(COGN) Cognos Inc. - University of Connecticut

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Cognos, Inc.

(NYSE:
COGN
)

Analyst Report

by

Geoff Munger

Manager, Student Managed Fund

MBA Class of 2004

University of Connecticut


Highlights


Sector:
Information Technology

Industry:
Computer

Software and Services

Valueline: Timeliness

3, Safet
y 3
, Techni
cal 4

Beta: 1.20

Market

Cap: $3.111

Billion (Mid
-
Cap)


Updated: October 29
, 2003



Data Sources:

Bloomberg

Valueline Investment Survey

www.moneycentral.com

www.smartmoney.com

www.quicken.com

www.investopedia.com

www.investorwords.com

http://finance.yahoo.com/?u







2002 Top 12 Most

Influential Enterprise Software Companies by Intelligent Enterprise
Magazine




Selected as an index component of the Dow Jones Sustainability World Indexes for 2002.
DJSI World was established to track the performance of the top 10% of the biggest 2500
com
panies in the Dow Jones Global Index which lead their field in terms of corporate
sustainability.




Metagroup (leading provider of IT research) ranked Cognos one of the 19 leading
companies in business intelligence in a report dated April 2003. The leaders

were
selected based on their robust product lines and financial strength in the market.





Cognos, Inc.

3755 Riverside Drive

Ottawa, Ontario

Canada K1G 4K9

Ticker Symbol:

COGN

Listed Exchanges:

New York Stock Exchange (NYSE)

Toronto Stock Exchang
e (TSX)

Business Listings:

Employees:

2,
926


1
-
Year Cumulative Returns Chart for
COGN

(compared to the S&P 500)




Last trade

34.75 (10/29/03
)

Volume

485,962

Change

+0.31 (+.90
%)

Average volume

848,100

Bid/Ask

NA

Mkt. Cap (million)

$
3.111 Billion

Open

34.26

P/E

38.70

Previous close

34.44

Div. yield

NA

Day’s range

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a牥




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Ma牫整

乙卅



Morningstar Stock Grades




Growth

A


Profitability

A+


Financial Health

A

Morningstar Recommendations


Buy

10


Outperform

15


Hold

13


Underperform

1


Sell

1

Analyst Ratings




Adams Harkness

Buy


SG Cowen

Strong Buy


WR Hambrecht

Buy


Pacific Crest

Buy


Company Overview


Cognos Incorporated is a global provider of business intelligence software. The Company's
solution helps improve business performance by enabling planned performance manag
ement,
supported by effective decision
-
making at all levels of the organization, through the consistent
reporting and analysis of data derived from various sources. Using its software, customers can
plan and manage the performance of all aspects of their b
usiness and gain valuable insights that
can be used to improve operational effectiveness, enhance customer satisfaction, accelerate
corporate response times and, ultimately, increase revenues and profits. Its integrated solution
consists of its suite of bu
siness intelligence components, analytical applications and performance
management applications.


Cognos is the only company to support all of these key management activities with a complete
solution that spans all of the essential components of
CPM

enterprise planning, scorecarding,
and business intelligence.

Business intelligence solutions make up 90% of Cognos’ revenue.

Recent

News
___________________________________________


Earnings

Cognos reported n
et income of $18.2 million, or 20 cents per share, for the quarter ended Aug.
31, up 32% from the same period a year ago. Sales were up 23% year over year to $158.2
million
. In addition, Cognos has met or exceeded its earnings estimates in each of the pas
t 5
quarters.


Acquisition

Cognos, Inc. acquired Adaytum, Inc. on January 10, 2003. The acquisition enhances its
enterprise planning offering, an essential component of Corporate Performance Management
(CPM) for large companies. Leveraging enterprise b
usiness intelligence with enterprise planning
completes the Cognos vision for CPM. The ability to offer the full closed
-
loop CPM (planning,
budgeting, monitoring, analysis, and reporting) cycle from a single vendor strengthens the value
of our product offe
ring and enhances the execution of our CPM strategy. This was a significant
acquisition, but it had a minimal impact on the operating results during fiscal 2003, as it closed
only seven weeks prior to the fiscal year end. Cognos anticipates that during f
iscal 2004 and
beyond, the acquisition will have a more significant impact upon operations.


