EUR 850.00 For Business Accounts Only

Morningstar | CGI Reports Solid Start to FY19; Notes Some Caution but Digital Services Thrive; Shares Overvalued

CGI reported a solid start to fiscal 2019, with financial performance mostly in line with our expectations. Despite some headwinds, such as Brexit, the U.S. government shutdown, and the paring back of low-margin contracts in Europe, CGI’s performance was resilient, with revenue up in the midsingle digits year over year. Management said that they are seeing a particularly cautious outlook from manufacturing and retail clients, with these industries adjusting their spending priorities in anticipation of a potentially slower-growth environment. During this IT-services earnings cycle, we haven’t heard much from other peers about such a cautious outlook. However, we think CGI’s more candid commentary is the most appropriate and prevents us from prescribing a very strong outlook for the overall IT-services sector in the back half of fiscal 2019, despite a generally good start for most vendors. With our full-year financial outlook unchanged, we reiterate our CAD 70 ($54) fair value estimate and narrow economic moat rating. Shares continue to trade in 2-star territory, and we view the company as moderately overvalued.

For the quarter, revenue rose 5.2% year over year to CAD 2.96 billion (up 4.5% in constant currency). Bookings were CAD 3.03 billion, representing a book/bill of 102%, which was the lowest bookings rate since the third quarter of fiscal 2017. While revenue growth was mostly broad-based (six growing segments), Northern Europe and Asia-Pacific declined, owing to contract completions and contract exits. Firms like CGI continue to benefit from clients demanding digital transformation skills, and the company noted that analytics, cybersecurity, and systems modernization were in demand.

In terms of future growth, we believe CGI is in a good position, with existing embedded client relationships. The firm has about CAD 1.9 billion in available liquidity to pursue its long-term “build and buy” growth strategy and we think the firm remains a highly relevant digital player in the overall IT-services sector, which will buoy its competitive position and narrow moat.

On the margin front, CGI’s adjusted EBIT margin improved 40 basis points year over year to 14.8%. We expected margin expansion as the firm focuses on higher-margin business mix, infrastructure automation, and higher employee utilization. We think the company will be able to shift to a more asset-light business model while continuing to rotate to more valuable digital services, which should lead to modest EBIT margin expansion over the midterm.