CGI Inc (GIB) 2016 Q1 法說會逐字稿

Good morning, ladies and gentlemen. Welcome to the CGI first-quarter 2016 conference call. I would now like to turn the meeting over to Mr. Lorne Gorber, Executive Vice President, Global Communications and Investor Relations. Please go ahead, Mr. Gorber.

Thank you, Melanie, and good morning, everyone. With me to discuss CGI's first-quarter FY16 results are Michael Roach, our President and CEO; and Francois Boulanger, Executive Vice President and CFO.

This call is being broadcast on cgi.com and recorded live at 9:00 AM on Wednesday, January 27, 2016. Supplemental slides as well as the press release we issued earlier this morning are available for download, along with our Q1 MD&A, financial statements and accompanying notes, all of which are being filed with both SEDAR and EDGAR.

Please note that some statements made on the call may be forward looking. Actual events or results may differ materially from those expressed or implied, and CGI disclaims any intent or obligation to update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise. A complete Safe Harbor statement is available in both our MD&A and press release, as well as on cgi.com, and we encourage our investors to read it in its entirety.

We are reporting our results in accordance with International Financial Reporting Standards, or IFRS. As before, we will also discuss non-GAAP performance measures, which should be viewed as supplemental. The MD&A contains definitions of each one used in our reporting.

All of the dollar figures expressed on this call are Canadian, unless otherwise noted. As many of you know, we're hosting our AGM this morning, so we will keep our scripted comments brief, take as many questions as we can, and try and wrap the call in about 45 minutes.

I'll turn it over to Francois first to review our Q1 financials and then Mike will comment on both strategic and operational highlights. With that, Francois?

Thank you, Lorne, and good morning, everyone. I'm pleased to share our results for Q1 FY16.

Revenue was CAD2.7 billion, up CAD142 million compared with the same period last year, and representing growth of 5.6%. Foreign exchange fluctuations favorably impacted revenue by CAD187 million. Constant currency growth of minus 1.8% represents a significant improvement from the minus 6% we posted in the year-ago period. Book to bill was 119%, with CAD3.2 billion in contracts awarded during the first quarter.

As a reminder and for a better comparable, book to bill was 91% without the large bill renewal in Q1 of last year. For the last 12 months, book to bill is running at 101%. Adjusted EBIT was CAD384 million, up 12%, while our EBIT margin increased by 80 basis points to 14.3%.

During the quarter, we completed the restructuring program announced in July. In Q1 CAD29 million was expensed to complete the program for a total of CAD65 million, in line with expectations. The benefits will continue contributing to double-digit EPS growth throughout FY16.

For the quarter the effective tax rate increased to 29% from 26% a year ago. This increase was mainly due to our one-time comparable tax adjustment of CAD5.9 million related to a UK tax rate change that we mentioned on our last call. Further details are outlined in the MD&A.

Based on our current business mix and the continued earnings trends in our US operations, we expect our FY16 effective tax rate to be in the 26% to 28% range. Net earnings, excluding these two specific items, were CAD265 million, up 12% from last year, while the net margin increased by 60 basis points to 9.9%.

EPS was CAD0.84 per diluted share compared with CAD0.74 last year, representing an increase of 13.5%. On a GAAP basis, net earnings were CAD238 million, or CAD0.75.

Turning to cash, our operations generated CAD328 million in the first quarter, or 12.2% of revenue. As a result, cash from operations for the last 12 months is CAD1.3 billion. We ended the quarter with a DSO of 44 days, below our 45-day target.

In the quarter we invested CAD9 million to repurchase 193,000 shares at an average price of CAD47.44. As of December 31, under the current normal course issuer bid, we invested CAD342 million to repurchase 7.1 million shares. We continue to view share repurchase as an accretive use of cash.

As such, the Board of Directors approved today the extension of our NCIB until February 3, 2017. This will give us the flexibility to purchase approximately 21.4 million shares over the next 12 months. At today's price that would represent an investment of more than CAD1 billion.

Net debt at the end of Q1 was CAD1.6 billion, or CAD351 million lower than last year. As a result, the net debt to capitalization ratio improved to 18% from 25% last year. Subsequent to the end of Q1, we repaid the remaining CAD130 million of the May 2016 term loan in advance and without penalty. With our revolving credit facility fully accessible and over CAD550 million in cash, we have more than CAD2 billion in readily available liquidity and access to more as needed.

Now I'll turn the call over to Mike.

