coburn

Sure. So to exceed the 23%, that really will be driven by discretionary spending, and we've been conservative on our assumptions, and we've been very conservative on our just assumptions for Europe, obviously. But even in North America, we've been conservative about our assumptions for discretionary spending. So that's one that'll play out or not play out as the year goes on. And as you know, discretionary spending is one. If it happens, it can ramp-up fairly quickly, but we certainly don't want to get ahead of ourselves on discretionary spending because we don't have the visibility on that yet, simply due to the economy.

Operator

Your next question comes from Mayank Tandon with Needham & Company.

Mayank Tandon - Needham & Company, LLC, Research Division

Frank and Gordon, just one question on sort of the budgeting cycle. As you talk to your customers both here in the U.S. and in Europe, maybe just talk a little bit about the allocation of the budgets between the regulatory and compliance opportunity versus mobility and cloud, which I believe is your Horizon 3 offering, and then the traditional application maintenance business.

Francisco D'Souza

So a couple of points of color, Mayank, around budgets. First of all, as I said during the comments, we see this year as being a completely normal budget cycle. We're not seeing either in the U.S. or in North -- in Europe, excuse me, any significant delays in clients' budget cycles. So we view that at the start as being positive. When we look at the magnitude of budgets, overall, we're starting to see -- we expect them to be flat with a slight upward bias, particularly, in North America. So again, we consider that to be good. In terms of the composition of budgets, a few things. First of all, the share shift that we've been seeing for a long time of budgets increasingly towards the global delivery model continues. We're starting to see that, as I said, in Europe on the traditional IT outsourcing application maintenance side of the business, and we are continuing to see it around the world in operations budgets as clients start to look at Business Process Outsourcing more seriously from a global delivery model and, of course, from the IT infrastructures side of the business as well in the ITIS side of our business. So the share shift continues towards the global delivery model. In terms of the Horizon 3 offerings, as I said, many of our clients are starting to do what I would consider to be pilots or early deployments of Horizon 3-type of services, whether those are mobile or social or cloud or advanced analytics types of things, but we don't expect those to be significant revenue drivers for 2012 or beyond -- excuse me, for 2012. There'll be revenue drivers beyond that. The reason is that these are still relatively small clients who are dipping their toe in the water. But for 2012, while I expect to see a lot of activity in those areas, I don't think they're going to be significant revenue drivers.

Mayank Tandon - Needham & Company, LLC, Research Division

And what about the regulatory and compliance work?

Francisco D'Souza

I think regulatory and compliance work, it really depends on industries. Our 2 biggest industries, financial services and healthcare, continue to see a fair degree of impact from regulatory compliance. I think, in particular, we, in healthcare, we see a-- we've seen for some quarters now quite a lot of work relating to ICD-10, 5010 remediation, those types of things, and I think we'll continue to see some of that going into 2012 in healthcare. In financial services, I think it's still a little early to tell. We're starting to see the consulting work that we did with clients around the impact of regulations starting to translate into some work, but my expectations right now for revenue from regulatory compliance work and financial services is modest for 2012. That may change as we get more certainty around the regulations themselves, but at this point, we're making modest assumptions.

Operator

Your next question comes from Moshe Katri with Cowen and Company.

Moshe Katri - Cowen and Company, LLC, Research Division

Just a question about Europe again. This is the second consecutive year where we're starting the year with Europe kind of weak. As Rod said earlier in the call, some of your competitors showed some very strong numbers coming out of Europe. I think it will be helpful maybe if you can talk about whether we're having some issues with a number of legacy customers that are having some performance issues internally that's impacting their ability to spend on discretionary work or not, or maybe there's an execution issue on the sales side as well. I think that will be helpful if you can talk about this a little bit.

Francisco D'Souza

Let me try and put some color around this. I think we were disappointed with our results in Europe over the course of this year. We saw more volatility than we expected coming into 2011. During 2011, we saw more volatility than we expected coming into 2011. If you pare it back, I think there are a couple of different elements to it and may -- that sort of are overlaying each other. In the early half -- in the early part, let's say, the first half of last year, we were impacted by the ramp down of some M&A projects that we spoke to you about over a few quarters last year in a couple of the financial services institutions that we serve in Europe, and those -- in particular, in one client, which was a very large ramp-down situation. So that impacted our results. As we came into the back half of last year, what we saw was that with particularly with financial services clients, but to some extent with -- even with our life sciences clients. As the economic volatility in Europe became more intense, we did see cuts in discretionary spending. We saw our clients pull back a little bit. And as I said, we saw the start of that mix shift from discretionary spending over to more outsourcing or managed services types of work. We also saw, as I briefly mentioned in my script, a little bit of a shift of work with our large multinational, particularly, financial services clients of work outside of Europe. So clients shifted their base of operations from Europe largely to Asia Pacific when that happened in order to address some of the talent shortages issues in Europe. And so when we report that, we report that as Asia Pacific revenue to you, not as European revenue in those situations when that happens. So I think that was the second trend. We've looked at this in a lot of detail. I don't think we have fundamental execution issues in Europe. Clearly, we continue to build out some parts of Europe and continue to build out the front-end capability that I've talked about. But in the major markets of Europe, I think we're well-positioned. I think our teams on the ground are strong. Our pipeline is strong, and our win rates are good. So I think that beyond the build-out that we're continuing to do in places like the Nordics and so on, where we continue to invest, our presence is smaller in some of those countries, and we need a little bit more investment to beef those up. In the major markets, I think we're strong, and we continue to compete well.

