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Gordon Pape
Gordon Pape

CGI Group: A Buy for Aggressive Portfolios

August 19, 2012 | About:

A few weeks ago, I wrote about the lamentable state of Canada's high-tech sector in the wake of the implosion of Research-In-Motion. At the time, I said there were only two companies in the S&P and TSX Information Technology sub-index that have performed well recently.

One is MacDonald, Dettwiler (MDDWF), the Vancouver-based producer of highly sophisticated information systems for everything from Mars rovers to surgical robotics. I recommended the stock at $56.63 and so far it has gained almost $3, closing Friday at $59.51. It is still a Buy.

The other company that has been doing well in the eyes of investors is Montreal-based CGI Group (NYSE:GIB). The company provides a wide range of specialized services to clients around the world. These include:

  • Systems integration and consulting such as strategic plans, system architecture, system development and implementation of business and technology solutions.
  • Application management - day-to-day maintenance and improvement of clients' business applications.
  • Infrastructure services, which involve comprehensive infrastructure management capabilities that adapt to clients' unique business requirements and service priorities.
  • Business process services: management of back-office business processes to streamline operations
  • Proprietary solutions. The company offers a portfolio of more than 100 "mission-critical solutions" that are designed to reduce costs and create competitive advantage for its clients.
None of this is as sexy as the work MacDonald, Dettwiler is doing but these services are in great demand. CGI has been successful in building on its expertise to create an international, multi-billion business whose shares are listed on both the Toronto and New York stock exchanges. Clients include governments, banks, insurance companies, manufacturing firms, telecommunications companies, etc.

Many Canadians are unfamiliar with CGI. It has a very low profile compared to RIM, but this is an impressive organization. The company employs 31,000 professionals in 125 offices worldwide, making it one of the largest independent IT and business process providers on the planet. In 2011, revenue topped $4.3 billion and CGI reported a backlog of $13.6 billion as of the end of the second quarter.

CGI is the French acronym for "Conseillers en gestion et informatique," which means information systems and management consultants. In English, the acronym stands for "Consultants to Government and Industry."

The company was founded in Quebec City in 1976 by Serge Godin who was joined a few months later by André Imbeau. Their business strategy was very simple: to help clients achieve success, sustain long-term growth, and to provide fulfilling career opportunities for CGI's professionals. Remember that at that time information technology was something very few companies were familiar with or took seriously. CGI got in on the ground floor and was well-positioned when the business took off during the 1980s and 1990s.

During the 1980s, CGI began to buy up small outsourcing companies, growing by acquisition. Some of the major moves that made the company a global player included:

The 1998 merger with Bell Sygma. This led to the signing of the largest Canadian outsourcing contract of that time and nearly doubled the size of the company.

The 2001 acquisition of IMRGlobal. This move added Indian operations to the CGI portfolio, thus providing clients with expanded global delivery options.

The 2004 purchase of American Management System (AMS). This transaction doubled the size of CGI in the United States and tripled the size of the company's presence in Europe.

The 2010 acquisition of Stanley Inc. This move, which included Stanley's subsidiary operations Oberon and Techrizon, again nearly doubled the size of CGI's U.S. operations, which had already been greatly expanded by the AMS purchase.

CGI went public in 1986, with a listing on the old Montreal Stock Exchange at $6.50. On a split-adjusted basis, the original price was $0.41 so the shares have increased in value by almost 6,000% in the 26 years since.

The company released its fiscal 2012 third-quarter results on July 25 (year-end is September 30). Revenue came in at $1.065 billion, a 5.1% increase over the same period in 2011. Net earnings were $87.2 million ($0.33 a share), down from $123.2 ($0.45 a share) last year. Management said the drop was due to costs related to yet another acquisition, Logica Plc, plus additional financing costs and the execution of a real estate optimization initiative. Also, the 2011 results benefited from favorable tax adjustments.

The company generated $251 million in cash from operating activities during the quarter. Over the last 12 months CGI has generated $690.5 million or $2.57 in cash per diluted share.

"We continue seeing a positive growth trend particularly in the U.S. which grew by 18.4% year-over-year in the third quarter," said CEO Michael E. Roach. "Our continuing ability to generate significant cash from operations positions us to fully meet our strategic and financial commitments, including the transformational business combination with Logica which we expect to close in the current quarter."

The Logica acquisition has generated some controversy in the investment community. The company is one of the U.K.'s major IT and software firms and is larger than CGI. However, it has been thwarted in its attempts to become a major global player and has had some financial difficulties. Some analysts doubt that the CGI acquisition, with its hefty $2.8 billion price tag, will materially change the situation despite CGI's claim that it will create "a global technology champion with significant presence throughout the Americas, Europe, and Asia." Successfully integrating Logica and making good on the boast will be a major challenge for CGI management.

Paul Treiber, the RBC Capital Markets analyst who follows CGI, believes the company is up to the challenge. In a report published Friday, he commented that CGI "has a successful track record of more than 70 acquisitions." He went on: "While the Logica acquisition is a significant undertaking, CGI is no stranger to transformational acquisitions and its ability to raise the operating performance of acquired businesses is visible in its last five material acquisitions (72% of revenue)."

He raised his earnings per share (EPS) estimate for fiscal 2013 by 26% to $2.32 and increased his price target by $2 to $30 a share.

Looking at the balance sheet, we see that CGI reduced its net debt by $295.6 million during the quarter, bringing it down to $633.4 million. That represents a net debt to capitalization of 19.4%. The company had approximately $4.5 billion in liquid assets at quarter-end.

The stock does not pay a dividend but the company has an active share buy-back program. During the first nine months of the current fiscal year, approximately 5.4 million shares were purchased at an average price of $19.16 for a total investment of $102.8 million.

To sum up, this is a relatively colorless company that operates a low-profile but highly successful business and has proven its ability to grow both organically and by acquisition over the years. If it can successfully digest Logica and leverage the business to increase its international market share, we can expect to see that growth continue into the future.

There are risks involved but the potential rewards for growth-oriented investors are significant.

Action now: CGI Group is a Buy for aggressive portfolios. The stock closed on Friday at C$24.42, US$24.66.

About the author:

Gordon Pape
Gordon Pape is the best-selling author/co-author of many acclaimed investment books, including the recently-published Sleep-Easy Investing (Viking Canada ). He is also publisher and editor of five investment newsletters, including the Internet Wealth Builder, Mutual Funds Update, The Income Investor, and The Canada Report, which was created specifically for U.S. residents interested in investing in Canada . He is a columnist for several magazines and websites and a frequently quoted media source. He has been a featured speaker at numerous events including the World Money Show in Orlando . His websites can be found at www.BuildingWealth.ca and www.TheCanadaReport.com.

Rating: 5.0/5 (1 vote)


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