CGI Inc (GIB) 2016 Q3 法說會逐字稿

Good morning, ladies and gentlemen. Welcome to the CGI third-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.

Thank you, Wayne, and good morning. With me to discuss CGI's third-quarter fiscal 2016 results are Michael Roach, our Chief Executive Officer, and Francois Boulanger, Executive Vice President and CFO. This call is being broadcast on CGI.com and recorded live at 9 AM on Wednesday, July 27, 2016. Supplemental slides as well as the press release we issued earlier this morning are available for download along with our Q3 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. The 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 financial results in accordance with the International Financial Reporting Standards, or IFRS. 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.

I will turn it over to Francois first to review our Q3 performance and then Mike will comment on the strategic and operational highlights before we take your questions. With that, Francois?

Thank you, Lorne, and good morning, everyone. I am pleased to share our results for Q3 fiscal 2016. Revenue was CAD2.7 billion, up CAD108 million compared with the same period last year, representing growth of 4.2%. Foreign exchange fluctuations favorably impacted revenue by CAD93 million. On a constant currency basis, revenue growth was 0.6%. This is a significant improvement from minus 3.5% in the year-ago period.

During the quarter, we booked CAD2.9 billion in new contracts, 54% of which is new business. This brings global bookings for the last 12 months to CAD11.7 billion, or 110% of revenue.

Adjusted EBIT was CAD390 million, up CAD19 million while our EBIT margin increased to 14.6%. This reflects an improved revenue mix, the ongoing benefits from the restructuring program completed in Q1, and expanding the use of our global delivery centers.

Net earnings were CAD274 million, up 6.5% for a margin of 10.3%. Earnings per share of CAD0.89 compare favorably with CAD0.80 last year, an improvement of 11.3%.

Turning to cash, our operations generated CAD352 million in the third quarter. Cash from operations for the last 12 months is CAD1.4 billion, or 13% of revenue. We ended the quarter with a DSO of 45 days compared to 46 days last year.

During the quarter, we repaid CAD160 million of debt, leaving CAD1.9 billion in long-term debt with an average duration of over five years. Over the next 24 months, we only have one payment of CAD111 million to be made at the end of this calendar year.

Net debt stood at CAD1.6 billion at the end of Q3, an improvement of CAD278 million sequentially. Net debt to capitalization was 20.5%, down 220 basis points from the year-ago period. With access to more than CAD1.8 billion in liquidity, we continue to have the flexibility to fully execute our build-and-buy profitable growth strategy.

Now I'll turn the call over to Mike.

Thank you, Francois, and good morning, everyone. Our third-quarter results were strong with year-over-year improvements on all key indicators. We continue to gain momentum as higher quality revenue, combined with solid execution, is driving double-digit EPS expansion and now profitable growth.

Bookings were CAD2.9 billion, or 110% of revenue for both quarter three and over the last 12 months. As clients respond to the rapid digital pace of their industry, our pipelines and bookings continue expanding across all sectors, with the most significant opportunities in financial services.

The impact of high-quality bookings converting into profitable growth is evident in a number of our major geographies already and we are confident that this improved growth profile will spread across the operations over time. As evidence of this, in the quarter we grew by 1% on a constant currency basis and expanded adjusted EBIT by CAD19 million to CAD390 million for a margin of 14.6%.

Net earnings were CAD274 million, an improvement of 6.5%, while earnings per share of CAD0.89 were up 11.3% as we generated cash from operations of CAD352 million, bringing the trailing 12-month cash generation to CAD1.4 billion, or CAD4.40 per share.

Now I will briefly walk through the performance highlights of our operating entities. First, in the UK revenue grew by 11.4% at constant currency, driven by the strength in government and financial services. This marks the third consecutive quarter of growth as new bookings continue converting to higher-value revenue, resulting in an EBIT margin of 10.4%, up 180 basis points.

The trailing 12-month book-to-bill now stands at over 120%, with a backlog of CAD2.6 billion comprised of long-term higher-quality engagements. On Brexit, we are still in the early days, but we believe our proximity model, combined with a high base of quality recurring revenue, over 60%, better insulates us from any significant or rapid impact. We will continue to see the UK as a key strategic market for investments and acquisitions.