Thank you, Francois, and good morning, everyone. I'm very pleased with the strength of our first-quarter results. We're off to a great start.

We delivered revenue momentum, quality bookings, strong margins, and cash generation in addition to record earnings and double-digit EPS expansion. As you're aware, over the past three years we've been executing a strategy designed to run off non-core low-margin businesses, while exiting geographies that are not in strategy while gradually adding higher quality revenue aligned to those capabilities that our clients value the most. Our performance this quarter is a further demonstration of the benefits of this strategy.

Strong bookings of CAD3.2 billion were well distributed, with all regions exceeding 100% book to bill in the first quarter. Perhaps more importantly, 58% of these bookings were new business, with particular strength in the financial services globally. Demand for digital transformation services, cyber security, analytics, and high-end consulting were all strong components of contracts booked.

In addition, transformational managed service opportunities continue moving through the pipeline and gaining momentum in the current environment. We continue to see global businesses consolidate thousands of IT partners to a few, in some cases, five or six most capable of delivering to their global niche. During the quarter we were awarded global framework agreements by a manufacturer and a financial services client, both headquartered in Europe.

While not an immediate booking, these awards position us for significant growth opportunities in the future and are another proof point that we are now recognized as a qualified partner by our global clients. Turning to revenue, over the past 12 months revenue has steadily improved and is now approaching positive growth in constant currency. In fact, several large segments delivered year-over-year constant currency growth in the quarter.

Specifically France, revenue up 3%, EBIT margin up 60 basis points to 13.2%, with a book to bill of 109%. New contract bookings are meeting our profitability standards, and the duration of these engagements is becoming more long term, reaching even 10 years in some instances, gradually creating a recurring revenue stream.

In the UK, revenue up 4%, EBIT margin up 100 basis points to 12.3%, with a book to bill of 122%. We continue to win new business in the financial services and public sector, as the key drivers to this growth.

Canada, revenue growth was stable, but up significantly from minus 9% last year. EBIT margins at 21% with a book to bill of 146%.

We are seeing continued strength in the banking sector as well as oil and gas, both of which have been a focused area of investment over the past year. With an expanding pipeline we expect further revenue momentum, demonstrating that substantial growth opportunities remain in the Canadian market.

Asia-Pacific, revenue up 9%, EBIT margin 16%, with a book to bill of 142%. The strength of this segment is largely the result of increased utilization of our global delivery centers to win new business. In addition, we continue to move portions of our existing client business offshore, which improves operating margins, but results in a temporary headwind to a number of our business units, most notably the Nordics and to a lesser degree Eastern, Central and Southern Europe.

In the Nordics, revenue is down 3.7%. EBIT margin was up an impressive 230 basis points to 11.2%, with a book to bill of -- sorry, up to 11.2% with a book to bill of 102%. Our funnel of opportunities across the Nordics remains healthy, particularly in Sweden and Finland, our largest operating entities.

Eastern, Central and Southern Europe, revenue was down 4.8%, EBIT margin was up 70 basis points to 11%, with a book to bill of 106%. Our German operation has moved to positive year-over-year growth, with strength in its top 10 accounts, supported by strong bookings and a healthy pipeline of opportunities. Our Netherlands operation, while meeting our profitability targets, remains challenged on the top line, due in part to the shift of more work to global delivery centers by a major marquee account.

We also continue to exit the remaining countries in South America, moving towards the single operation in Brazil. Revenue in the US was down 7%, EBIT margin up 80 basis points to 15.3%, with a very strong book to bill of 123%. We view the top line pressure in the quarter as a transitional event, related to the ramp down and conclusion of a number of very large successful system integration engagements.

Specifically, the advantage engagement in California and Colorado are nearing completion. Additional IT sales in the state and local market should more than offset this impact throughout the balance of the year.

In California, the highly successful enterprise data to revenue, or EDR project is ramping down, impacting our quarter one revenue by approximately CAD20 million year over year. Our ability to collect more than CAD2.5 billion for California over the past few years has attracted the interest of other jurisdictions who are exploring similar projects.

Finally, in our federal government operations, we continued to experience industry-wide pressures on the top line. On an optimistic note, our civilian business remains strong, with both year-over-year revenue growth and margin expansion.

We expect positive revenue momentum as projects ramp up from the stronger new business bookings over the last couple of quarters. The investments we have recently made in bringing in additional expertise to meet current client demands in areas of digital transformation, analytics, and cyber are driving pipeline growth across key industries and all geographies. Furthermore, our continued investment in automation and IP continued to drive improved outsourcing value propositions for our clients and margin expansion for CGI.

