CGI CEO Michael Roach describes Q1 FY 2015 results as “strong”– and yet revenue was down in every region apart from the U.K. (putting aside the 0.9% CC growth in APAC to CDN$108.7m).  The 169% book-to-bill ratio achieved this quarter looks a lot less impressive when the CDN$2bn renewal with Bell Canada is excluded, when the global book-to-bill goes down to 90%, with Canada in particular showing very little in bookings this quarter

So what are the reasons:

• For the revenue declines across the different Geography Segments (one of which includes the interesting geo cluster of the Nordics and South America)
• And for CGI referring to Q1 as a “strong start to the year”?

Revenue declines across the Geo Segments apart from the U.K. (all figures in CDN$)

• U.S. revenues, down 11.8% y/y in CC to $655m, were impacted by the significant revenue bump-up last year associated with the completion of ACA projects. This is being described as a “one time” impact, with revenue otherwise essentially stable . . . except the U.S. has delivered negative y/y CC growth for three of the last four quarters. Q1 FY 14 (when revenues were up 12% in CC) is being described as a tough compare, and indeed was the last quarter of a period when CGI was enjoying double digit growth in the U.S. As we move into Q2 FY 15, the y/y comparisons become much softer
• Canada revenues were down 9.3% in CC to $382m, a sharp deterioration and the fifth consecutive quarter of negative growth. While Canada remains a very profitable operation for CGI (segment margins over 21%), the plummeting oil prices and movement in the Canadian dollar are requiring a rethink on what the market opportunities might be. CGI calls out three areas where it is interested: Western Canada and outsourcing to support major cost takeout initiatives; leveraging its Canadian delivery centers to service U.S. clients, and a business unit in Toronto focused on the banking sector.
• NSESA revenues were down 5.5% in CC to $503m (of which 76% from Sweden and Finland), with the decline mainly due to projects completed in Sweden and Southern Europe.
• France revenues were down 1.2% in CC to $325m
• CEE revenues were down 3.9% in CC to $257m, of which 87% from the Netherlands and Germany
• APAC was stable this quarter, against a very soft compare in Q1 FY14 (-12.1%)

Since acquiring Logica (and constant scope/CC growth figures have been available), CGI has achieved just one quarter of CC growth in France and CEE, and just two (both at 0.3%) in NSESA.

The only geo segment to deliver any significant CC growth this quarter was the U.K. with a 2.2% growth to $311m, where CGI is benefiting from new business in the government sector.

A refraining remark in management commentary is the run-off of low margin business inherited with Logica. This is certainly helping to improve margins (see below). Its impact on topline performance should begin to diminish by H2.

All three service lines see declining revenues

We estimate (N.B. in reported rather than CC)

• SI and Consulting revenues were down 3.9% to CDN$1.22bn: some, but by no means most, of this decline is due to the end of ACA-related projects. CGI also appears to be struggling to win new project-based business in the Nordics and France
• IT outsourcing revenue were down 1.6% to CDN $1.1bn, in line with other non-IOSP vendors
• BPO revenues were down 13.5% to CDN$229m. This rate of decline is significantly against market trends (revenue growth in BPO is evident in all other vendors who report BPO revenues). It cannot just be from the Europe operations and exits from Ahold and BAE Systems.  CGI appears not to be prioritizing BPO – and yet its CEO refers to potential market opportunities for “business process wrapped with IT” in the Canadian energy sector. This would probably require a greater offshore capability than CGI can currently offer.

So why is it a strong quarter?

There are some obvious aspects:

• CGI continues to improve margins throughout all of the former Logica territories (apart from the Netherlands and here, too, the general trend is up) from exiting low-margin business and from implementing the CGI operating model. In the Nordics, CGI is consolidating its datacenter operations and increasing the utilization of global delivery: these will also help drive further margin expansion. At corporate level, EBIT margin is now 12.6%, and adjusted EBIT margin is up 208 bps y/y to 13.5%.
• Cash from operations was up 412% y/y to $339m. On a TTM basis CGI has generated nearly $1.5bn of cash
• Net debt is $1.9bn, down $1.4bn in 27 months from $3.3bn after acquiring Logica
• The backlog now stands at $20.2bn
• In all the former Logica territories (apart from France, at 96.7%), book to bill was over 100%. The main problem is the U.S. with a book to bill at 75.5% this quarter, and just 65% TTM (the smaller APAC operation is also struggling with a book-to-bill of just 19.9% this quarter)
• Looking ahead, management refers to an expanding opportunity pipeline. In the U.S., for example, CGI is targeting new business opportunities in the federal government (it was recently selected to the U.S. Navy CANES contract vehicle) and financial services sectors, including leveraging Stanley expertise in cyber security.

CGI expects Q2 FY will be similar, though organic revenue growth in the main geographies should become evident from H2 FY 15.

Will we see further margin improvements? With margin leakage from problem contracts decreasing, one obvious lever for CGI to be pulling is global delivery - but here it is a laggard. Another lever is in increasing the proportion of revenues coming from higher margin services like cyber security – and here CGI is much better positioned.

And where will CGI’s next significant acquisition be? The pointers are the U.S. commercial sector, reducing its exposure to the federal sector.

(For a full breakdown of the results, see our article here)