In the US, on a comparable basis, adjusting for a nonrecurring license sale last year, revenue was down by 4.5%. However, the revenue mix remains healthy, with an EBIT margin of 18.2%. The top-line pressure continues to come from CGI Federal, primarily in the defense business, but we are encouraged by strong defense book-to-bill of 124% in the quarter and we still have over CAD1 billion in submitted proposals awaiting award. The commercial sector in the US continues to show strength, up nearly 5% when adjusting for the previously mentioned license sale.

In France, revenue grew by 13.3%, marking the third consecutive quarter of profitable growth and accelerating growth. EBIT margin was 11.2%, up 190 basis points, further demonstrating the power of recurring quality revenue and better profitability. The French market as a whole remains robust. Our digital pipeline is expanding with opportunities in financial services, retail, and manufacturing all contributing to future growth.

Across the Nordics, revenue was down 2.5% but EBIT margin increased to 11.3%, up 270 basis points. As we continue to optimize the revenue mix in line with our overall growth strategy of focusing on transformational outsourcing, IP30 and the use of our delivery centers, profitability continues to improve.

In Eastern, Central and Southern Europe, revenue was down by 5.6% while EBIT margin was 7.1%, up 70 basis points. When adjusting for the wind-down of most South American operations and the divestiture of certain low-margin contracts in southern Europe, revenue was 3.5% lower across the segment. Despite three consecutive quarters of profitable organic growth in Germany, the resulting positive impact was more than offset by the ongoing industrywide challenges posed by the Dutch public sector.

Across Asia-Pacific, revenue grew organically by 13.1%, EBIT margin was 19.3%, up 340 basis points. Growth in this segment is in line with the increased utilization of global delivery by our business units as they improve their productivity and associated margin expansion. While these improvements can have an impact on the reported revenue of certain operations, it remains a significant growth lever for the Corporation as a whole.

In Canada, on a comparable basis, revenue grew by 2.3% when removing the positive adjustment resulting from an arbitration award last year and considering the increased volume of work being delivered from one or more of our global delivery centers. We continue to gain momentum across Canada, with growth opportunities in digital services and transformational outsourcing as evidenced by long-term, multi-million dollar contracts signed with SNC-Lavalin and Sears in the quarter.

As such, book-to-bill was very strong at 260% in the quarter and 160% for the trailing 12 months. The associated revenue will gradually come on stream in the remainder of this fiscal year and into our 2017 financial plan.

Aligned with our strategy, the Canadian pipeline continues to expand with significant opportunities across Western Canada, the banking sector, where double-digit growth is fueling momentum. Overall, the Canadian market is strong. Our pipeline is robust with positive growth and an optimal mix of long-term and high-quality revenue driving a best-in-class EBIT margin of 23%.

In summary, as digital becomes the primary channel of choice for customers, we are gaining traction with clients faced with an urgent need to reduce costs in order to make strategic investments in their core businesses. Through our transformational outsourcing offering, we are simplifying legacy systems and building a full end-to-end road map through our high-end consulting practices. The result for our clients is an accelerated digital transformation to a customer-centric globally connected and secure platform.

We are optimistic that our digital transformation expertise, expansive IP solutions portfolio, and global reach will continue to position us to win new high-quality business in the consumer-intensive industries. It is in this area where we are seeing the first wave of urgent transformation from legacy to native digital organizations, a trend that is expected to cascade across other industries over the coming years.

In closing, with the return to growth and momentum across all sectors and geographies, we remain committed to double-digit EPS expansion for the full year. Thank you for your continued interest and support. Let's go to the questions. Lorne?

Thank you. Just a reminder that a replay of the call will be available either via our website or by dialing 1-800-408-3053 and using the passcode 4293327 until August 27. As well, a podcast of this call will be available for download within a few hours. Follow-up questions can be directed to me at 514-841-3355. Wayne, if we could go over to questions, please?

(Operator Instructions) Steven Li, Raymond James.

Great. My two questions from me, first on the UK; it was really strong at 11% organic and then Brexit happened at the end of the quarter. Can you sustain organic growth in the UK going forward? What are the percentages in the UK?

We believe we can. We have a very strong backlog there. We have a strong pipeline, the book-to-bill is building. So we believe we can continue to grow organically in the UK.

On the Brexit, as I mentioned, it is very, very early days. It's certainly putting some uncertainty there. But if you look at business and government, there is very little that can be done here that does not require the use of information technology. The second thing, as I pointed out in my comments, we have a recurring revenue there approaching 65%, so we've got a very strong embedded base in long-term contracts and we are not expecting that to be impacted by this event.