Before I wrap up, I would like to give you a brief update on our buy strategy. I'm sure we'll talk a little bit more about it in the questions. We continue to work through our initial bundle of customer identified 85 targets, and have identified an additional 5,000 companies as possible targets, both private and public, with a combined revenue of $200 billion across our existing geographies.

We are currently in the qualification process to ensure they are in line with our strategy while we continue to engage with potential sellers at various stages of the buy cycle. Finally, we remain on track to double -- to deliver double-digit EPS growth in this fiscal year.

Thank you for your continued interest and support. Let's go to the questions, Lorne.

Just beforehand, a reminder, a replay of the call available either via our website or at 1-800-408-3053 and using the pass code 3471339 until February 27. Melanie, if we could poll for questions from the investment community? And I ask that you keep the questions brief and perhaps limit them to one so we can take as many as possible.

(Operator Instructions)

The first question is from Steven Li of Raymond James. Please go ahead.

Thank you. Mike, it feels like you are turning a corner in the US. The 1.3 book to bill, was every segment, commercial, state, and local and federal greater than 1?

No. The federal was just under 1, but it's their highest book to bill in a number of quarters. So we are seeing some momentum in the federal business as well on the booking side. Again, more prominent on the civilian side, although the pipeline of opportunities on the military side is expanding rapidly.

And we're seeing the market dynamics down there, can you talk about maybe which segments you would like to see the most improvement in 2016?

I think I can speak to not only the US, but I would say globally the financial institutions are really embracing the whole digital environment. There's a lot of ramp up there around the world in the financial institutions in terms of developing a digital strategy, picking a partner to help them implement it.

On the other hand, they are also looking to cut costs, feeling the pressure from increased investment in cyber and also regulatory pressures. And we're on both sides of that in terms of an offering and a solution, and you're seeing that strength in the UK. You're seeing it in France and in Canada and the US, just to mention four big geographies.

Great. And Mike, you gave a metric, 58% of the bookings were new business. Would you have an average for this metric for the last year, 2015?

I don't have it in front of me. Maybe the guys can take a look at that, Steven, and give it to you after the call.

I'll come back to you on it, Steven.

It's in the MD&A also, that figure.

All right, great. Thanks.

Thanks, Steven.

Thank you. The following question is from Thanos Moschopoulos of BMO Capital Markets. Please go ahead.

Good morning. Mike, as you highlighted the Canadian business was stable year over year, which is certainly very encouraging to see. You alluded to it in your prepared remarks, but could you drill a bit more in terms of the dynamics you're seeing there and what your near-term outlook would be for the Canadian business going forward?

Sure. First, let me take the opportunity to congratulate the Canadian team. That's a big swing from minus 9% to even. Again, we're seeing strength, as I mentioned, in the financial institutions. As you know, Steven (sic), a year or so ago, we opted to split our Toronto operations so that we would have a focus on the banks. I think our timing was good. They are ramping up. We're ramping up with them; so we're working on the financial institution. We expect strong double-digit growth in the banks in Canada. The other area was in oil and gas. I think you know the dynamics of that industry. We are helping clients manage the cost pressures in a dropping oil price environment.

On the other side, if you look at it, as I mentioned last quarter, the bit of the temporary downdraft that the Canadian guys are working with we're running off some low margin contracts and using computer -- computing and we're restructuring as we go there. And accordingly you've see that the margins in Canada now are again over 20%. So we're delivering on the margins. The growth is heading in the right direction. The pipeline and bookings are strong. So I think we're good positioned there to continue to move forward.

And again, I would take the opportunity -- it's not quarter by quarter here. It's the overall year where these kind of initiatives are going to take an impact as we grow. But I think my message, as I put in the script and I've said that over the last number of years, still think there is some good growth opportunities for CGI in Canada.

Great. Thanks, Mike. I'll pass the line.

Thanks, Thanos.

Thank you. The following question is from Maher Yaghi of Desjardins Capital Management. Please go ahead.

Yes. Thank you for taking my question. Just wanted to say good job on the quarter. We are definitely starting to see improvement in the constant currency growth rate. Can you maybe talk a little bit about your outlook? Previously, Mike, you talked about achieving -- getting back to organic growth somewhere, sometime in 2016. How confident or more confident or less confident are you in achieving that?