New Product

On September 9 of this year, Cognos announced the worldwide launch of ReportNet, an all
-
in
-
one reporting software. Cognos ReportNet offers a Web
-
based

report and query authoring
environment, extensive multi
-
lingual support and Web Services
-
based architecture to meet the
needs of today's multi
-
national, diversified enterprises and to dramatically reduce total cost of
ownership.


ReportNet has strengthene
d the relationship between Cognos and IBM and was selected within
three weeks of its launch by IBM, Alfred Publishing, Pfizer Japan, First Citizens Bank, and
Fujisawa, among others.

Global Customer Base 2002
(percent of revenue from each area)
62%
31%
7%
North America
Europe Region
Asian/Pacific
Region

For more information on ReportNet, see the following link:

http://www.cognos.com/products/businessintelligence/reporting/index.html



Cognos has more than 22,000 customers
located in more than 135 countries. The
numbers to the left are

the percentages of
fiscal year 2003 revenues of $551 million
in each of three major regions.






Product Design
COGNOS BUSINESS SYSTEM ANALYSIS
Development
Usability
Marketing
Sales and
Distribution

World Leader in BI
and Performance
Planning Software

Customers in over
135 different
countries

Offers a unique one
-
stop shopping
solution for all key
management
activities (CPM

Corporate
Performance
Management)

Allows companies to
manage their full
business cycle from
planning and
budgeting to reporting
and analysis.

Future Success
hinges on the ability
to continue to identify,
hire, motivate and
retain skilled and
experienced
personnel

Formalized
education practices in
order to ensure new
staff are fully
productive as soon as
possible

Continued high
investment in R&D to
keep up with rapid
change in the industry

Aim at enhancing
and extending their BI
solution and creating
new products

Use an international,
multi
-
tiered channel
distribution system to
reach customers on a
cost effective basis

Support the channels
with an extensive
organization of pre
-
and post
-
sales
specialists

Sales channels
include: Direct Sales
(Primary target =
Global 3500
Companies), Third
-
Parties, and
Telesales

Complete and focused
marketing effort divided
into two groups:
Corporate Marketing
and Field Marketing

Increasing
Cognos
brand awareness and
visibility through
advertising, events,
sponsorship, website,
and sales collateral

Marketing staff also
responsible for sales
lead generation and
local marketing
programs such as trade
shows, seminars, and
conferences.

Conducts formal
usability testing in state
of the art Usability Lab

Ensures products are
tested by participating
customers in their
environments prior to
sale

Unparalleled customer
service accompanies
any purchase from
Cognos
(awarded as
one of the 10 best web
sites in North America
for superior customer
support)

Software is simple to
manage, scalability to
support hundreds of
thousands of users and
can be easily integrated
with any application or
environment


Competition
___________________________________________________


Company

Ticker

Timeliness

Safety

Technical

Beta

Scouter
Ranking

Cognos
Incorporated

COGN

3

3

4

1.20

10

Microsoft
Corporation

MSFT

3

2

3

1.15

8

Oracle
Corporation

ORCL

3

3

4

1.25

7

PeopleSoft
Incorporated

PSFT

--

3

--

1.50

6

Siebel Systems
Inc.

SEBL

3

3

3

1.70

6

Timeliness, Safety, and Technical Ra
tings gathered from
www.valueline.com
.

Beta information gathered from
www.valueline.com
.

The Scouter Ranking information gathered from
www.moneycentral.com
.



Growth Trends


R
evenue

and Net Income
:

Revenue

has been increasing steadily,
with the excep
tion of a 1% decrease in
fiscal 2002. Net Income has like
wise
been increasing, except in

2002 when it
dipped significantly from $6
4.3 Million
to $19.4 Million
.


The results for fiscal 2002 include
special
charges of $33.4 million. These
special charges include a net business
restructuring charge of $10.2 million
and

a $23.2 million charge for settlement of a patent litigation action
.

Excluding the effect of
these items, net income for fiscal 200
2 would have been $43.4 million.




Cognos Revenue and Net Income (over past 5
years)
301.1
385.6
495.7
491.3
551
58.4
58.8
64.3
19.4
73.1
0
100
200
300
400
500
600
1999
2000
2001
2002
2003
(in millions)
Revenue
Net Income
Net Profit Margin


Although Net Profit Margin declined
during the years 1999
-
2002
, the trend
has turned around. Cognos continues to
show strong performan
ce in fiscal 2004.