So we are well-positioned there. We have got some good opportunities in the pipeline. The team is working very effectively.

Again, the opportunity for us in the UK to accelerate is to get something in the commercial side. As I mentioned, this certainly makes an acquisition given the price of the pound, even more attractive to us beyond the strategic reasons of hooking up on the commercial side.

Great. And then a question for the US. You highlighted the strong defense bookings. How about commercial and state and local? Any other pockets of strength that could turn the growth around in the US? Thank you.

Yes, I think for the most part the state and local were fairly stable there. I think the takeaway in the US is that like our peers, we are going in the commercial side. Our issue, as I said many times, we don't have a big enough footprint there hence the continuing drive to acquire something on the federal business.

The civilian is doing well. We still have the pressure in the defense side but having a book-to-bill now over 100% in there is a positive sign, probably one of the first ones we've seen in a while. Could be a possibility that some of those awards that are sitting in there would get released. That would help us pick up the growth rate there.

So that is kind of the story on the US. I think on the other side, the team has done a very good job of managing their costs and managing the mix. When you post 18% with the mix of assets we have down there, I think that's pretty close to best in class.

All right. Great. Thank you.

Thank you.

Thank you. Phil Huang, Barclays.

Hi. Thanks. Good morning. Solid set of results, certainly not seeing a whole lot of Brexit impact and it's early days, as you mentioned. Just continuing on that theme though, was wondering which segment do you think would be most vulnerable? Would it be fair to assume that if there was a potential impact to your business, you would see it more in the systems integration services segment?

Again, do not know if there is much value, Phillip, in speculating what-ifs here. I do not think we have seen something like this for a while in order to determine that. I would not necessarily say that. Again, it depends on what the next two years in the plan does.

On the flip side of this, there is a new government in the UK. There is a new prime minister, a new cabinet. They certainly would have mandates and programs they want to bring onstream to demonstrate their confidence in the economy. There is talk about the tax rate being lowered in the UK. If that does, that will stimulate activity in the country. Again, you have got Scotland which is a big area of opportunity and growth for us that seems very stable and very focused on their agenda.

I guess what I was saying, even it were to be the most vulnerable piece, the SI&C, if you look at our recurring backlog, most of it is long-term outsourcing deals. That is not likely to be impacted.

That's very helpful. I was wondering maybe if you could elaborate a bit on maybe some of the leading indicators that you guys are monitoring on any potential impact and how are they trending so far? Again, I know it's early days but just so we know what you're looking at so that we can also monitor those leading indicators as well.

Again, what we would be looking at is bookings, whether we have bookings moving to the right where people may hit the pause button for a while till they sort this out. On the other hand, we would also be looking at some of the public statements that various companies are making.

But you know, if you take the financial services as one example, the financial services industry globally has been really hit by a significant number of regulatory changes that have end dates, none of which are impacted, to my knowledge, by Brexit. These regulators have firm dates. Those changes have to be made and that requirement will continue.

You'll also have cyber and security generally. There is no pause in that. So some of the drivers of growth continue in the UK and globally, for that matter. It does not stop for this type of an event.

That is what we would look at. We would look at bookings, the volume. We would look at the pipeline of whether opportunities are moving to the right because people are being a little more cautious. But again, we have not seen any of that and I didn't expect to given the early days here.

Right. Very helpful. Last one for me. On the M&A side, obviously the currency is working in your favor in the UK but aside from FX, are you seeing improved valuations as well for some of these businesses, potential UK-based opportunities? Thanks.

Well, again, the currency is just one factor. As everybody knows, we have three general criteria, the right target, the right price, and the right time. The right time, similar to what we did in Logica, the currency was very favorable to the business case to acquire somebody.

But beyond that, we are still looking for the right fit that helps us expand our platform to grow organically and the target area again is the commercial side. We continue to look at candidates there, but it does take time. As you know, we are very cautious on our due diligence to make sure that we know what we are acquiring because I think most of you know that a thing worse than no acquisition is a bad acquisition that ends up distracting management and destroys value for shareholders and that is not what we are about.

