Cognizant self reports possible bribery probe, fires founding president

Profile picture for user gonzodaddy By Dennis Howlett September 30, 2016
Summary:
Cognizant is in trouble as it self reports possible bribery as it relates to certain of its Indian facilities. This is much more than a setback for the company. This is a setback for the Indian heritage outsourcers.
gordon-coburn
Gordon Coburn - gone

Cognizant, which until recently has been a rising star among the Indian heritage outsourcing providers, has self reported a probe into possible bribery issues among 'a small number of Indian facilities.' The company has reported these matters to the Department of Justice and SEC. This is serious and may have impact elsewhere among outsourcers.

The only news coming out of the company says that it has appointed Raj Mehta as president, replacing Gordon Coburn who 'resigned.'

In a regulatory filing, Cognizant said:

The Company is conducting an internal investigation into whether certain payments relating to facilities in India were made improperly and in possible violation of the U.S. Foreign Corrupt Practices Act and other applicable laws. The investigation is being conducted under the oversight of the Audit Committee, with the assistance of outside counsel, and is currently focused on a small number of Company-owned facilities. The Company has voluntarily notified the United States Department of Justice (the “DOJ”) and United States Securities and Exchange Commission (the “SEC”) and is cooperating fully with both agencies. The internal investigation is in its early stages, and the Company is not able to predict what, if any, action may be taken by the DOJ, SEC or any governmental authority in connection with the investigation or the effect of the matter on the Company’s results of operations, cash flows or financial position.

The Foreign Corrupt Practices Act  (FCPA) is designed to ensure that companies doing business in the US have clean hands and offers significant penalty discounts to those companies that self report. In a separate report, JP Morgan said that it was 'disappointed' with the departure of Coburn noting that:

Stock is down ~15% on the news, which seems like an overreaction. Coburn’s resignation is a disappointment, in our view, as he was well liked as a familiar face of the company for many years and his enthusiasm will be missed. The optics of self-reporting a possible FCPA violation is negative, but precedent cases suggest penalties in the single to tens of millions of dollars, well below the $5B in market cap lost on the stock today.

It's unclear how JP Morgan is supposed to know this but it also says:

While it’s difficult to assess the impact/scope of the investigation, we believe it may not be a systematic issue.

For its part, Jeffries noted:

Had the guidance been reiterated in the filing, we suspect shares would not be trading down as much as they are, though we don't have any reason to believe the company's outlook is in jeopardy.

My take

This is not a trivial event. Analysts have high regard for Coburn who was with the company at its founding and was a lead into its 1998 IPO. Mehta is a known quantity and, as others have noted, Cognizant has a deep and stable bench of people from which it can draw.

Cognizant has been unusual in that while considered of Indian heritage, it has established a clear presence in the US and is primarily quoted on NASDAQ. Some commenters believe that the US-centric focus has allowed the company to innovate its business model better than those where the Indian culture is more ingrained. Viewed from that perspective, this must be considered a grave event.

Unfortunately, it opens the door to discussions about corruption as a problem that Indian companies must guard against, most often through stifling procurement and HR practices that, at times, are at odds with the modern world.

This is not normally a topic of public discussion but it is hard to see how companies like Cognizant, TCS, Wipro and Infosys will successfully transition to the new value based delivery model from their traditional 'body shop' operations when corrupt practices are a present threat.

In one recent discussion, a senior executive expressed frustration at the lack of understanding about the imperatives required under the new order while at the same time acknowledging that internal processes designed to keep corruption out of the business, makes even basic changes in behavior both cumbersome and slow moving.

My hope is that the Cognizant issue is a blip. The fact that a very senior executive has been thrown under the bus is ominous.

The last time we saw anything similar was in 2009. The top level executives at Satyam were found to be cooking the books. That revelation rocked the industry and led to a wholesale clamping down of procedures among outsourcers and others. The then 'new' processes were designed to ensure there are robust check and balances on the checks and balances. Unfortunately, it has also led to the proliferation of administrative layers that to the outside world appear old fashioned.

The world has moved on dramatically since 2009 and technology companies have to be much more nimble. Overlaying cumbersome processes to keep people on the right side of the law is unhelpful. I would much rather see systems that allow employees to self serve their needs so that at least they were given the opportunity to demonstrate a degree of responsibility. This latest news is a setback for those lines of thought.