Gordon J. Coburn

And Moshe, very importantly, in 2011, obviously, when we were early in the year, we were expecting a rebound in Europe in the back half of the year, and that was baked into our guidance. Fortunately, North America really stepped up, and it covered the fact that Europe did not happen. As we look to 2012, we are not expecting a rebound in the back half of the year for Europe. If it happens, great, but we learned our lesson a bit last year. We realized it's a volatile economy, so we’re taking a fairly conservative view of Europe coming into this year.

Moshe Katri - Cowen and Company, LLC, Research Division

Just as a follow-up, Gordon. Some of your customer -- some of your peers, actually, have indicated that they've seen ramp-up delays in discretionary work in North America during the December quarter, actually, also during the March quarter. Is that something that's kind of relevant here for Cognizant? Is this something that's kind of maybe you can comment on that as well?

Gordon J. Coburn

We grew 6.1% sequentially in Q4. That exceeded our expectations. It was huge. North America is very healthy for us.

Operator

Your next question comes from Tien-Tsin Huang with JPMorgan Chase.

Tien-Tsin T. Huang - JP Morgan Chase & Co, Research Division

Congrats, everyone, on the new roles. I'll say that upfront. I just wanted to ask, Frank, I guess the acquisition pipeline and your appetite, I suppose, should we expect the same kind of deals as we saw in 2011? Or maybe something bigger to accelerate Horizon 3 because, I mean, I asked because there's a lot of cash on hand, so trying to get a sense of how loose you might be with that money this year.

Francisco D'Souza

I think you'll see our overall approach to acquisitions continuing to be as it's been in the past. We're focused on the tuck-in acquisitions. They work very, very nicely for us. We like that approach to doing acquisitions, to accelerate particular parts of the business. Of course, as we get bigger, as we've said in the past, our definition of what constitutes a tuck-in also gets larger. So in absolute terms, you might see us doing tuck-ins that are a little bit bigger than what we've done in the past. We're focused principally on the same areas that we have in the past, broadly looking at acquisitions that will accelerate our entry into new geographies, deepen our penetration in the industries that we serve. And then the third area would be acquisitions that will bring us into a new service line or deepen our penetration in an existing service line. I expect that in that third category, the new services, we would do acquisitions focused on the Horizon 3 services. So we're looking at areas like mobility, cloud, big data, analytics and so on, enterprise, social, and also acquisitions that have nonlinear characteristics to them. So this is, as I said, something that I personally plan to focus a lot of my attention on during 2012. And I think it's fair to say that we're taking a close look at acquisition opportunities in those areas.

Tien-Tsin T. Huang - JP Morgan Chase & Co, Research Division

All right, good. Maybe just a quick business question. Just been hearing themes like vendor consolidation, obviously, changes in pricing or overall economics. What are your expectations in those areas, pricing, vendor consolidation in 2012?

Gordon J. Coburn

I'm sorry. Can you repeat that question?

Tien-Tsin T. Huang - JP Morgan Chase & Co, Research Division

Sorry, Gordon. We've been hearing some vendor consolidations coming back in vogue with some of the clients. So how do you think you'll fare in that, historically, that's been favorable to you? And then secondarily, just pricing on the back of vendor consolidation, how do you expect pricing to change this year?

Gordon J. Coburn

So historically, vendor consolidation has been very good for us, and I think that's a trend that will continue. Customers more and more are seeing the value of strong offshore delivery with a competitive price point combined with very deep domain knowledge. And you saw that in the number of accounts that we had that were north of $100 million. We got up to 13 accounts. We grew it by 30%, so we're feeling very good about vendor consolidation. Pricing, obviously, will not be as robust as 2011, as we've said, on the last couple of calls because coming into 2011, everyone was eligible. Clearly, not everyone is eligible now. So yes, I view pricing as stable with an upward bias, but I would not want to set expectations that it will be average price across all clients will be anywhere close to where it is. And with that, I see we're a little over 9:00, so let me turn it back over to Francisco.

Francisco D'Souza

Thanks, Gordon. I think we'll wrap up here. Thank you, everyone, for joining us, and thank you, Gordon and Karen. Congratulations to both of you in your new roles. I'm excited to work closely with our expanded leadership team as we continue to drive our long-term strategy of industry-leading growth. Thank you all for joining us this morning.

Operator

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

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