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Capita: What does the company actually do? And is it another Carillion in the making? Capita: What does the company actually do? And is it another Carillion in the making?
(35 minutes later)
The private contractor Capita on Wednesday issued a profits warning, cancelled its dividend and said it would request more funds from investors. The contractor Capita on Wednesday issued a profits warning, cancelled its dividend and said it would request £700m in extra funds from investors.
The share price plunged by more than 40 per cent in response.The share price plunged by more than 40 per cent in response.
The news follows the traumatic collapse into liquidation of another outsourcer, Carillion, earlier this month. The news follows the traumatic collapse into liquidation of another big outsourcing firm, Carillion, earlier this month.
So what does Capita actually do? Can it be turned around? So what does Capita actually do? Can its fortunes be turned around? Or is it another Carillion in the making?
Or is it another Carillion in the making? And should we brace for other outsourcing firms to follow it into trouble? And should we brace for other outsourcing firms to follow it into trouble?
What does Capita do?What does Capita do?
Like Carillion it’s a large provider of outsourced services to the public sector. Like Carillion, it’s a large provider of outsourced services to the public sector.
But whereas Carillion’s specialism was the “blue collar” construction and maintenance of buildings, Capita’s focus is “white collar” back office IT projects and administration.But whereas Carillion’s specialism was the “blue collar” construction and maintenance of buildings, Capita’s focus is “white collar” back office IT projects and administration.
Two of its most high-profile contracts are collecting the BBC licence fee and running the London Congestion Charge. It also looks after the NHS’s administration services. Two of its most high-profile contracts are collecting the BBC licence fee from households and running the London Congestion Charge. It also looks after the NHS’s administration services.
Work by the research group Tussell suggests that the firm won contracts from 226 different public sector buyers over the last two years alone, with around half of these coming from local governments.Work by the research group Tussell suggests that the firm won contracts from 226 different public sector buyers over the last two years alone, with around half of these coming from local governments.
Capita secured more than twice as many contracts as its next biggest rival Mitie over that period, emphasising the degree to which the public sector depends on the firm. Capita secured more than twice as many contracts as its next biggest rival, Mitie, over that period, emphasising the degree to which the public sector depends on the firm.
So it only does public sector work?So it only does public sector work?
No. The 2016 annual report said 53 per cent of Capita’s revenue came from the private sector. This includes technological jobs for pension funds, retailers and telecoms companies. No. The 2016 annual report said 53 per cent of Capita’s revenue came from the private sector. This includes work for pension funds, retailers and telecoms companies.
The company employs around 73,000 people, three quarters of them in the UK, and the rest in Europe, India and South Africa.The company employs around 73,000 people, three quarters of them in the UK, and the rest in Europe, India and South Africa.
In the six months to June 2017 Capita reported total revenues of £2.1bn, roughly the same as the year earlier. However, reported profits were only £28m, down 26 per cent on a year earlier. Free cash flow fell 9 per cent to £182m.In the six months to June 2017 Capita reported total revenues of £2.1bn, roughly the same as the year earlier. However, reported profits were only £28m, down 26 per cent on a year earlier. Free cash flow fell 9 per cent to £182m.
Weakening results and profit warnings had forced the departure of previous chief executive of three years, Andy Parker, in March last year.Weakening results and profit warnings had forced the departure of previous chief executive of three years, Andy Parker, in March last year.
The Capita share price peaked at £13 in July 2015. On Wednesday it was trading at just £2. That has taken the market capitalisation of the firm from above £8.6bn to just £1.3bn.The Capita share price peaked at £13 in July 2015. On Wednesday it was trading at just £2. That has taken the market capitalisation of the firm from above £8.6bn to just £1.3bn.
What’s the latest thing that’s gone wrong?What’s the latest thing that’s gone wrong?
In its announcement to the stock market on Tuesday the new chief executive, Jonathan Lewis, did not hold back.In its announcement to the stock market on Tuesday the new chief executive, Jonathan Lewis, did not hold back.
He said Capita was spread over too many markets, had underinvested and that there had been “too much emphasis on acquisitions to drive growth”.He said Capita was spread over too many markets, had underinvested and that there had been “too much emphasis on acquisitions to drive growth”.
There had been a slowdown in contract renewals and costs incurred from poor delivery of some of its work. He also mentioned a slowdown in contract renewals and costs incurred from poor delivery of some of its work.
“Capita is too complex, it is driven by a short-term focus and lacks operational discipline and financial flexibility,” was Mr Lewis’ brutal conclusion. “Capita is too complex, it is driven by a short-term focus and lacks operational discipline and financial flexibility,” was Mr Lewis’ unsparing conclusion.
Mr Lewis also added that company still had too much debt, at £1.15bn, and that this needed to be reduced by selling assets. On top of this, Mr Lewis said the firm still had too much debt, at £1.15bn, and that this urgently needed to be brought down through selling assets.