And my second question, just a follow-up question, in terms of cash, I mean, the Company is producing a lot of cash. Can you talk a little bit about -- you're in an enviable position here, with a low debt rate. Can you talk about use of cash and how you prioritize? Again, I mean, this question comes back all the time, but it's important here to know what you're going to do with all this cash coming in.

Good thing about the question coming all the time is that the answer is also very consistent. That hopefully gives us all some comfort. If you look at what our plan -- and I outlined this before for 2016, was to continue to drive double-digit EPS growth. You saw in the first quarter we delivered 13.5%. I think I also said that its EPS growth will come from basically two large levers; continuing the operational excellence, looking at pulling more levers in terms of improving productivity, and I called one out in the Nordics and a few other geographies where we're using our global delivery centers more to bring down our costs and increase our competitive position, but also increase our margins. So we still believe we have a lot of opportunity to contribute to that double-digit growth from continuing to run the business more effectively.

On the other hand, I said that we realized that we do need to start contributing to that EPS strength through earnings coming from profitable on-strategy revenue. Therefore, that the climb back will be gradual because we want to make sure that we're not bringing on revenue that is not profitable and not on strategy. And just to give you a proof point on that, and I'm sharing this at the AGM, I'm showing a little chart between FY13 and FY15. If you look at our revenue as a company was essentially flat or down, more likely, but over that three-year period our earnings increased by 114%, or over CAD500 million. And cash from operations increased by 92%, or more than CAD600 million.

So I think the strategy is right. The execution of it has to be managed in such a way, as I say, that every dollar of revenue that we add is on strategy. It's higher up the value chain and it's delivering the kind of margins and cash that our investors rightly expect. So we are still of the belief that we will deliver double-digit EPS growth and that we'll start to see contribution coming from revenue in the FY16 year.

Use of cash, I guess the only thing really to highlight there is the most accretive use of cash is to reinvest it back in our company, and certainly we're doing that. When you look at those levers I mentioned in terms of growth, ensuring that we're bringing on the people with the skills to help in the digitization and to step up to the strategy work that the financial institutions and other companies are looking at.

The second area would be an accretive acquisition. We continued to, as I mentioned before, be an aggressive and disciplined player in that space. And after that it's paying down debt, buying back shares on the debt side. As Francois mentioned, post quarter we paid out the last bit of debt associated with our line of credit. So everything else now is long-term debt, and it's parceled out over a number of years, over probably the next eight years or so.

2024.

2024, there you go. So we don't have any immediate debt pressures. And as you said, we are generating a significant amount of cash.

So the last one, of course, is the share buyback. I mentioned two calls ago that we believe our shares are undervalued, so we have been buying. We bought some last quarter and we've been buying them this quarter. We think they are an excellent opportunity for us to acquire our own shares and it's very accretive. So that's -- you should look for us to invest in the business. We have the cash, as I mentioned before, to do a series of niche acquisitions or a transformational deal, and also buy back our stock.

We'll go to the next questions.

Thank you. The following question is from Kris Thompson of National Bank. Please go ahead.

Great, thanks. Mike, the new business bookings were 58% of your total bookings in the quarter, as were systems integration and consulting. I'm just wondering, I mean, this is very high compared to past performance. Should we expect this mix to remain similar over the near term? And how do we think about it capping your EBIT margin if that mix does stay that high?

Well, first off a lot of that is coming from that very phenomenon that we're seeing in trend on digitization. Customers are ramping up there, so you're going to see more systems integration projects and strategy projects associated with that.

Now on the other hand, our goal is also to take on long-term engagements, both related to IT and also managed services. And I can tell you, as I said earlier, if you look at a lot of our clients they are feeling the pressure of the cost of operating and running their existing infrastructure, and they need to find funds to invest in the digital world. So we intend and are playing on both sides of that, Kris. So we are working on managed services deals, transformational managed services deals that allow our customer to get there.

By the nature, systems integration contracts business is not necessarily capping your EBIT. The trick there is to make sure you don't have a lot of utilization pressures between projects. As you saw, if you look at some of the big ones that we have in the United States, we already have a [SIT] project that goes three years or longer. You don't have much downtime. It's very much like an outsourcing contract, but without the minimums and some of the other terms and conditions. So in the short term, as those go on I believe it will move the top line and the bottom line in various geographies.

That's great.

I'm not overly concerned with that.

That's great. If I could follow up, Mike, on the organic revenue initiative. Would you say with these projects you're working on, are you focusing more on numerous smaller wins and renewals at existing customers or on larger long-term outsourcing contracts? Thanks.