So we'll take our time. We are in a financial position to pull the trigger. We have got a pipeline. We talk to a lot of people. But we do not have anything to announce today. But it is part of our plan here, our growth plan, to accelerate the buy side of the buy-and-build strategy.

That is great. Thank you so much.

Okay. Have a great day.

Robert Young, Canaccord Genuity.

Hi. Good morning. I was wondering if you could talk about the future in Canada related to margins now that you have added some pretty large new contracts. They're going to ramp up and I was wondering if you can talk about the product mix on those new contracts and what they might do to margins in Canada.

Thank you very much, Robert. It is a good chance for me just to put a little context around Canada because I think many of you that has covered us for the last number of years, there was a lot of questions whether the Canadian market was mature and whether there was any opportunities for growth. I think my position all along was that there was and that we would be very much in the leadership position in gathering in that growth.

Last year, we really focused, as you know, nailing down our long-term backlog there of very loyal customers, including Bell, National Bank and a number of very marquee customers in Canada. We put some things in place like splitting out a separate unit on banking in Toronto, all of which has positioned us well now. So there's quite a momentum building in Canada; got a very significant book-to-bill. As you mentioned, Robert, we have a number of outsourcing deals that are coming on stream.

The margins in Canada, I am not expecting any kind of a -- I'm certainly not expecting a long-term deterioration, if any. These contracts clearly come on at the front end with a requirement for more investment as we do transitions, these type of things.

But again, as I mentioned many times, one of the reasons we like 10-year deals and in the case of Lavalin, a 12-year deal, is that we have about three investment cycles there. You can invest in year one, make your changes and start to harvest by year three, and when you have a 12-year or 10-year deal, you can plan to do that three or four times over the deal.

There are more and more levers coming on in our industry, including automation, that allows us to maintain and grow our margin. I think net-net things are strong in Canada top line, good control on the bottom line, we have a good mix there. I am not expecting any kind of a material impact, certainly not in the long haul, maybe a bit of a button hook as we go through the early quarters of bringing on both Lavalin and Sears, but that is good news for us.

Okay. Then given those large deals signed in the quarter, is there any -- you said that the funnel is still very strong in Canada, but is there any reason to think we would get a bit of an air pocket here for the next couple quarters? Have you -- there is still lots of long-term strength and short-term strength?

An air pocket on the bookings or the revenue?

Bookings. Bookings.

Bookings. Bookings, as you know, they tend to move. Summer period, sometimes it's tough to get them going. But certainly in the financial institutions, I think you have read the paper saying, as I have, there is a lot of activity in there. We do not expect any slowdown in that area. But again, whether you will see a book-to-bill of 260% every quarter, it would be nice but we are not quite there yet.

Okay. Last one for me, just a quick one, just maybe just summarize your view on the NCIB in the near term here and then I'll pass the line.

Again, near term, long term, we feel the same way, that our investing in our own Company is a very good investment with a significant return to our shareholders over time. We watch the stock price carefully. We look at the opportunity to buy there. As you know, we bought a significant block already this year. We are committed to continuing to use stock buyback as one of the levers that we apply to our cash generation, which is very strong, as you can tell.

But again, just to reiterate, we invest back into the business, which is at the highest rate of return, and accretive acquisition, which is very possible given the very low cost of capital these days, and then pay down debt which, as Francois mentioned, we do not have any near-term debt requirements other than a small one in December. Again, we look at acquisition, share buyback as probably the two primary uses of cash beyond investing in the business.

Okay. Thanks a lot.

Thanks, Rob.

Thank you. Daniel Chan, TD Securities.

Hi, guys. Just wanted a little more clarity on the UK. You've had strong bookings of the last few quarters so can you tell me, can your existing contracts that you've been awarded, can they be delayed or are they contractually obligated to start and continue those programs?

The contracts that are signed, again, we are talking generally here, once they are signed, they start up very rapidly. If you take -- I think we booked CAD500 million in Scotland. That is not a short-term commitment. It is a long-term commitment to digitize numerous jurisdictions in Scotland, so we are not expecting something like that would be delayed. In fact, I think in a lot of these areas when you talk about digital, you would expect maybe an acceleration there in terms of bringing increased service value to their end customers and a better cost profile in their delivery costs.

Where we have a long-term contract and if the customer cancels for some reason, we do get all our unamortized value back, but we do not see that very often. It is normally something to do with a company restructuring or selling or merging or something along that line. But we are not seeing any of that.

