The Capita share price is starting to surge! Here’s what I’m doing now

The Capita (LSE: CPI) share price is surging and the FTSE love its recent news. But there may be reason to be cautious, says Rachael FitzGerald-Finch.

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

Capita (LSE: CPI) is selling its educational software division and the stock market loves it. The share price of the business services firm has gained 21% over the last four days alone.

In addition, Capita provided a 45.9% return over the last month, in comparison with a negative 2.6% for the FTSE 250 Index.

However, go back to June 2015, and the value of returns changes considerably. Capita’s share price leaves the FTSE 250 behind having plummeted to a negative 90.6% return.

On the face of it, Capita appears to e bottoming out. Could its latest sales announcement be a good reason to begin investing in the firm?

The recent history of the Capita share price

Over time, the FTSE weighs up the values of its constituents and the share prices react accordingly. This is as true of Capita as it is/was of Serco, Carillion, and other peers. When the latter went bust at the beginning of 2018, rumours were that Capita would too. Indeed, Capita’s share price tumbled as investors were fearful of its prospects.

However, despite being in a similar industry, the competitors were very different businesses. Capita didn’t hide its problems behind accounting fraud, for starters. It also had some valuable assets, such as its software businesses. Indeed, one fund manager valued the business around 200p-220p per share in 2018.

Nonetheless, it’s a difficult business to value because the firm has fingers in many pies. Some pies will be growing as others are contracting. This makes it hard to attract investors because we never really know what’s going on.

Consequently, when one outsourcing business goes bust, it’s easy to assume others will too. And so Capita’s share price continued to drop.

The decline was reinforced by the apparent industry model to focus on revenue growth, rather than profitability. This was a dangerous position to be in for an industry bidding on fixed-price contracts.

And so it proved to be. Capita’s share price fell further as earnings tumbled and profits were non-existent.  

A possible future?

Enter turnaround specialist Jon Lewis and a new strategy to focus on hi-tech work, not low value,  labour-intensive contracts. Capita also appears to be streamlining its discombobulated operations. The company recently sold Eclipse, its legal software business, for £56.5m. Education Software Solutions is planned to follow and is expected to sell for 10 times the value of Eclipse.

It’s also likely more divestments will be in the offing as management tries to reduce debt and bring the firm back to profitability, which sounds great in theory.

However, the sheer scale of this long-overdue overhaul should not be underestimated as Capita’s balance sheet is uninspiring. Using its 2019 reported earnings figures, the company’s net debt is 12.6 times gross earnings. And earnings before interest and tax (EBIT) are non-existent — they do not cover the Capita interest payments on its debt.

In other words, Capita paying off its debt from its operations is going to be an uphill struggle. Selling assets is currently the only way to do it. Without profitable operations in core business elements, Capita will simply not be able to strengthen its balance sheet in the long run.

The turnaround must start somewhere and divesting assets will help sustain it in the short-to-medium term. However, I want to see positive earnings from core operations — whatever they may be — before investing my money. 

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be considered so you should consider taking independent financial advice.

Rachael FitzGerald-Finch has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Bearded man writing on notepad in front of computer
Investing Articles

Is there still time to buy Scottish Mortgage shares?

The Scottish Mortgage share price has risen strongly in recent weeks. Should I pile into the FTSE 100 momentum stock…

Read more »

Smiling white woman holding iPhone with Airpods in ear
Investing Articles

Why I’d start buying shares with £250 today not £20,000 in future!

Is it worth waiting to start buying shares until one has more money to invest? Our writer doesn't think so…

Read more »

Playful senior couple in aprons dancing and smiling while preparing healthy dinner at home
Investing Articles

I’ve bought Diageo shares to boost my long-term passive income!

I plan to hold on to my Diageo shares well into retirement. Here's why I think it's a top stock…

Read more »

New virtual money concept, Gold Bitcoins
Investing Articles

Down 61%, are Argo Blockchain shares worth buying?

Argo Blockchain shares have tumbled in value. As a shareholder, Christopher Ruane considers what might come next for the business…

Read more »

Smiling young man sitting in cafe and checking messages, with his laptop in front of him.
Investing Articles

3 UK dividend stocks with yields over 10%

These dividend stocks are the highest yielders on the UK market, says Roland Head. But how safe are these generous…

Read more »

Couple relaxing on a beach in front of a sunset
Investing Articles

I’d start buying shares for passive income with this pair

Our writer is looking to earn passive income via investing, and here are two leading stocks he might buy.

Read more »

Tanker coming in to dock in calm waters and a clear sunset
Investing Articles

Here’s the Shell dividend forecast through to 2024

The Shell dividend is still nearly 50% below 2019 levels. Will the oil giant use record profits to rebuild its…

Read more »

Warren Buffett at a Berkshire Hathaway AGM
Investing Articles

3 FTSE 100 stocks I think Warren Buffett might love!

Warren Buffett made his fortune thanks to the success of US shares. But here are three FTSE 100 stocks I…

Read more »