That's a good question. Kris, what we're doing on the embedded base, as is our tradition, we will preempt the runoff, the termination of a contract and try and renew it and extend it ahead of time, especially if it's in our sweet spot, on strategy, high value that customers are looking for now and in the future.

On the other side, when we see a contract that's lower end and maybe has even been commoditized, in some cases it could be a hardware supplier who has decided to wrap portions of end using computing with this hardware offering, margins get squeezed there. It's not seen as high value by the customer. So in those cases we would actually let those contracts lapse, causing a short-term pressure, as I mentioned an example in Canada. But again, very similar with our philosophy that we used throughout Logica.

The idea here is not to be in a situation where a company has to do a massive shift because they haven't been doing this as opportunities present themselves. In other words, it hasn't been embedded in their strategy. It's always been embedded in our strategy. That's why our margins are consistently growing, our EPS, and our cash. So that's the dynamics that you would see. So we obviously start with protecting our base. No one ever won a war by giving up the home fort. So we protect our base with an eye growing within those accounts, and then, of course, attracting new accounts that can bring on additional business in line with the strategy.

Thank you.

Thanks, Kris.

Thank you. The following question is from Jason Kupferberg of Jefferies. Please go ahead.

Good morning, guys. Just wanted to ask a follow up on M&A. Obviously the way the market in general is looking at leverage has changed quite a bit in the last few months. So I know you always are open to potential transformational acquisitions. But given the current market backdrop, are you thinking any differently about where you would be comfortable maxing out your leverage ratios?

No. As I said before, Jason, we don't really start with that. We start with more of the strategic operational fit. Does it align with what the customers are buying? And then we work back from there. So as I mentioned before, even with Logica we never leveraged up to the maximum available to the Company. And when you're generating the kind of cash numbers we are, we have no problem raising additional capital should the right deal come our way.

So no, we would definitely look at a transformational deal if we found one that met that criteria. There are some that are floating out there that on the surface don't appear to be necessarily on our strategy. They are more heavily weighted to the infrastructure side, and I think in some of those cases you can actually see that transformation going on within their infrastructure revenue stream that's running off fairly rapidly.

So we're doing both. We continue to look at other opportunities. As I say, we did some good work to identify frankly that there's 5,000 companies that are in our business, some of them fairly large. A lot of them are private that don't normally come up from the investment banking community. So we're actively looking in there. And again, it looks like it's a pretty broad portfolio that would help us at least at a strategic level advance the growth scenarios.

Just a quick follow up. I know you mentioned the two large global framework agreements over in Europe. Congrats on those. Any thoughts on just revenue potential, and is this potentially a FY17 event when it becomes needle-moving? I realize you're going to have to win some individual engagements underneath the MSA here, but how are you thinking about converting this pipeline to bookings?

Well, again, thank you for calling that out. I think it is important because one of the proof points that clients and investors are looking at, are we truly a global player? And in a shootout where you're up against hundreds of providers, to land in the final five and six is very, very key. It's very much like our federal government business gives us a hunting license to be there. Also allows us, Jason, to be much more focused on what we chase within the account. Because, again, and these are big accounts, billions of dollars of IT spend, we can be very selective, go to our strengths, and stay on strategy. I would say again, we're going to start seeing more opportunities now, probably in the back end with most of the revenue impact probably hitting 2017. Depends how fast they bring it out.

A lot of these firms as well, Jason, are using a lot of freelancers, subcontractors. And I was just talking to a CEO last night, and they are starting to realize that this is not good for their business. Most of these guys are mercenaries. They are paid higher than their own employees and the knowledge can cross the street for CAD0.50 more an hour. So a lot of these large companies are also attempting to do something about these freelancers and that could be an area that would allow us to increase revenue faster as we replace them with our own employees.

Okay. Thank you for the comments.

You're welcome.

Thanks, Jason.

Thank you. The following question is from Richard Tse of Cormark Securities. Please go ahead.

Yes, thanks, Mike. You guys had a pretty strong bookings quarter here. I was wondering if you could maybe elaborate a little bit or attribute it to whether it's a strong market backdrop, is it something you guys are doing from a product perspective, or maybe a change in management structure?

I don't think we've made a big change in management structure. Probably the most pronounced one was we did the Nordics, where we now have a President located in the Nordics, which is aligned to our overall strategy. I think what's happening here is there are drivers in the IT industry. A lot of times they are not as pronounced. I think that's been one of the issues in the tech industry post Y2K. We're always looking for a silver bullet on the technology side.