Okay. Great. Then also, last time that there was a new government in the UK, prior to the new government coming in there was a slowdown in spending. With the changes in government in the UK now, do you expect this to happen again as the new government gets settled in?

Yes, so just to put that in some context, what happened there, which I think is a fair practice, when there is an election, what happens is both parties agree that they will freeze procurement until the new government comes in and then they can review those things that are about to be awarded. That is not what happened here. As you know, there has not been an election so it's been a change of party leader that resulted in a new prime minister, so we are not expecting and not seeing a similar situation.

Again, I think it is -- the context hopefully is helpful, it is around where there is actually an election and you run the risk of a new party coming in and not wanting to fully execute the mandate and the programs that are in flight so they freeze it and then they start it up after. But as I say, that is not the case we have now.

Thank you.

Thank you.

Thank you. Thanos Moschopoulos, BMO Capital Markets.

Hi, good morning. Mike, could you provide us with an update in terms of your IP business, in terms of the specific pockets of strength you are seeing there, whether you have any more recent data points as far as being able to cross sell some of that from the US into Europe and vice versa?

Yes. I think we continue to move up the percentage. We have put it a lot more discipline and process around our IP. We have even gone to the point by using our own database to identify all the customers we have in the various verticals like utilities and financials, and then try to do a push out into those individual customers so that we get our increased visibility of our IP not only with our own people but more importantly with the customer and that seems to be having some impact.

We have recorded one of our first sales in the Nordics of our Trade360 platform. Our collection platform seems to be getting traction in a number of the European jurisdictions. Just to remind you, we continue to sell what I would call native IP that is built for a specific country. This is very common, by the way, in the Nordics where there was a lot of IP developed for the individual markets. That IP continues to sell.

It is a big part of our overall plan. You're seeing it start to hit in the margin mixes here. Certainly evident in Canada, the US, to the UK, slowly starting in France and the Nordics. But we're certainly moving along there and we are using more of our own MIS and digital capabilities to attempt to increase our sales effectiveness by analyzing customer by customer and really bringing it much more aggressively to the business.

It is also being enabled by customers now looking to bring down their cost base, looking at SaaS, looking at if they have to make an investment do they really want to stand up CAD10 million, CAD15 million in capital to put something in their data center that we can operate as a SaaS. So we are getting some good tailwinds there to bring the whole business case in front of the customer.

Don't forget, the IP sales are primarily on the business side. It's not to the CIO. It's to the business side, who has a much more compelling case to invest in our offering given that they carry a P&L where the CIO is primarily a cost center.

That's great. As far as the Nordics and ECS, you highlighted some of the challenges there. How far away do you think you are from being able to return those regions to year-over-year growth and addressing some of those issues?

That is difficult to say. I'll get a better bead of that probably over the next six weeks as we build out the budget plans for next year. As I say, in ECS, you have to kind of pull out South America there. We've pretty well shut everything down now but Brazil. We had a few low-end body shop businesses I believe in Spain that we exited. Germany is now three quarters where they have grown.

So it is really the focus on the Netherlands and again, in fairness to the team in Netherlands on the commercial side, we continue to show growth. We have a number of large international accounts over there that are using offshore much more than they did the previous year so we are getting a bit of a squeeze on the top line there but we are protecting and in fact growing share for the long haul. I think in ECS, we are on the right path, but we are not quite there.

In the Nordics, there Sweden is actually -- I was up there couple weeks ago. The economy looks strong there. We have got a big footprint there. What we are doing there, and you see it a bit in the MD&A in a number of areas, we are churning the infrastructure business to ensure that the infrastructure business that we have is much more strategic to the customer, more in line with our mix change.

We have got two things going on there. We are opportunistic when we see an opportunity to run off some low margin business in a re-compete or an extension on the infrastructure side. And on the other side, we are trying to push up the value chain with the customers with digital and also with our IP and transformational outsourcing.

I think the Nordics is prime for more outsourcing and we have a focus in a number of areas up there on opportunities that could help us put ourselves in a better place there. These are clearly the two areas that have a heavy focus right now in addition to US Federal. But I can assure you we are on top of it and we are working very closely with the local teams there to move the needle in the right direction. I am confident we will get there. The timing is a little more uncertain here, but we'll have a better bead of it, as I say, as we build the 2017 plan.

