Leadership Shakeup And AI Investment Promise Growth Amid Earnings Pressure And Market Challenges

Key Takeaways

• Leadership changes aim to boost operational margins through enhanced customer service and efficiency, while strategic investments in AI aim to open new revenue streams.
  
• Focus on corporate development and strategic reinvestment into AI and digital innovation is set to enhance revenue, expand market share, and improve earnings.
  
• Leadership changes and macroeconomic challenges could risk strategic execution and growth, alongside pressures from high attrition and the need for AI investments.

Catalysts

TELUS International (Cda) Inc. design, builds, and delivers digital solutions for customer experience (CX) in the Asia-Pacific, the Central America, Europe, Africa, North America, and internationally.

• Succession planning and leadership changes are anticipated to introduce fresh perspectives and strategic approaches, with Jason McDonell's history of driving customer service excellence and cost efficiencies likely boosting operational margins and reducing costs.
  
• TELUS Digital’s focused investment in Generative AI (GenAI) and AI modeling, leveraged by Tobias Dengel’s expertise, is expected to enhance the company's offerings, leading to new revenue streams and improving net margins through advanced technology adoption.
  
• Executive Vice Chair Jeff Puritt’s focus on corporate development activities, especially mergers and acquisitions, could facilitate strategic growth opportunities, enhancing revenue and expanding market share.
  
• The company’s consistent effort to generate strong cash flows is positioned to support reinvestment into high-growth areas like AI and digital innovation, potentially improving earnings through strategic allocation of capital.
  
• The established partnership with TELUS for testing AI use cases in regulated industries provides a unique competitive advantage, enabling the development of scalable and trustable AI solutions that could accelerate client adoption and contribute significantly to future revenue growth.

Assumptions

• Analysts are assuming TELUS International (Cda)'s revenue will grow by 2.5% annually over the next 3 years.
• Analysts assume that profit margins will shrink from 2.7% today to 0.8% in 3 years time.
• Analysts expect earnings to reach $24.2 million (and earnings per share of $0.12) by about September 2027, down from $72.0 million today. However, there is a considerable amount of disagreement amongst the analysts with the most bullish expecting $101.7 million in earnings, and the most bearish expecting $15 million.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 68.6x on those 2027 earnings, up from 14.5x today. This future PE is greater than the current PE for the US Professional Services industry at 28.3x.
• Analysts expect the number of shares outstanding to grow by 0.6% per year for the next 3 years.
• To value all of this in today's dollars, we will use a discount rate of 8.8%, as per the Simply Wall St company report.

Risks

• The impending leadership changes, including the retirement of Jeff Puritt, President and CEO, might introduce risks related to strategic continuity and execution, potentially affecting near-term business performance and strategic initiatives, which could impact revenue growth and market position.
  
• The macroeconomic challenges and operating environment that have pressured the business, as mentioned in the call, may continue to pose risks to achieving growth targets, potentially affecting revenue and margins due to reduced client spending and competitive pricing pressures.
  
• Elevated attrition levels and higher salary and wages driven by fierce competition for talent could increase operational costs, thereby compressing margins or necessitating increased investment in training and hiring, affecting net margins.
  
• The reliance on and expectations from the performance of the Willow Tree arm and the new leaders stepping into their roles to drive profitable growth could pose risks if the anticipated material profitable growth does not materialize as expected or if the integration and expansion efforts face unforeseen challenges, impacting earnings.
  
• The competitive dynamics in the AI space and the need to transition more towards a technology-centric, specifically AI-fueled business model, necessitate significant investments. If these investments do not yield the expected return due to execution challenges or faster-than-anticipated changes in technology, this could affect the company's ability to improve or maintain its profitability and earnings.

Valuation

• The analysts have a consensus price target of $4.6 for TELUS International (Cda) based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $7.5, and the most bearish reporting a price target of just $3.0.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2027, revenues will be $2.9 billion, earnings will come to $24.2 million, and it would be trading on a PE ratio of 68.6x, assuming you use a discount rate of 8.8%.
• Given the current share price of $3.79, the analyst's price target of $4.6 is 17.5% higher. Despite analysts expecting the underlying buisness to decline, they seem to believe it's more valuable than what the market thinks.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.