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Capita drops 2% on growth worries

Discussion in 'Market News' started by Lily, Mar 22, 2016.

  1. Lily

    Lily Forum Member

    Aug 29, 2015
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    Analysts at Stifel issue sell note highlighting outlook concerns

    Capita is one of the leading fallers in the FTSE 100, down more than 2% on concerns about the outlook for the outsourcing group and suggestions it may need to raise cash.

    Its shares are down 23p to £10.24, a near two week low, as analysts at Stifel downgraded their recommendation from hold to sell with a 933p price target. Stifel’s Caroline de La Soujeole said there were “too many question marks to keep us on the fence.” She said:

    We conclude that Capita has lost some of its sparkle, highlighting some concerns over organic growth potential and M&A strategy. Despite recent share price falls, we think the share price is still too high for the value being created. We believe low organic growth, a reliance on M&A to meet growth targets, range-bound margins (post business disposals) and limited return on capital employed upside should translate to a lower valuation.

    Visibility is much reduced with flow through the bid pipeline slowing and framework agreements becoming more important. The transactional businesses are going slowly. Guidance is for organic growth of “at least 4%” in 2016 but on our estimate only 1.2% net organic growth has been booked so far and, with a bid pipeline geared to the second half, we think there are some risks to estimates.

    Capita is a business built by acquisition. It has made 140 deals over the past 10 years. This has increased diversification but at the same time it has made the company increasingly opaque. Also, the strategy is shifting, raising the group’s overall risk profile. In our view the acquisition programme has not demonstrably created long-term value despite a 15% post tax return on capital employed being targeted. Disposals have stepped up in recent years, including some recently acquired businesses. In aggregate, over the past three years, the overall losses on disposals have been £126m...

    We are concerned that with pressures on organic growth Capita is starting to stray from [its] well trodden path [of small UK purchases], possibly making acquisitions to meet investors’ overall growth expectations to the detriment of returns. We also question whether management oversight is being stretched given an increasingly diversified and complex group with fingers in many pies.

    ...Sustained high levels of acquisition spend have taken leverage to levels at which we believe an equity issue could be considered. One off costs are a relatively new but persistent feature, rising from 0% of sales in 2010 to 39% in 2015 with disposals and impairment impacting.

    There is more portfolio reshuffling planned for 2016 which will lead to more exceptional charges. Group return on capital employed has declined by 550 basis points since 2009 and we think the upside potential looks limited, particularly if organic growth remains below par.

    Valuation reflects past successes, not future challenges, in our view. We see no reason to hold the shares... Concerns over the sustainability of growth and value creation are not new, periodically resurfacing, but based on our analysis we do not expect these concerns to allay any time soon.

    Any speculation around widespread activity is incorrect. We delivered good financial results in 2015, including 4% organic revenue growth. In 2016, we are targeting organic revenue growth of at least 4%, driven by the combination of growth from our divisional businesses and conversion of our bid pipeline. As you would expect of a business which employs 75,000 people, we regularly review resource requirements to make the business more efficient.

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