Broker tips: Royal Mail, Micro Focus, Capita

Morgan Stanley upgraded outsourcer Capita to ‘equalweight’ from ‘underweight’ as it slashed the price target to 180p from 460p.

“The outlook for estimates remains opaque, with a strategic update expected later in the year. We continue to view Capita as a traditional business process outsourcing provider that is competitively challenged, which justifies a discount to its wider peers. But with the shares now up with events, we move to equalweight.”

MS noted that Capita has guided to an underlying pre-tax profit of £270-300m and the bank now forecasts £275m. This is around 30% below its and consensus numbers before the company’s profit warning, while its 2018 pre-tax profit estimate is down around 40% since January 2017.

“Capita is a traditional BPO provider, offering labour arbitrage or to move a customer process into an existing process. The former can be significantly challenged by automation (RPA and cognitive), while the latter should show some benefit."

Stockbroker Numis highlighted a buying opportunity at Micro Focus after the shares fell 18% since its results on 8 January.

Analyst David Toms at Numis said he understands why the market was disappointed with a slightly weak operating performance at the "heritage" business, "but we think the quantum of move is overdone" even allowing for roughly 4% share price impact from US dollar weakness.

"Our decade-long view has been that a key attraction of MCRO is the long-term stickiness and cash generative nature of its products. This is sometimes belied by short-term licence volatility which can drive even greater volatility in the shares and thus an opportunity, such as now, for longer-term investors to make supernormal returns," he said.

Unlike some in the market, the analysts said he was confident in management's guidance of revenue falling 2-4% in the twelve months to October 2018.

Perceiving that achievability of guidance is a key factor in investor confidence after revenues fell 8% in the six months to last October, he believes that "as the market gains confidence in this, and thus that the model remains effective, the shares will regain their former rating".

Analysts at Deutsche Bank praised Royal Mail's ability to reach an agreement with the Communications Workers Union on Thursday and but still sees the shares as overpriced.

Deutsche Bank said striking a deal with the unions over pensions, a shorter working week, culture and operational changes were "positive as the RMG needs the unions to be on-side".

The GLS arm has been the "bright spot" since IPO both in terms of volumes/revenues and margins, analysts acknowledged.

"But overall top-line growth is hard to achieve (group revenues for 9m 2017/18 at 2%) and although we think the deal with the unions is good, the company still faces cost inflation not just in the UK, but also in Continental Europe and the US and therefore needs to find continuous efficiencies," they said.

The analysts felt there was "much to do to modernise the business" as mail volumes continued to fall, but forecast a post-operating costs profit of £550m for this year, roughly 6% ahead of Factset consensus of £519m.

Deutsche Bank made no change to its 'hold' rating or 359p target price, which remains well below Friday's close of 506.40p.