As a shareholder in digital ad agency group S4 Capital (LSE: SFOR), I continue to watch the company’s fortunes closely. The S4 Capital share price moved up 15% in a couple of weeks this month, before crashing down once more. It now sits 20% below its level a year of ago.
What is behind the fall – and could things get even worse?
Weaker outlook
The immediate reason for the recent fall was a downbeat trading statement issued last week.
S4 Capital cut its net revenue growth outlook for the year to 2-4%, from 6-10% previously. That 6-10% had only been announced the previous month. Net revenue growth had previously been expected to come in at 8-12%.
The business also reduced its target operational EBITDA margin to 14.5-15.5% last week, from 15-16% previously.
Alarm bells
On one level, that does not look like such bad news.
After all, the company is still forecasting growth even in a time when many of its tech clients are struggling to maintain their own revenues and are increasingly focused on cost management.
But the S4 investment case has always revolved around the firm’s strong growth prospects. After several years of rapid expansion, low-to-mid single-digit margin growth is disappointing and raises questions about how disruptive the company’s business model really is.
Previously it has talked about keeping a lid on costs, so a reduction to the operational EBITDA margin is also a concerning sign about how effectively (or not) that is going.
After a stream of disappointments since the start of last year, S4’s credibility with the City looks more stretched than ever. The share price is almost as low as it has ever been, despite its sharp business growth in recent years.
Yet even at these bargain basement levels, not a single director has bought shares with their own money this year.
Lots to prove
My own confidence in S4 management is starting to weaken.
Its communication style has won few friends in the City. The growth story has become less compelling, although I do still think the focus on digital ads is a smart one strategically and could help the firm grow faster again in future.
Meanwhile, I believe company leader Sir Martin Sorrell needs to prove that the ship is in safe hands, with realistic forecasting and growth expectations. He has been the visionary behind the firm and concerns about his health are one reason why the shares are down 45% this year.
At this rate, if tech has a bad August, I fear we could see S4 shares lose even more value. It would not surprise me to see them fall below a pound apiece if the company even hints at any more bad news to come.
I continue to think the company’s proven leadership team, client base and growth focus could lead to the S4 Capital share price moving up sharply again in coming years. I therefore plan to keep my stake but will not be adding to it.
Meanwhile, I reckon management has a lot of work to do – ideally very soon – to rebuild confidence in the investment case.