“Not exactly solid foundations,” responded Mike van Dulken, head of Research at Accendo Markets.“Not exactly solid foundations,” responded Mike van Dulken, head of Research at Accendo Markets.
Other analysts and traders were similarly spooked, hence the massive share price sell off. Other analysts and traders were similarly spooked (especially with the Carillion experience fresh in their mind)  hence the brutal share price sell off.
So is Capita the new Carillion?So is Capita the new Carillion?
Some City analysts welcomed the “kitchen sinking” action by Mr Lewis to shore up Capita’s balance sheet, suggesting that it this is what Carillion ought to have done much earlier.  Some City of London analysts welcomed the drastic action by Mr Lewis to shore up Capita’s balance sheet, saying this is this kind of “kitchen sinking” that Carillion ought to have done. 
Some highlighted that that Capita’s cash reserves are around £1.2bn, which should in theory give it leeway to get its house in order. Carillion ultimately failed because its banks refused to extend their loans to the firm. Some highlighted that Capita’s cash reserves are around £1.2bn, which should, in theory, give it leeway to get its house in order. Carillion ultimately failed because its banks refused to extend their loans to the firm.
Yet though Capita’s cash position is stronger than the £390m that Carillion was reporting in its most recent reports it was not lost on investors that Carillion burned through that cash extraordinarily rapidly, so that it had just £29m in the bank by the time it finally collapsed into liquidation. Yet though Capita’s cash position is stronger than the £390m that Carillion was reporting in its most recent report it was not lost on investors that Carillion burned through that cash extraordinarily rapidly, so that it had just £29m in the bank by the time it finally sank into liquidation.
The deficit in Capita’s defined benefit pension scheme is also apparently smaller than Carillion’s. Mr Lewis told the stock market that the deficit was expected to be “significantly below” the £381m reported last June (versus Carillion’s £600m) and that the firm would pump in a further £21m this year. The deficit in Capita’s defined benefit pension scheme is also apparently smaller than Carillion’s. Mr Lewis told the stock market that the deficit was expected to be “significantly below” the £381m reported last June (versus Carillion’s roughly £600m shortfall) and that the firm would pump a further £21m into the scheme this year.
“Capita still faces significant challenges in its core UK market on contract pricing and with continuing hiatus in public sector services, in our opinion,” said Robin Speakman of the stockbroker Shore Capital. But the reference by Mr Lewis to acquisitions being used to drive growth at Capita and the slowdown in contract renewals is ominous because that appears to be the story of Carillion’s downfall.
The reference by Mr Lewis on acquisitions being used to drive growth at Capita and the slowdown in contract renewal is especially ominous because that appears to be the story of Carillion’s downfall. Michael Donnelly of the stockbroker Panmure Gordon, who has been warning about the fragility of Capita for two years, estimates that £469m of its public sector contracts are up for retender this year.
If it cannot hold on to those contracts, and the revenues from them, it will be in serious trouble.
Could other outsourcing companies be in trouble too?Could other outsourcing companies be in trouble too?
Some of the big players in the outsourcing sector are certainly under similar pressure in the stock markets.Some of the big players in the outsourcing sector are certainly under similar pressure in the stock markets.
The share price of Serco is down 30 per cent over the past three years. Mitie is down 36 per cent over that time. Interserve is down 81 per cent. Both fell further on Wednesday.The share price of Serco is down 30 per cent over the past three years. Mitie is down 36 per cent over that time. Interserve is down 81 per cent. Both fell further on Wednesday.
However, others are doing better. G4S is flat per cent since late 2014, Sodexo is 27 per cent higher and ISS up 33 per cent. Analysts say these firms have been underbidding for public sector contracts in recent years, effectively overstretching themselves financially to win new work.
The broad point about outsourcing firms like Capita is that it is inherently difficult – perhaps impossible - for outsiders to estimate their value accurately since their worth is largely based on complex and opaque contracts for the future delivery of services. However, other outsourcers are doing better in the stock market. G4S’s share price is flat late 2014, Sodexo is 27 per cent higher and ISS up 33 per cent.
If managements are excessively aggressive in their valuations of these contracts it’s not simple for outsiders to identify that hubris. The broad point about outsourcing firms like Capita is that it is inherently difficult for outsiders to estimate their value accurately since their worth is largely based on complex and opaque contracts for the future delivery of services.
In response to the Carillion debacle and the latest crisis for Capita, Labour is pressing for the law to be changed to make public sector contractors subject to Freedom of Information laws. If managements are overly aggressive in their valuations of these contracts and the amount of profit they expect to make from them it’s not simple for outsiders to identify that hubris.
One benefit of this greater transparency might be that it might be easier for outsiders to see what is going on in these firms, upon which the public sector is heavily reliant. The National Audit Office argued in 2013 that there ought to be more public transparency over the sector’s books given the public sector’s inordinate reliance on them.
In response to the Carillion debacle and the latest crisis for Capita, Labour is pressing for the law to be changed to make private contractors subject to Freedom of Information laws.