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CGI was a key contractor on the error-laden rollout of the Obamacare website, but analysts are focused more on the tech company's European prospects. (JOE SKIPPER/REUTERS)
CGI was a key contractor on the error-laden rollout of the Obamacare website, but analysts are focused more on the tech company's European prospects. (JOE SKIPPER/REUTERS)

SOFTWARE

CGI Group’s ‘screaming buy’ allure Add to ...

There are few Canadian stocks like CGI Group Inc. – a homegrown large-cap tech company with a global focus, trading at a discount to its peers.

And yet, Canadian investors are still cautious about the company. They shouldn’t be, said Jason Donville, president of Donville Kent Asset Management, which has about an 8-per-cent weighting in CGI. “I think CGI is a screaming buy right here,” he said. “It has a lot of false risk priced into it right now.”

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The Montreal-based IT services company quietly enjoyed a near-uninterrupted, five-year stock run before it became embroiled in the botched launch of the Obamacare website last October. As a key contractor on the error-laden rollout of healthcare.gov, CGI suffered a blow to its reputation and earned a rebuke from famous short-seller Jim Chanos, who took a position against the company.

The stock has lagged ever since, trading about 15 per cent lower than its November record high of $40.72. But while the PR mess wasn’t pretty, it had little bearing on CGI’s revenues. Since announcing a transformative acquisition in May, 2012, Europe arguably has become the more important market for CGI than the United States.

The $2.7-billion acquisition of Britain-based Logica PLC landed CGI in a different league, doubling its size and heavily exposing its revenues to the European market.

Many questioned the wisdom of betting on a continent still shaking from the sovereign debt crisis.

“There are very different views for what the outlook for Europe is,” said Paul Taylor, chief investment officer of fundamental equities at BMO Asset Management, which holds CGI shares. “We think Europe is where the U.S. was three years ago.”

Now, CGI is making progress on the European front. For the last two quarters, CGI’s ratio of bookings to billings was greater than one, an indication that demand is exceeding supply. “Book-to-bill” is a closely watched metric in the tech sector.

“Strong bookings in Europe bode well and with strong cash flows expected through the rest of the year … we recommend taking advantage of recent price weakness to accumulate stock,” Raymond James analyst Steven Li said in recent note. Mr. Li reaffirmed his “outperform” rating and $44 share price target.

Sell-side analysts skew heavily to the bullish side on CGI, with 16 out of 20 recommending a “buy” at an average price target of $43.15, representing a 23-per-cent premium over Thursday’s closing price of $35.

But even those estimates understate CGI’s growth and ignore the company’s propensity to expand by acquisition, Mr. Donville said. “Most analysts are reluctant to put anything into the projections in terms of growth from acquisitions, even though they know there’s a high probability.”

Acquisitions are a requirement for growth in the IT business, where customers tend not to switch providers and where buying a $50-million company might be cheaper than trying to poach $50-million worth of business, he said.

After considering potential future acquisitions, Mr. Donville is confident in CGI’s ability to generate a return on equity of at least 15 per cent per year.

And investors can buy into that growth on the cheap, he said. CGI stock is currently trading at about 8.9 times estimated 2015 cash flow. “And this is an expensive market. There’s a lot of stuff out there trading in the 20s.”

The discount on the stock is largely explained by CGI’s association with the healthcare.gov debacle, Mr. Taylor said. “People don’t view it as a growth story, they view it as a stumbling IT services provider.”

But that stain will fade, said Brian Acker, president and CEO of Acker Finley, which topped up its position in CGI in January. Canadian investors should turn their attention to what is now the country’s largest tech company, which happens to be trading at a compelling discount, Mr. Acker said.

“The market will recognize that over time. When good companies have a correction like that, that’s your opportunity.”

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