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

Welcome.

Thank you. Jason Kupferberg, Jefferies.

Good morning, guys. It was obviously nice to see the constant currency growth turn positive here. Just wanted to get your thoughts on whether this metric can stay in positive territory over the next few quarters. You've obviously had the continued strength in bookings. I understand there are some moving parts across different regions. Are there any factors we should be aware of that could cause the growth to slip back to negative levels or are you pretty comfortable that we can stay in positive territory for now?

I do not see anything other than as you know, this is heavy vacation period so if the vacation pattern follows last year then we should be good. But it is not always certain that it will, so we probably have to see how much vacation was booked in this period because as you know, that does impact the top line. We obviously have less people billing. As you know, Jason, we have a lot of geographies now where literally the country shuts down for a month or so. But I do not see anything else that would derail us here.

But again, as you know, I never manage the Company by quarters because what we are try to do here, just to reiterate, we want to make sure that the growth, positive organic growth, to the extent possible, is coming in the areas that the customers value the most. Therefore, when you look at the mix of our revenue, it is something that would bring on more value to the customer, more value to the shareholder.

As I say, we are always pruning at the bottom, at the low-end business, and always adding to the top. They do not necessarily hit the same quarter, but as we've demonstrated over time, we did say that I think at the softest spot during the Logica acquisition, we had a minus 6% growth and we said we would gradually come back and we are on a path. Our intent is to stay on the path as we enter 2017. It is primarily the vacations, I would say, or some runoff opportunity that we do not have visibility on now.

Okay. I know you have mentioned a few times today on the call the increased use of the global delivery centers. Can you give us an update on what percent of your headcount is now sitting in those centers and maybe some sense of where you think that can go over time?

Well we are growing I think pretty close to 30% in India alone and as again, this is not unexpected because, as I mentioned before, is that much like we did in North America, as we integrated Logica, part of the drive there to increase margins was a planned use and deployment of our global delivery centers. Things like I mentioned before, if we are doing IP in a high-cost country with our members, we are not billing directly on a consulting mode to the customer, so we lose that opportunity for revenue growth. The cost then of building and maintaining the IP is much more expensive.

When you move that offshore, immediately the costs drop. The amount of capital you need to invest drops and you free up resources on the proximity level, where we can now build. That's gradually happening, so you're seeing the front end of that where the volumes are going up in India and also we are obviously embedding it in our transformational outsourcing deals. So that part is there.

Now what we are looking for the second kick here would be the redeployment and utilization of the people that we are freeing up that used to work on the IP. We are doing that gradually. We have done quite a bit of it all ready over the last year or so and you're seeing it in the margins, but there is still more to be done there.

The number of people in India, I think, is north of about 12,000. Again, just to give a call out, I think about 97% of our members in India are loyal shareholders and our turnover rate is very low. I think it is best in the industry and this helps us improve productivity.

It also gives us an opportunity to invest in automation there and not have to pull back on the number of people because on growth curve we have, the more we automate, it might slow down the curve but it won't slow down the growth over there. And that, I think, is in a better position than someone who might have 250,000 people where any automation will result in a fairly significant downdraft in headcount, which I am sure creates anxiety for the clients. And if it doesn't, it should.

Just the last question for me, I know the EU has just adopted this general data protection regulation and it is not going to be implemented until May of 2018, as far as we know, but just given your huge presence in Europe, do you have any initial thoughts on potential indications of this regulation for your business?

Let me say this, we have gone to school on this. It's a very serious piece of legislation that has to be implemented very carefully. We are very close to hiring a Chief Privacy Officer whose main focus will be to ensure that the Company has taken all the measures required to protect the privacy of our customers. So we are following it very, very closely and as I say, we will be well-positioned when that comes in.

It is also very linked to our whole security and cyber activity because the two in my mind are very connected and I do not think you can do one without the other. If you want to keep customer information private, you want to have a pretty robust strategy around cyber, so it fits nicely with our internal abilities and also our external offerings to the clients. It is a bit early, but as I say, our read of it, it is a very serious piece of legislation, piece of regulation and it could carry some significant penalties for corporations who don't follow that closely.

Okay. Well, thanks for all the thoughts.

Yes. Thank you.

Thank you. Jim Schneider, Goldman Sachs.

