Fast on the broken heels, another United Kingdom. The company’s in trouble. The outsourcing giant Capita Group Plc reported on Wednesday, January 31, 2018, that shocks would be produced, dividend payments would be suspended indefinitely, and that preparation was revealed for a GBP 700 million problem. The Carillion share price dropped quickly in the canyon and declined 47.53% during the day.
Indeed, the preliminary findings of a 26% drop in profits reported and a 3% decreased in underlying revenue indicated a warning of trouble ahead in September 2017. This was not a good sign–and investors understood this for a firm whose business model depends on strong cash flow. While the group paid a provisional dividend, the share price fell sharply. In reality, in September 2017 there was an alert that the preliminary results indicated a drop of 26 percent in announced earnings and a decrease of 3 percent in underlying sales. It was not a good sign–or market knowledge–of an organization whose whole business model depends on strong cash flow. The company paid an interim dividend, but the share price dropped dramatically on the news:
So maybe January’s update on income wasn’t really the shock it seemed. Thanks to the planned rights problem the sharp fall in the share price might just be market prices for investor dilution. Nevertheless, it is no accident to Carillion’s proximity. The fate of Carillion has pressured Capita to do something about the growing vulnerability of the group.
The business model of Capita is close to Carillion’s in many ways. It is an asset-light business with a great deal on its balance sheet in financial goodwill, illustrating its aggressive growth plan guided by acquisition. The cash value of the company’s property is the extra price paid to buy over and above the book value. The future value of the transaction for the acquiring company could be determined. Capita is also a service company, implying money, not only the sovereign but the emperor. The value of the company depends completely on its ability to obtain long-term contracts of products that generate stable profit streams at a reasonable cost margin.
Cash Flows of Capita
If net cash flows are down, whether because of the failure to secure enough deals or the loss in earnings, goodwill can evaporate, leaving an enormous debt pile of resources that do not support it. Carillion’s this has arisen and its lenders are losing virtually everything. Capita’s leadership will not have underestimated the pace at which Carillion’s income plummeted and his reputation evaporated. As the saying is, “We are going there for the grace of God.”
God’s mercy takes the form of hard cash in this situation. Capita’s balance sheet holds over £ 1 billion, much more than Carillion did at the time of its bankruptcy. So Capita has no costly high-cost building projects that drain it out. In the near future, it won’t run out of money. Yet Capita is hemorrhaging money, nonetheless. The preliminary figures predicted a net cash outflow in 2017, and since then significant deals have been broken. The fast loss of cash reserves if outflows surpass accumulation is unbelievable.
And it’s very owed. At present, the net debt is almost £ 1.6 billion, relative with £ 6.18 billion in assets, largely immaterial. Capita paid for its debt service more than £ 33 million last year. If it was going into a downward spiral like Carillion, it would pay much more. And for a non-financial enterprise, its equity slice is only 8%, very low. This isn’t a shield that much.
It is therefore prudent to cancel the dividend and raise capital assets. Capita must get rid of it. And now, before it falls into further difficulty, it has to do that. It’s too late if revenue is collapsing as Carillion did.
The immediate question is if the deleveraging plan for Capita will function. There are three main aspects: the question of rights: the sum is not stated, but in the next two years the company says it has “standby underwriting” of £ 700 million for disposals of assets:
The company says cost savings are’ reduced overall and administrative expenditure, more procurement is centralized, our procedures and systems are standardized and invested and offshoring and automation are increased.’ It is clearly in the benefit of investors to support this initiative amid the dilution: the only way we get to get it back in place is to support the Management’s restructurings initiatives as its distributions have been suspended indefinitely.
Yet disposition of property is not always easy. They can take a lot longer than management thinks and raise much less money, and they can sometimes not happen at all. Cost savings in a service provider can also become a chimera when the product falls, consumers become frustrated or deals are missing out as a consequence of cost-cutting. The cost savings suggested include job losses and could also lead to political manipulation, for instance, which is actually not common.
Capita is a major contractor in public service and in some areas already has a bad reputation. This needs to tread extremely carefully with every plan of cost reduction amid today’s febrile political climate.
The deleveraging scheme thus seems to me to be strong. The Company says, though, they are also planning to invest in “money, marketing and the process of transition.”
Okay, preparation would be great, and some potential professional recruits would likely be used. But sales investment? Bad. This comment reveals inadvertently the central flaw of Capita. It depends heavily on winning contracts–and contracting may be harder to conclude after today’s profit warning. The Kingdom Already after its threat to the earnings in June 2017, state, one of Capital’s biggest customers, was accused of having fed Carillion to boost its cash flow. The same approach for Capita would be strategically unwise. And consumers in the private sector could see an undertaking troubled deleveraging as a bad risk for critical service contracts after a profit warning. To retain the effective offer level of the previous year, Capita’s sales team also must use all its powers of persuasion. It is no secret that the business would like to grow in revenue.