I’ve been bearish on Purplebricks (LSE: PURP) for over a year. I’ve had concerns about the long-term sustainability of its business model and breakneck pace of its international expansion, as well as its high valuation. However, with the shares having declined from a peak of over 500p last year, to just 180p today, has the risk/reward trade-off swung in favour of a more bullish view on the stock?
As much as my bearish stance on Purplebricks has so far played out, my bullish stance on Capita (LSE: CPI) has, to date, proved woeful. Having rated the stock a ‘risky buy’ at 160p in June — and at considerably higher prices previously — the shares are now trading at a dismal 130p. Do I still see Capita as a good higher-risk buy, or have events since June changed my view?
More questions than answers
Purplebricks issued a trading update yesterday, ahead of half-year results scheduled for 13 December. At the time of its last annual results, management gave guidance on its revenue expectations for this year (the company’s financial year ends 30 April 2019). That guidance was for £165m-£185m and I noted in an article at the time that the consensus among City analysts was towards the top end of the range, at £183m.
Management reiterated the guidance in yesterday’s update. However, over the last few months, the City consensus has moved to the bottom end of the range, and currently stands at £167m. The company gave no concrete revenue numbers for the first half of the year. It did say UK revenue had grown approximately 20% year-on-year, from which we can deduce a rise to around £56m. But with no clues to first-half revenues in its international markets, it’s impossible to calculate what the group has to achieve in the second half of the year, and to assess the risk of a revenue miss.
With the trading update raising more questions than answers, I can’t see the stock soaring anytime soon and I’m minded to avoid it at this stage. The numbers in next month’s results will tell us more.
I was long bearish on the outsourcing sector, but viewed Capita as the strongest of a bad bunch. That it’s done better than Carillion isn’t much of a boast. We’re now looking at a business that’s been through the mill and a stock that’s a potential recovery play.
When I wrote about the company in June, my optimism was based on a number of factors, including management changes, disposal of non-core assets, and winning new contracts. I felt the Carillion collapse could lead to more sustainable contracts, enabling Capita — in time — to make decent margins on its multi-billion revenues.
Whether that will play out remains to be seen. But margins should certainly improve as a result of management having “identified a significant multi-year opportunity to reduce costs and improve operational efficiency.”
My optimism has been further bolstered by the company saying in August that disposals of non-core businesses are ahead of plan, as well as by positive contract news in more recent months. This includes re-selection for a £65m contract with Westminster City Council, announced today. With the shares trading at less than 10 times forward earnings, I continue to rate the stock as a good, if higher-risk recovery ‘buy’.
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G A Chester 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.