Here I think the whole move to digitization, a digital world, is driving a strong ramp up here in demand. In a lot of cases the companies themselves don't have those skills within their company. Most of their skills are attached to the current foundation or legacy environment. So as I say, they are dealing with trying to bring those costs down and also come up with a human capital strategy not only to build and execute a strategy, but how to maintain it going forward, how much of that skill should reside within their company, and how much should reside with companies like ours?

So that's pretty broad-based, I would say around the world. Again, the financial institutions while they are leading that would tell you that very few of our segments are not talking about that. Government -- is also very active in government. They've got a lot of pressures. Not only the normal one for government, which is to manage their financials, but their citizens are becoming much more demanding in terms of service. They are now making comparisons with other transactions they do with banks and other services firms, and they see the inefficiencies and the opportunity for improvement in government as well.

So it's pretty broad-based. I think as well as that our IP 30 is starting to cut in as well. You can see that in some of the margins as well. I didn't call out specifically but it is helping our margins strengthen. So there's a number of factors like that, but pretty broad-based in terms of folks talking about digitization.

Also, cyber, it's a moving feast. It's all about coming up with one step ahead of the cyber attack or building greater defense internally. One of the areas that we're looking at, and you saw that we're very fortunate to bring on a new head of cyber security and globally with Stan Sims. And again, one of the areas that we're looking at is the ability to help our customers with insider threats.

I think it was Stan or somebody who said behind every cyber attack is a heartbeat, and some of the more pronounced cyber attacks have actually originated within the business, not externally. So those type of things are now being more institutionalized in our customers' business, and accordingly we're seeing the demand for our services.

And what about the competitive environment? A number of your competitors are going through some notable changes here. Has that created an opportunity? And how has that dynamic changed over the past 6 to 12 months?

Every time a competitor has to spend more time focused internally, it creates an opportunity for us to strengthen our relationships with our clients. And again, as I've said many times I never thought that one of my sales pitches would be when I shake hands with a customer is we'll still be around in 10 years to deliver on the promise that we're making today. Not a lot of competitors I think can say that with the same conviction that we do, and therefore that's also being recognized by companies.

And I think even when you look at the bake off for a global partner, when you're whittling down from hundreds of firms that is a criteria, to make sure that the guy you're going to dance with as one of your five or six partners is committed to the business and committed to the customer's business, be it a manufacturer, government, or a financial institution. We meet that criteria. We don't have anybody doubting our sincerity and our commitment to staying in the business and to continue to deliver value and positive outcomes for our clients.

Okay. And just one last quick one here, does the strength of the US dollar in any way soften your appetite for acquisitions here?

No. I think if you look -- when we bought IMRglobal the currency was pretty ugly, I think worse than what it is today. So I think it was, what, 1.45 or 1.51?

1.53.

1.53. I think, again, we always take a long term -- we're not into currency business. We're in the information technology business. So as long as it meets our criteria, we're prepared to move on it. If I look back at IMRglobal, had we been discouraged on the currency we would never have ended up with our Indian operation, which today continues to be a very strong component of our offering.

That's great. Thanks, Mike.

Thanks, Richard.

Thank you. The following question is from Jim Schneider of Goldman Sachs.

Good morning. Thanks for taking my question. Mike, earlier you commented that financial is an area where you're seeing increasing opportunities, yet at some point many of your competitors have talked about banks and financial institutions more broadly pulling back on discretionary spending. Can you maybe talk about what's different for you versus them? Is it the kind of work that you're engaging with? Is it the type of bank that you're engaging with, or anything else you can point out?

I think, Jim, I think what they may be trying to say is that if I go back to the kind of challenge that if we use the financial institutions are facing, is that the way their systems were built, they were built in silos. Their go-to-market approach today is much more integrated, or they are trying to get there but their back office systems do not support that. The second thing is a lot of them are not in real time. So you kind of got a simulation when the customer goes on with their mobile device the actual systems do not deliver at the speed or the security that the customers expect.

So -- and the second thing, in some cases you see when they say discretionary, cyber is no longer discretionary. So that's becoming a cost of doing business. The regulatory changes are not discretionary. So I think some of it is actually the terminology that they are using, what has become discretionary mandate -- mandatory has shifted.

