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Morningstar | Consulting and Systems Integration Drives CGI's 2Q Performance; Shares at a Premium. See Updated Analyst Note from 01 May 2019

CGI’s second-quarter results were mostly within our expectations, although we were buoyed by more positive sentiment around the firm’s operations in the United Kingdom and ongoing booking growth for consulting and systems integration services. Consulting and SI bookings accounted for 71% of the company’s quarterly bookings, and 42% of these signings were for new business, which illustrates CGI’s ability to meet clients’ demand for end-to-end digital transformation services. Furthermore, on the consulting and SI front, we think the upcoming acquisition of Acando for approximately CAD 600 million will bolster CGI's position in the Nordic region and further cement its long-term position in this geography. The purchase of Acando reflects CGI’s build-and-buy growth strategy, and we see the opportunity for more acquisitions with CGI’s healthy free cash generation, low debt/capitalization ratio, and available liquidity of CAD 1.5 billion. After considering the quarter and slightly increasing our full-year top-line growth forecast, we have raised our fair value estimate to CAD 74 per share from CAD 70 (to $55 per ADR from $54, including an updated Canadian dollar/U.S. dollar rate). With the shares surging in recent months, we believe CGI is trading at a premium, and we’d seek a wider margin of safety before investing new capital in the name.

For the second quarter, reported revenue grew 4.0% year over year to CAD 3.07 billion (4.7% in constant currency). U.S. commercial and state government and U.K. revenues were surprisingly resilient in the quarter. With Brexit pushed out again, CGI noting business as usual, and "Brexit proofing" activities, the burden of the uncertainty seems to have waned in recent months.

Management stated its positive full-year business outlook; with consulting and SI work in good demand, CGI also sees the long-term opportunity to add recurring and long-tailed outsourcing on the back end of this work. We believe the end-to-end nature of CGI will be a boon for the company as it seeks to add the outsourcing component.

CGI’s adjusted EBIT margin increased 40 basis points year over year to 14.8%. The improvement was attributable to better intellectual property mix, maturation of deals, and restructuring efforts. We think the firm’s margin will continue to improve modestly through the year and see long-term margin expansion as attainable as the company shifts to a more asset-light business model while continuing to rotate to more valuable digital services.