Earnings per Share (EPS):


Cognos is expected to significantly
outperform its major competitors over the
next 5 years.
Its EPS has increased
steadily, with the exception of fiscal year
2002. EPS is projected to increase from
.81 in fiscal 2003 to .94 in fiscal 2004 and
1.12 in fiscal 2005.





Management Performance


Note when looking at the following charts:


December 21, 2000

Cognos, Inc. reported weak fiscal third quarter earnings and warned that earnings for the fourth
qua
rter of fiscal 2001 and for all of fiscal 2002 will be below expectations. The Company
Cognos Net Profit Margin
(over past 5 years)
19.4%
15.2%
13.0%
3.9%
13.3%
0.0%
5.0%
10.0%
15.0%
20.0%
25.0%
1999
2000
2001
2002
2003
Year
Projected 5-Year Growth Rate
18.2%
11.9%
11.0%
13.7%
11.7%
18.8%
7.4%
0.0%
2.0%
4.0%
6.0%
8.0%
10.0%
12.0%
14.0%
16.0%
18.0%
20.0%
Cognos
MSFT
Oracle
PeopleSoft
Siebel
Industry
S&P
trimmed its profit outlook for each peri
od by approximately 10%, citing
decreased visibility as
the primary reason for the anticipated shortfall.


This significant annou
ncement caused the stock price to plummet from $26.94 to $19.50 in one
day.
In addition, the numbers from fiscal 2002 were negatively affected by both an overall
downturn in the software industry and the $33.4 million one
-
time charges incurred during that

year.


Return on Equity (ROE)

(should be 2003)




Cognos was second among its major
competitors in ROE in fiscal 2003, with a
return significantly higher than that of the
industry as well. Contrast this number with
Cognos’ ROA, which lags behind

both Oracle
and Microsoft, though still outperforming the
industry. This can be explained in part by the
low level of liabilities (including zero long
-

or
short
-
term debt). ROE is therefore a more
accurate depiction of Cognos’ return.


The declining tr
end in ROE from 1999 to 2002 is
not as negative as it appears, and that trend has
reversed itself.
Cognos

experienced decreases in
net income as a percentage of revenue in fiscal
2001

and 2000 due to
increased investment in
its

sales

channels to focus on
revenue growth and
expand global market coverage. During

fiscal
2001 the decrease in net income as a percentage
of revenue was the result

of increases in selling, general, and administrative expenses and the write
-
off

of in
-
process technology acquired on t
he purchase of NoticeCast Software Ltd.

during the third
2002 ROE (compared with competitors)
19.40%
16.20%
37.00%
5.90%
0.00%
11.50%
7.90%
0.00%
5.00%
10.00%
15.00%
20.00%
25.00%
30.00%
35.00%
40.00%
Cognos
MSFT
Oracle
PeopleSoft
Siebel
Industry
S&P
Cognos ROE
(over past 5 years)
35.9%
27.3%
21.4%
6.6%
19.4%
0.0%
10.0%
20.0%
30.0%
40.0%
1999
2000
2001
2002
2003
Year
quarter.

Finally, fiscal 2002 was negatively affected by an overall downturn in the software industry,
but the results were exaggerated by the $33.4 million one time charges incurred in that year.

R
eturn on Assets (ROA)

(should be 2003)



ROA is significantly lower than ROE because of the low level of liabilities held by Cognos.
ROA exhibited the same negative trend during the years 1999 to 2002 as did ROE, with the same
explanation.


Return on I
nvested Capital (ROIC)

2003


2002


2001


2000

18.5%


11.6%


20.7%


26.9%


Free Cash Flow

(in millions)
:

2003


2002


2001


2000

379


52.5


-
21.2


27.8


Interest Coverage:

Interest Coverage is 146.4, while the Industry average is
-
97.7. This is due to the f
act that Cognos
has no debt, either short
-

or long
-
term.




