Telus Digital's Profit Plunge: Cost Pressures and Strategic Crossroads

The first quarter of 2025 brought a stark reality check for TELUS Digital, the cloud-based software division of TELUS Corporation (NYSE: TU). Adjusted net income plummeted 74% year-over-year to $17 million, a sharp decline from $65 million in Q1 2024. While revenue grew 2% to $670 million, this modest expansion was overshadowed by soaring expenses, vanishing one-time gains, and margin erosion. For investors, the question is whether this marks a temporary stumble—or a warning of deeper challenges.

The Cost Equation Gone Awry

The primary culprit behind TELUS Digital’s profit collapse is a surge in operational expenses. Salaries and benefits rose sharply as the workforce expanded 5% year-over-year to 78,424 employees, while share-based compensation more than doubled to $7 million. Goods and services costs also jumped $13 million, signaling higher spending on third-party services or materials. These pressures pushed adjusted EBITDA margins to 13.4%, a staggering drop from 23.3% a year earlier—a margin contraction that directly pinched net income.

The absence of a $29 million non-recurring gain from 2024’s business combination provisions further amplified the decline. CFO Gopi Chande acknowledged the “fluid macroeconomic backdrop,” but the data suggests more than just temporary headwinds. Structural costs, such as a workforce now 5% larger than before, are now baked into the company’s cost base.

Revenue Growth, But Not Enough

Revenue growth, while positive, was anemic. The 2% year-over-year rise to $670 million relied on gains from TELUS Corporation (its anchor client), a major social media partner, and new accounts. However, declines from tech and e-commerce clients, plus a 1% hit from a stronger U.S. dollar, capped top-line momentum. This highlights a critical imbalance: TELUS Digital is struggling to scale revenue fast enough to offset rising costs.

The company’s reliance on a handful of large clients remains a vulnerability. While management emphasized diversification efforts, the loss of even one major account could destabilize results.

The Balancing Act Ahead

TELUS Digital’s 2025 outlook offers a glimmer of hope, albeit a cautious one. The company reiterated its targets: ~2% revenue growth, $400 million in adjusted EBITDA, and $0.32 diluted EPS. To achieve this, it will need to accelerate efficiency programs, rein in discretionary spending, and drive top-line momentum.

Yet risks linger. The 5% year-over-year workforce increase suggests fixed costs will remain elevated, while macroeconomic uncertainty—particularly in client industries like tech and e-commerce—could further strain revenue.

A Crossroads for Investors

TELUS Digital’s Q1 stumble underscores a broader dilemma: Can its growth strategy survive rising costs and margin pressure, or is the division overextended? The path forward hinges on two factors:

1. Cost Discipline: Reducing operational expenses without sacrificing growth. The $13 million jump in goods/services costs and doubled share-based compensation are red flags.
2. Revenue Diversification: Reducing reliance on anchor clients and stabilizing tech/e-commerce revenue.

For now, the stock’s 12-month forward P/E of ~25 (vs. the S&P 500’s ~18) reflects optimism that TELUS Digital can rebound. But unless margins stabilize, this optimism may prove misplaced.

Conclusion: A Turnaround or a Trap?

TELUS Digital’s Q1 results are a wake-up call. With margins halved and net income decimated, the division is at a critical juncture. Management’s 2025 targets assume significant cost control and revenue resilience, but the path is fraught with risks like client concentration and macroeconomic headwinds.

Investors should weigh the 2% revenue growth against the 13.4% margin—a level that’s unsustainable if costs remain unchecked. If TELUS can’t reverse margin erosion, the stock’s premium valuation may face pressure. For now, the verdict is on hold: TELUS Digital is betting its future on cost cuts and diversification. The next few quarters will reveal whether this gamble pays off—or backfires.

Data as of Q1 2025. Risks include client concentration, margin pressure, and macroeconomic volatility.