Good morning. Thanks for taking my question. Mike, I was wondering at a very broad macro level, setting aside all the Brexit concerns out there, when you talk to CIOs and your clients, broadly speaking, what's their general take on discretionary spending at this point? Is it still kind of steady as she goes or is that rolling over a little bit, understanding that you have a lot more exposure in outsourcing? Maybe give us a bead on where clients' heads are at right now.

Just to give you some context, as part of our strategic plan, we talked this year to 1,000 customers globally, 50% roughly on the business side -- so CEO, CFO -- and the balance on the technology side -- so CIOs and Senior VPs of systems, CTOs. What we take away from there is pretty universally they are saying look, the cost of running our current operation is going up and it is going up significantly. Some of industrywide drivers for that, Jim, are regulation, cyber, and in some cases an aging demographic within their IT shops.

The second thing we found is that 50% of the customers are using some form of external resources to do their IT. In some cases, there is some movement to have some of these people more embedded or close to the business side because it is the business people who are on the sharp end of the stick here on the pressure they are getting from consumers in terms of becoming more digital, more easy to use, 7/24 banking, all the type of things I am sure most of us experience every day when we're out there interfacing with businesses and governments.

What they're saying is we have to increase our investment in IT in order to continue meeting the requirements of the existing infrastructure. We also have to find investment to advance our digital plans.

This is where, again, our strategy on that is to say look, we can bring down your cost of your existing structure operations, your existing IT. We can remove a good part of that risk of where you were using freelancers who are probably not covered by a code of ethics, may not be as security minded as an employee of CGI. We can diminish that risk and we can then build a digital roadmap from your current environment to your future environment and because we know the current environment, we can move you over there at less risk than someone else.

The alternative the customers are looking at is what I call the old point-to-point purchase where somebody comes in and says I have the best in breed of this little piece of the puzzle. You should have it. But I would tell you that given the size of this transformation and the length it will take, customers appear to be a little more leery of that. We had one customer where he was asked directly that question and he said no, we tried the point-to-point and that is how I ended up with 2,500 systems that don't necessarily talk to each other.

So this is what we are hearing. A lot of pressure both to contain costs and a lot of pressure to find new funds to invest and again, our unique position of being an end-to-end player I think puts us in a real good spot here to explain to our clients that they can have both here, especially if they go with a transformational outsourcing deal.

That is helpful. Thanks. Then maybe as a follow-up, I think in the last call you talked about, given your emphasis on outsourcing and long-term deals, that your outsourcing component of your existing backlog is probably approaching 80% of what is in backlog. Can you maybe give us an update on where you think that can go directionally over the next couple years? Because it seems like the percentage of outsourcing in the new deals you have signed is doing nothing but going up.

Yes. I think, again, this is a bit of deja vu from the AMS days. Whenever we -- there was a time in this Company, I think we were about 70% recurring revenue, long-term contracts; bought AMS; dropped down, I think AMS was running about 5%. The US now is north of 50% and we are doing the same in Europe. The goal is to push us back up to north of 60%, 70%, would be ideal.

Of course, the IP30 helps with that as well, Jim, because we are signing long-term contracts there, SaaS contracts that span multiple years. As you saw in the deals we announced, one was a 10-year, one was a 12-year, and to me this is a recognition of the point I made earlier, that customers realize that they don't need to own and operate their existing IT environment. What they need is to bring the cost down so they can invest in the digital platform and this kind of approach is being well accepted. The goal over time is to bring that up.

It also helps us in the various business units because one of the challenges and one of the questions earlier of the path, the consistency of growth, is that where we have units that have 50%, 60% recurring revenue, of course the swing factor is only the difference. But where you have a business unit that only has 5% recurring revenue or 120 days of backlog, there you have much more volatility that could impact you in the short term. It has always been a part of our strategy, it continues to be part of our strategy, and it is in line with the customer demand.

Thank you.

You're welcome.

Thanks, Jim.

Thank you. Maher Yaghi, Desjardins Capital Markets.

Yes. Thank you for taking my question. Mike, I wanted to ask you also a question more big picture related to pricing environment in the market. I recognize every geography that you're in would have a very local pricing mechanisms. But when you look at it as a whole, how do you see the pricing in the marketplace taking place right now with digitization taking -- more and more clients that are choosing to go in that direction, having it as a growth platform? Do you see cannibalization also of other services taking place?

