Cognizant Technology Solutions Corp. (NASDAQ: CTSH) was featured this week in our daily version of the Top Day Trader Alerts due its price and volume spike after earnings.  The highs in the stock were impossible to ignore if you are of the mind that stocks hitting new highs tend to hit even higher highs.  The problem is that there may now be a value trap in the shares.

The issue at stake for the IT consulting and technology outsourcing and services company is that its market cap has grown to more than $18 billion.  Not bad at all for a company that formed in 1998.  Morgan Stanley has said enough is enough with a cut to “Equal Weight” from “Overweight” after shares have risen so much.  Their target is $63.00 versus a consensus price target from Thomson Reuters at almost $64.75.

As we noted on Tuesday for Cognizant: “Cognizant is soaring after beating earnings estimates and raising 2010 guidance.  Shares are up 11.8% at $61.96 on about 200,000 shares.  Mark this as a 52-week high as the prior range was $29.76 to $56.08.”  The larger story was not just a 52-week high.  This was an all-time high in the stock.

The revenues were up 15% sequentially and 42% from the year-ago quarter to a new level of $1.105 billion; and non-GAAP earnings was $0.59 EPS versus $0.50 in the year-ago quarter.  This was its first quarter with a “billion” in the revenue column.

Shares went on trade as high as $63.94 on Tuesday before settling with a close of $60.62 that day and then a gain to close up at $61.57 yesterday.  In mid-afternoon trading this Thursday the trading range has been $60.32 to $61.27 and the stock is down 0.8% at $61.08.

Since we are in the second half of 2010 already, our look would be to take a blend of consensus estimates for 2010 and 2011 for earnings to get an implied forward multiple.  The mid-point of earnings estimates for 2010 and 2011 from Thomson Reuters estimates of $2.25 EPS and $2.57 EPS would come to $2.41 on a 2010-2011 blend.  The revenue estimates for the two years are $4.41 billion and $5.42 billion, which brings a figure of just over $4.9 billion.

This 2010-2011 blending creates forward ratios of 25.3-times earnings and 3.73-times revenues.

The company seems to be in the sweet spot for IT outsourcing and for IT services as it is New Jersey-based rather than based in India or elsewhere.  It should be noted that approximately three-quarters of its estimates 85,000 workers are in India.  It sells its services to clients in North America, Europe, and Asia via its own professional staff, senior management, and direct sales personnel.

Cognizant did nothing wrong in its report to deserve this conclusion.  Its CEO was very upbeat in a recent CNBC post-earnings interview. Its earnings report was among the best so far this week in major technology companies.  There is just becoming a disconnect in its share price versus the underlying value of the business.

JON C. OGG

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