Capita is a consulting, transformation and digital services business listed on the premium segment of the London Stock Exchange. The company is a constituent of the FTSE All Share index and has a market capitalisation of approximately £500m.
Full year results to 31st December were published on 2nd March 2023 and we were delighted to have Helen Parris, Director of Investor Relations, and Stephanie Little, Investor Relations Manager, present the FY22 results and talk about the company’s prospects. A recording of the webinar is available here.
For those new to the story, Capita is a much simplified business now with just two core divisions (down from 10) in Public Service and Experience. Both enjoy strong market positions. The public service division is the no.1 supplier of software and IT services to the UK Government and the Experience division is the largest player in the UK customer experience market and is the no.5 player in Germany and Europe. The group employs 50,000 employees across 4 countries. The markets Capita operates in are large and have the potential to grow at c5% per annum. Digital expertise is helping the company manage the transition from Business Process Outsourcing (BPO) to Business Process Services (BPS). Another of the big changes under the leadership of CEO Jon Lewis is the transformation of the balance sheet to one which has seen net financial debt reduced to £84.9m at the end of December 2022 with Net debt/EBITDA at 0.5x.
Capita’s Public Service division serves the UK government in a number of niche areas and touches the lives of a large proportion of the population. By way of a few examples, it manages the ULEZ for Transport for London, recruits officers and soldiers for the British Army, manages the collection of council tax for a number of authorities and helps 50k students access the Disabled Students Allowance every year.
Capita’s Customer Experience division works across the Telecoms, Media & Technology, Financial Services, Retail and Energy & Utility sectors in the main and again delivers services to a large number of individuals. Within Telecoms they manage the customer care on behalf of one of the UK’s leading telecoms providers and with the financial services division they manage one of the largest pension businesses in the UK. They also manage a legacy closed book life and pension business which has proven to be a drag on profitability.
The FY22 results recently reported showed the company had returned to growth, profitability and that the strategy was beginning to deliver. Growth momentum accelerated in the second half of FY22 reaching 4% and Capita is winning new customers as well as retaining their existing ones and generating more revenues from them. A key part of this is improving the experience for their customers. Profitability has been improved through the combination of growth, product mix and cost savings. The pension deficit has also been reduced.
The transformation program started in 2018 and the company reached the stabilisation phase in 2022. Ten divisions have been reduced to two core divisions and there have been improvements in contract profitability and bidding discipline. Going into 2023 Capita is entering the acceleration phase. The company plans to improve the new client win rate, improve sales incentives and processes, reduce the costs of staff attrition, continue to simplify the business and invest in digital solutions. Capita is moving onto the front foot in its journey to sustainable financial performance and confidence is growing.
Part of the transition of Capita can also be seen in the company demonstrating a purpose led business. The company has adopted a number of social value commitments, is a Real Living Wage payer in the UK and has gained the Fair Tax Mark accreditation. Improvements have been delivered on the employee net promoter score which has increased by 15 points but with attrition rates still too high the company recognises that more needs to be done. Work is ongoing in this area and the benefits are beginning to materialise. The hybrid working from home model is proving popular and should continue to have a positive impact.
Looking in more detail at the company financials, 2022 saw a significant turnaround in financial performance. Revenues grew 2% to £2,846m, the operating loss in 2021 was improved to an operating profit of £103m and EBITDA improved 67% to £239m. The restructuring costs broadly came to an end in 2021 and the company is now free cash flow positive pre-lease payments.
The disposal programme generated proceeds of £388m in 2022 and is almost complete. The businesses that remain for sale (following the People pillar disposal after the FY22 results announcement) generated revenues of £150m and profits of £16m in 2022. Discussions with interested parties have commenced and sales are being targetted for all remaining disposals by the half year. Given the strength of the balance sheet though they are in a strong negotiating position and won’t be rushed if the price isn’t right. The liquidity of the business is also very healthy. The £288m RCF remains undrawn and there is close to £120m of net cash.
The company guidance is clear and points to steady improvements in profitability. For the Core business, i.e. Capita Public Service and Capita Experience, revenue growth is expected to be mid-single digit continuing the revenue momentum delivered in the second half of last year. The 2.9% Core EBIT margin is targeted to double over the next 3 years. Cash generation from operations in 2023 is expected to be similar to the £99m achieved in 2022 and net financial debt (pre IFRS16) is expected to be low. Growth is expected to be delivered from continued very high renewals rates, growth from existing accounts and new business.
The Capita Public Service division has a weighted pipeline of £1.2bn of opportunities. The change of PM in the second half of 2022 resulted in some opportunities they had hoped to sign in 2022 being pushed into 2023. News flow to look out for is contracts with the DWP and the Army. The Capita Experience division has a weighted pipeline of £1.0bn of opportunities. News flow to watch out for here is contracts with Scottish Power and Virgin media/O2.
Higher quality contracts going forward will enable Capita to hit their margin targets. Moving clients from BPO work to digital BPS work is one example of how improved mix helps improve margins and for one client Capita have handed back BPO work to focus on the more digitally delivered BPS work.
Cost reduction has played an important part recently in the improved performance of the company and this will continue to be the case going forward. In London the property footprint has been reduced from 4 to 1 and overall 137 properties have been vacated since 2019. Successful delivery of contracts will also help lower the risk of cost overruns.
In summary, Capita delivered a strong operational turnaround in 2022 and is now positioned to grow revenue and profits in 2023 and beyond. The strength of the balance sheet and improved cash generation will enable the company to review their capital allocation policy with the HY numbers. Capita is not back on the dividend list just yet but it is now a distinct possibility in the not too distant future.
All in all, an encouraging update delivered in a more confident tone.
A recording of the webinar can be found on the Yellowstone Advisory YouTube channel or by clicking here.
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