My third question is more related to market share. It is very hard to assess how you are doing compared to the general market. Some of these data don't come our very often but how do you see CGI doing in your important geographies like France, UK, US on the commercial side in terms of gaining market share?

That is either three questions or one question with three points. I will do the best with the time permitting to punch through them. On the pricing, on the macro level, I personally divide pricing into two areas, the commodity pricing, which is normally further away from the customer, so when work is moved offshore, these areas where the customer puts, frankly, a lower value on it, you end up facing much more of a commodity pricing strategy.

On the other end of the spectrum is the consulting, the work around digital, the work around IP, that is proximity-based. There the pricing is more value-based and of course as you know, in value is not only the price of the services, it is the quality and the risk. On that end, it is also impacted by supply and demand of skills.

So what you're seeing here I think across the industry is that those companies and businesses that may have a high mix of offshore here are probably feeling, and will continue to feel, pressure on the commodity pricing. But on the upper end of that, customers, as they drive towards transforming their businesses, will pay a price in line with the value that the supplier is delivering.

If you look at our proximity model, we have people, skilled people, professional people, in the various geographies in about 400 offices where we are located right where the decision-maker is, where the business is, where the discussion between the business analysts and the system analysts has to take place, we live there. We are not flying people in.

On the other hand, if you look at our offshore work, it is embedded in our overall strategy. It is not a strategy upon itself where they say we're going to chase bottom line or low end for the sake of gathering in revenue. I think on that score, that is how I see the pricing and I like that scenario for us for the reasons I have outlined.

On market share, I agree with you. That is very difficult to get a handle on. There is a lot of -- there aren't many companies that actually are comparing the same capabilities. I think in our case, as you know, we're an end-to-end player. We can do a full outsourcing deal, we can do IP, we can do consulting.

I think the measure that I look at is, more and more of our global customers are the process of consolidating vendors. I'm telling you in some cases they are going from hundreds down to five. I can't recall the last one where we did not make the five.

Again, I give very due recognition to our colleagues that joined us through Logica. It is a testimonial to their relationships in some companies that are in Europe that CGI, today, with the footprint that we have and offerings we have, we are making those shootouts and we are on those vendors of record and that allows us a platform to compete with our global competitors in a much more organized apple-to-apple fashion as opposed to smaller firms again who are in there niching to survive. The third question --

Third question is more digitization, offshore digitization contracts that you signed. Do you see that cannibalizing other services you have from those clients?

Honestly, I really don't. I think it is a transformation and it will take a long time. What you'll do -- and that is why, just to reiterate, our strategy is not only to operate their existing environment, build a road map, help them stand up the digital environment, but also to operate the digital environment. My whole point of view there is you don't want through all that transformation and just have replaced one fixed cost with another. You want to take the opportunity when you go to the digital world to the extent possible, turn that fixed cost into a variable cost, which then means that you're a lot more competitive than you would be if you just take your current environment, reduce the fixed cost there and build a new one with new fixed cost.

Thank you, Mike.

You're welcome.

Thanks, Maher. Wayne, we'll have time for one last question.

Paul Steep, Scotia Capital.

Great. Thanks. Mike or Francois, maybe you could talk just a little bit, in the UK, France, and Canada, obviously strong growth there. How should we think about the margin outlook with the ramp up in new digital transformation and new deals coming on?

Then the second part of that would be contract costs, we saw that marginally rise a little bit. Is there a trend there into these new deals that you are seeing a little bit more capital needing to go in or not at all? Thanks.

Just briefly, on the digital side, no, I do not think more capital is going in there. If you start on the digital road map, of course, you are selling consulting skills where the margins on average are better than the general business. The key there of course is the utilization rate.

On the contract costs, yes, we expected a ramp up of the contract costs as more managed services, outsourcing deals come on stream. But again, we have always looked at long-term managed services much like an acquisition. You make some investments here, you end up with a long-term contract, higher recurring revenue, at least three investment periods. So one should expect an investment go in there, to be reflected in the contract costs. But again, over time, you are building a significant component of the ideal mix that we seek and that we have in a number of our geographies.

Thank you.

Thanks, Paul. Thank you, everyone. We'll see you in November for our Q4 and year-end results.

All right. Have a great summer, everybody. Thanks for your support.

Thank you. That concludes today's conference call. Please disconnect your lines at this time and we thank you for your participation.