On our side, as I said, our capability and our roots are very much on both sides of that opportunity or challenge. We are known as a company who can execute very, very well on an outsourcing contract, bring down the cost, increase the service, and manage the risk. On the other side, as I say, we are well positioned on the growth areas, digitization, agile development, and other levers like that. So this is a good spot for us. Not going to turn overnight, but I like the momentum that we're seeing in the market now. That really hasn't been there for probably the last five or six years.

That's helpful, thanks. Then maybe as a follow up, regarding head count, post the restructuring actions you've taken is this the trough quarter from head count? Should we expect head count to grind slowly upward from here? Then from a regional basis, where are the areas where you expect to add or shed a head count? Is it directionally up in the US, down in Europe, and up in the offshore locations? Or how should we think about that piece?

I'll try to give a bullet answer. In Central Europe of course you'll see the run off of the head count in South America and those countries that we're exiting. That would not be totally visible yet. We did a restructuring that's complete. That was also a downward pressure on head count. On the upside, when you see revenue growing in France, it's a time and material business, Jim. So the head count will fall back. In the United States and in Canada, as we ramp up the revenue, and we're working on that SI&C type of business, and we can turn a couple outsourcing deals, we end up bumping up the head count there. I would expect the Indian head count to go up as well.

So you've got those headwinds and tailwinds. Again, what we're very diligent on; a dropping head count with a solid revenue base means we're being more efficient and more productive in general terms. So we keep an eye on that. On the other hand, the head count growth, we want to make sure it's associated with the type of higher value work that I've been outlining for the last number of years and on the call today. So generally as we return to organic growth, we'll see both a push and a pull in there. Net/net, I would expect the head count to climb.

Thank you.

You're welcome.

Thanks, Jim.

Thank you. The following question is from Stephanie Price of CIBC. Please go ahead.

Good morning.

Hi, Stephanie.

You mentioned in your prepared remarks that the acquisition funnel is now about 5,000 companies. This is up obviously from the 85 companies that clients had identified. Can you talk a bit about what you're seeing in the acquisition environment and whether those initial 85 companies have now been fully vetted?

I think on the 85 we're whittling it down. We have -- we've actually done some face-to-face meetings, even some very preliminary due diligence on a number of targets, and we decided not to proceed based on further analysis.

We decided to expand the list, Stephanie, because when we started to look at this very closely, we wanted to target more to specific areas. So for example, the United States commercial, the UK commercial, any acquisition that would help us capture a bigger share of the ramp up going on in the financial institutions, as an example. So even though it's a larger pipeline, we're still using a rifle here in terms of trying to identify those targets that would actually move us forward in the most strategic areas.

It's a long process, though, I have to tell you, Stephanie. It takes as much time in some cases and effort to qualify a small transaction as it does a transformational one, especially if the company's private, it takes a little more work to take a look at the financials and really understand how they operate. It's a work in progress. We will pick up in the journey here some smaller niche acquisitions that are on strategy while we keep an eye out for something that would move the needle much more significantly. I don't have a view on that larger one quite yet.

Okay, great. And then you cited IP 30 as part of your organic growth trend here. A few quarters ago you mentioned a CAD10 billion sales funnel. You've talked a bit about financial services on cyber. But maybe you can give us an update on the areas that are seeing the fastest growth in that funnel?

In that funnel? I would say certainly we have a number. We mentioned the financials, I think the financial sector we have more. Also, utilities. As I mentioned before we had IP here post -- pre-Logica, but Logica has a lot of experience and IP in utility. As I mentioned, we are a major player in the smart metering in the UK. I think there's 70 million meters involved in that.

There are other opportunities around the world in that area, and we tend to want to pursue those. Also, the government ERP that we have, advantage and momentum are while for the most part they are in the United States, in the case of advantage we continue to look for opportunities to take that into another country. UK probably the most likely, just given that the market there in terms of big jurisdictions, outsourcing, their back room. So that could be a potential target.

So I think we have a growing portfolio there; probably a good time for me to plug the investor day. We will, as part of that have a demo center that you can actually see and interact with our people on our IP. And I invite you all to do that. I think frankly you'll be quite impressed with the sophistication and the depth of these solutions. They are mission critical, really business accelerators to our clients. So we're moving forward on that.

As I said, it takes more time in some geographies to institutionalize the reflex, to introduce this to customers. But our teams globally are very committed to this. They understand the value to the customer. They understand the value to their own businesses in terms of acquiring long-term revenue and relationships with customers around IP. So we still remain very optimistic around our opportunities and the ability to execute to our IP 30 strategy.

Great. Thank you.

Thanks, Stephanie.