2002 ROA
(compared with competitors)
11.90%
12.40%
21.40%
4.20%
7.90%
1.30%
-2.70%
-5.00%
0.00%
5.00%
10.00%
15.00%
20.00%
25.00%
Cognos
MSFT
Oracle
PeopleSoft
Siebel
Industry
S&P
Cognos ROA
(over past 5 years)
20.2%
15.5%
12.6%
3.7%
11.1%
0.0%
5.0%
10.0%
15.0%
20.0%
25.0%
1999
2000
2001
2002
2003
Year
Stock Valuation
:
Updated 2/1/04
______
______________________________


P/E Ratio:

P/E Ratio is currently 32.5
, compared

to the Industry average of 47.5
. This can indicate that the
stock is underva
lued, and that its profits are rising disproportionately to its price, especially
considering the high projected growth over the next 5 years. Alternatively, however, a lower P/E
can also indicate that investors do not have confidence in the stock’s poten
tial for future growth. In
this case, the former is more likely due to the strong performance of Cognos over the past two years
and the increasingly positive news regarding its product line and growth potential.


PEG

COGN

MSFT


ORCL


PSFT


SEBL


INDUSTRY

1.87


1.94


2.6


1.78


3.35


8.74

The PEG ratio (price
-
to
-
earnings growth) is calculated by dividing a stock's
forward P/E

by its
projected three
-

to five
-
year annual
EPS

growth rate. It is used to find companies that are trading at
a discount to their projected
growth. A PEG ratio of less than one is considered a sign that a stock
is a good value. Generally speaking, the higher the PEG, the pricier the stock.

Though Cognos does
not have a PEG of less than one, its PEG is lower than that of its competitors

(other

than PSFT)

and of the industry.


Financial Health


Capital Structure:

Cognos has no short or long term debt.

Equity Capital Structure

Debt Capital Structure

Market Capitalization = $3
.111 Bn

Short
-
term debt = 0

Preferred equity = 0

Long
-
term debt =
0

C
ommon Weight = 100
%

Short Debt Weight = 0%

Preferred Weight = 0%

Long Debt Weight = 0
%


Cost of Equity (CAPM Model)

CAPM = R
f

+ beta(R
m
-
R
f
)

Rf = risk free rate (5

year treasury bond rate) = 3.2
7 (
www.forecasts.org

2/1/04
)

Rm = 7.90%

Rm

-

Rf

= historical long term equity
risk premium (market risk) = 4.63

Beta = 1.25

CAPM = 3.2
7

+ 1.2
5(4.63) = 9.06
%

Co
st of Equity for

COGN = 9.06
%

Cost of Debt for
COGN

= %
0

Cost of Preferred Sto
ck for COGN

= 0.0%

WACC = (% of equity
*cost of equity)
+ (% of debt*cost of debt) = 9.06
%

ROIC = 18.5%

SPREAD = 18.5%
-

9.06% = 9.44%



Average Annual Compound Growth Rates

10
-
year EPS growth

24.98%

10
-
year DPS growth

N/A


Earnings growth fell drastically in 2002 but has recovered and posted

even stronger growth than
it had shown prior to Cognos’

significant one
-
time charges incurred in 2002
. Dividend growth is
not relevant as the company has never declared dividends.



Average Plowback, Payout, and ROE (10
-
year)

Average Payout

0.0%

Average

Plowback

100.0%

Average ROE

21.10%





Growth Rate

10
-
year EPS

24.98%

10
-
year DPS

N/A

ROE*
b

21.10
%

Average of 2

growth rates

23.04
%


P/E Valuation Model

Avg. P/E

40.60

Projected Earnings 2004

.95

Projected Price

38.57


COGN

is cu
rrently trading
at just above $30
. Thus,
the P/E Model implies

that the stock is
undervalued.


ValuePro.net

Intrinsic Value

For the time being, intrinsic value was taken off of ValuePro.com, using the following
assumptions:

Growth Rate:




18.2%

10
-
year Treasury Yiel
d:


5.0%

Beta





1.20

Current Price




30.22







Intrinsic Value




38.45






According to this calculation, despite the stock’s rapid growth in the past year, there is still room
to continue to see increases in price.


ValuePro’s default settings val
ue COGN at $46.44.







