CGI Group (GIB) is a current selection of GuruFocus’ Undervalued Predictable Companies Screener. With a decade-long track record of increasing EPS with few interruptions, management has shown an ability to gradually grow shareholder returns and margins over time.
The business:
Founded in 1976, CGI Group Inc. is the fifth-largest independent information technology and business process services firm in the world. The company specializes in business and IT consulting, systems integration, application development and maintenance, and infrastructure management. According to research from IDC conducted in 2013, the size of CGI’s industry is estimated to be $757b in the U.S., $693b in Europe and $65b in Canada.
CGI revenue by type:
- 52% Management of IT and business functions (outsourcing)
- IT services 43%
- Business process services 9%
- 48 % Systems integration and consulting
Client geography:
- 27% United States
- 15% Canada
- 13% U.K.
- 13% France
- 9% Sweden
- 7% Finland
- 16% Rest of the world
Vertical markets:
- 34% Government –Â Supporting over 2,000 government organizations in reducing costs and improving the efficiency, quality and accountability of public service organizations, all while increasing citizen engagement.
- 24% Manufacturing, retail and distribution –Â Enabling business transformation for more than 2,000 clients by improving efficiency and loyalty, lowering costs and boosting sustainable growth.
- 19% Financial services – Helping financial institutions, including most major banks and top insurers, to reduce costs, increase efficiency and improve customer service.
- 15% Telecommunications and utilities –Â Helping six of the top ten largest global telecommunications providers and eight of the top ten largest European utilities deliver new revenue streams and improve productivity and service.
- 8% Health –Â Helping more than 1,000 healthcare facilities, hospitals and departments of health implement solutions for better care, better business and better outcomes.
The IT industry has gone through a bit of a transition since its inception. In the 1990s, roughly 75% of the industry’s revenue came from per diem services (from specialized assistance within specific projects). Such services did not require a large or complex organization nor did they allow for much differentiation between firms, which resulted in fierce competition.
With 68,000 employees in 400 offices across 40 countries, CGI believes they have a scale advantage in the industry.
Growth opportunities:
The company’s CEO anticipates doubling the size of CGI within 5-7 years, with excess cash aimed towards the U.S. commercial markets. To accomplish this, CGI intends to continue its “build and buy” growth strategy, expanding both through organic growth (“build”) and through acquisition (“buy”).
The company has been heavily dependent on acquisitions in the past to fuel top-line growth. In 2010, CGI acquired Stanley, Inc. (SXE), nearly doubling the size of CGI’s U.S. operations. This acquisition was a key component to the company tapping the U.S. federal market. In 2012, CGI made its largest acquisition to date, merging with the Anglo-Dutch business and technology services company Logica. The acquisition roughly doubled the size of the business, making CGI the world’s fifth-largest independent IT and business process services company. Management believes they now have the expertise to serve 94% of global IT spend.
Management:
Quality of earnings concerns:
Earlier this year, CGI Group became a highly shorted stock. One of the prominent short sellers was Jim Chanos, who famously shorted Enron before it went bankrupt in 2011.
The main argument used by short sellers is that CGI's reported earnings were heavily adjusted and its cash flow from operations was weak. He says investors should base their decisions on future cash flow rather than earnings, which have benefited from adjustments.
While this is still a major concern, it should be noted that the company has routinely generated a solid level of FCF from earnings.
Valuation:
Accenture (ACN) is CGI's largest competitor in the North American market. It currently trades at ~19x earnings and is expected to grow EPS at 9.77% annually over the next five years.
CGI meanwhile is expected to grow at a similar 9.60% annually over the next five years.
Despite what appears to be a more attractive historical and future growth outlook, CGI still trades at a healthy discount to ACN shares.
If you can wrap your head around the possible account risks, the shares could be relatively undervalued. That’s still a big headline risk, however, and, true or not, it could weigh on the shares' valuation for some time.
For more ideas like this one, check out GuruFocus’ Undervalued Predictable Companies Screener.
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