Thank you. The following question is from Paul Treiber of RBC Capital Markets. Please go ahead.

Thanks very much. You previously mentioned that a question comes up if CGI is a global player. I was hoping you could speak to the thoughts on the gap that you have in the US commercial space relative to the other businesses? And then how much of a strategic priority either organically or through acquisition it is to close that gap?

So again, that's a good question and I've been very transparent about that. If you look at our US commercial business, it is growing, has been growing right through the upturn in the US economy. The issue is that if you look at our mix in the US, half of our CAD3 billion is coming from the US federal government. Again, our team's done frankly a very good job of weathering that storm. Margins and cash continue to do well and we've been able to hold on to the very strategic clients that we have in there. State and local is a little more volatile, but generally it's also very positive.

So the issue is we do not have enough commercial business in the US. I could also say it's the same in the UK. We've got a very strong franchise and team on the ground in the UK, but a lot of their work is the Logica legacy stuff coming out of government, which is good. And -- but they are now breaking in organically into financial institutions and in other sectors in the UK.

If you look at verticals, as I mentioned before with Logica we added a lot of depth on utilities as an example. In the United States, prior to buying AMS, they sold their utilities vertical to one of the Indian pure plays. So we have business there, mostly in IP with the big marquee utility companies in the United States. Now we're looking to grow into those accounts organically. But an acquisition in that place would accelerate our ability to really have an impact in the utility business.

So I think if I look at the two biggest areas where we feel an acquisition would be -- a transformational acquisition with the most impact, would be the United States commercial and UK commercial. Now -- so don't be surprised if you see an acquisition somewhere else because again, in other areas we are looking to increase our depth and capability, especially in the financial sector to gain bigger share of the opportunities that are there.

And directly related to the buy strategy, how do you see your footprint in the US? How does that relate to the potential attractiveness as a software IP acquisition, just in terms of the distribution in the US market?

I think, again, we have a metro model. So we're in a number of the larger centers, most the larger centers in the United States. Again, under our metro model, when we look at acquisitions, we're looking to strengthen some of the ones we have that we're already in, and we're also looking at the companies like CGI in the early days who have very strong global relationships, and in cities we're not in. And we would acquire them again with the mindset of accelerating growth, deepen our presence.

But also come to the point I think that you're making, we -- every time we broaden our footprint, we strengthen our ability to pull through IP. That's more probably prominent on the commercial side, on the government side. We're well covered where the decision-makers are at the state, local, and federal level. But in the commercial side, certainly where there's a headquarters in a geography we're not in, the goal would be to build out that area so that we meet the customer needs both locally and globally and are able to pull through our IP.

Thank you. I'll pass the line.

Thanks, Paul. Melanie, we're going to have time for one last question.

Certainly. The final question is from Paul Steep of Scotia Capital. Please go ahead.

Great, thanks. One quick clarification if you've got it, is just the overall software mix from proprietary revenues, if we could grab that if you have it? Second one would be on your willingness to do niche tuck-unders, Mike, what would be required in terms of core areas that would force you to put Management's time into smaller transactions? Obviously all your financial discipline is there, but I'm thinking what's the criteria that would drive you over the line to pick up a smaller deal? Thanks.

I think on the first one, and Lorne can validate it offline, I think we're about 18% of our revenue in that was coming from IP-based services and solutions. I always qualify that it's not an IP license alone. It includes the services and the outsourcing that it's wrapped in, which is the overall strategy.

To give you a good example of what I'm talking about in our niche, let's take a very large financial institution. We could be generating revenue, have a long-term relationship with a customer in an area like wealth management, while on the retail bank, in the same bank, we could have a very small or no position. When we acquire somebody who -- a company who has been working in the retail bank who have had 10-, 15-year relationship there, but have been capped by the customer in terms of the size of the deal, the volume of the work that they will give that company because of their size. So just common sense.

If a company is generating CAD10 million revenue a year and has 50 or 100 people or more, the bank's not about to award them CAD100 million deal. Wouldn't get by the risk management. And wouldn't necessarily be aligned with their own procurement rules. So acquiring somebody like that allows us to step up to those larger deals and pull through the deeper, more broader services that we have. That's a good example of what I'm talking about, Paul.

Perfect. Thanks, guys.

Thank you, Paul. Thank you, everyone, for joining us this morning. Look forward to Q2 results; that will be in April. Have a nice day. Hopefully you'll join our AGM in one hour at 11 AM. Thanks.

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