Stock Rankings

BUY

BUY


Timeliness

Safety

Technical

Beta

Valueline

2

3

3

1.25



MoneyCentral StockScouter Rating:



7

MoneyCentral Aver
age Analyst Recommendation:

Moderate Buy


Yahoo!Finance Average Analyst Recommendation:

Hold




The Co
mpany Board


Board of Directors

1 linked, 7

independent

John Caldwell


Independent:
Independent Consultant since November 2002. Consultant to
GEAC Computer Corporation Limited, from December 2001 to October 2002. President and Chief
Executive Officer of G
EAC, from October 2000 to December 2001. Private Investor from
October 1999 to October 2000, and President and Chief Executive Officer, CAE Inc., from
June 1993 to October 1999. Currently a Director of Faro

Technologies Inc., Mosaic Group Inc., SMTC Corpor
ation and Stelco Inc.


Paul Damp
-

Independent:
Managing Partner, Kestrel Capital Partners, an investment firm,
since January 1990. Vice
-
Chairman of AIT Advanced Information Technologies, Inc., a
provider of systems for the issuance of machine
-
readable tra
vel documents, from September
1999 to July 2002 Non
-
executive Chairman, Architel Systems Corporation, a
telecommunications software provider, from June 1998 to June 2000. Chairman and Chief
Executive Officer, Accugraph Corporation, a telecommunications sof
tware provider, from
October 1996 to June 1998. Currently a Director and non
-
executive Chairman of Davis and
Henderson Income Fund and Director of Home Equity Income Trust.


Pierre Ducros
-

Independent:
Private Investor since June 1996.Chairman and Chief

Ex
ecutive Officer, DMR Group Inc., from February 1973 to June 1996. Currently a Director of
BCE Emergis, National Bank Financial, Manulife Financial, eNGENUITY

Technologies and nStein Technologies.


Robert Korthals
-

Independent:
Chairman, Ontario Teachers

Pe
nsion Plan Board since

January 2000 and Chairman, Gerda

Ameristeel Inc.(formerly Co
-
Steel Inc.), since

June 1997. Currently a

Director of Jannock Properties

Limited, Mulvihill

Premium Global
Telecom Corp.,

Mulvihill Premium Split

Shares Corp., Mulvihill Pr
emium

Canadian Bank Corp.,

Rogers Communications Inc., RTO

Enterprises Inc., and

Suncor Energy Inc.


John Rando
-

Independent:
Chairman, Storability Software

Inc. since January 2002,

Chairman ecora Software

Corporation since March 2000,

and Chairman, @Stake
, Inc. since

November 1999. Partner,

Flagship Venture Partners,

NewcoGen Group, from November

1999 to
November 2002. Senior

Vice President and Group

General Manager, Compaq Services

at Compaq
Computer

Corporation, from June 1998 to

July 1999. Senior Vice

P
resident, Worldwide
Services at

Digital Equipment

Corporation, from January 1993 to

June 1998. Currently a

Director of ePresence Inc.


William Russell
-

Independent:
Vice President, Global Alliances,

Hewlett
-
Packard

Company, since May 2002. General

Manager,

Software

Solutions Organization, from

September 1999 to May 2002

Vice President and General

Manager, Enterprise Systems

Group, from May 1997 to September

1999.


James Tory
-

Independent:
Board Chair of the Corporation

since September 1995

Chair Emeritus an
d Counsel, Torys

LLP, lawyers, New York

and Toronto, since March 1995 and

previously a partner

in that firm. Currently a

Director of Inmet Mining

Corporation.


Renato Zambonini
-

Linked:

Chief Executive Officer of the

Corporation since

September 1995 and Pr
esident from

January

1993 to April 2002. Currently a

Director of The

Reynolds and Reynolds Company.



Risk Analysis


Insider Trading:

No insider trades dati
ng back five years.



Current
Risk Factors
:



Unexpected changes in regulatory requirements for softwa
re



Social, political, labor or economic conditions in a specific country or region (including
foreign exchange rates)



Difficulty in staffing and managing foreign operations



High competition for skilled employees in the software industry



Increase in unlawf
ul copying and distribution of software



Increasing competition and rapid technological change in the software industry



Lawsuits that could potentially have an adverse effect on the business


declines in revenues,
operating margins, and net income



Short s
ales cycle therefore limited order backlog


quarterly results can vary significantly



Heavy reliance on business intelligence revenues