Capgemini (CAPMF): Good Cost Control, Still Seeing Slow Cycles, New GenAI Conversations

Capgemini (OTCPK:CAPMF)(OTCPK:CGEMY) is a tech consulting company whose feature is a pretty big European, specifically French focus, and not so much a US-focused company. Things have decelerated, as we assumed in our last coverage. The company was prepared for that and responded aptly in its operational policies, and now they’re gearing up for some better years driven by solid bookings and also a new avenue to generate business with clients: GenAI. While they are a consistent grower, we don’t think there’s an especially compelling angle here to buy them just based on PEs – although they’re cheaper than Accenture (ACN) and are generally on the lower end of comps despite comparable growth. We’d never pick ACN over Capgemini at these valuations.

Earnings

Looking at the earnings, we see that there’s been clear YoY decelerations. The matter of longer sales cycles is still in play, and while the company says it’s troughing, it’s taken longer than in other industries in tech and digitalisation. An apparent thing to note that is that while all geographies are decelerating, Europe has decelerated a lot less. This is in the case in other industries as well, like financial advisory, which is a bit surprising considering how much worse the European situation is compared to the American situation. It comes down to the general scope for growth and digitalisation, as well as more limited excesses during the pandemic being more important than the fact that Europe has seen a bigger decline in the competitiveness of their economies in proximity to the supply chain shocks. At any rate, the greater European exposure in the business has kept volatility down.

It will also mean less of a re-acceleration once US customers start to pick up in spending. Apparently, the direction of the budgets clients in general are putting forward shows a re-acceleration, expected by Q4 of the coming year. Sequential declines aren’t really expected to be sharp, and upper single digits in sales growth should be run-rate by Q4, but management is vague on the details, since it can’t be called. More US-focused businesses may see a more vigorous rebound than Capgemini, which should factor into trading conditions as well.

But still, I mean, we have positive expectations on Q4 exit rate. I mean, today, if you ask me what I’m targeting in terms of exit rate in Q4 is a mid to high single-digit. So, that’s really why what sets up for a pretty strong 2025. But that’s the exit rate we are targeting currently for Q4.

Aiman Ezzat, CEO of Capgemini

A thing to note is that the headcount has come down. In general, operational efficiency has been good, and we did see in the FY and quarterly data the profit metrics come ahead of the revenues, demonstrating solid cost control.

With the re-acceleration expected in the year and sustainable booking dynamics, the company expects that headcount will inflect upwards again as well, but apparently there is a lot of legroom to hire contracted workers, as they were brought down to minimum levels with scope now to bring on a flexible workforce. In terms of the build in the order book, a lot of interest is growing in the intelligent industry businesses, where they have a good presence in industry-heavy Europe. Also, there is a lot of interest in GenAI currently and those discussions involve Capgemini, whether GenAI ends up being the solution to client problems or not.

The reality though is that GenAI isn’t easy to implement for a tech consulting company, and that almost all the interest is coming from making cost centers like customer call service more efficient. Almost all the conversations address the possibility of doing something about call centres. Everything is on the side of bringing down costs from cost centers.

Bottom Line

The most conservative budgets have been in telco and tech, and they have a large representation in America. Capgemini is in more resilient geographies and end-customer bases and has done nicely compared to peers. In terms of valuation, they trade at the lower end of the spreads of PE of tech consulting peers in the US. Compared to ACN, they trade at a valuation slightly above 20x in PE, while ACN is above 30x. Revenue trends have been similar, so we’d go with Capgemini if choosing. Operating leverage will start kicking in on the margin front. Operating margins grew 30 bps this year, which is impressive considering the pressure on revenues. Labour can still be scaled cheaply with contractors and offshore, and we think that any re-acceleration will continue to grow margins as well and keep EPS growth ahead of revenues, probably closing in on 9% for the next year and likely higher than that in 2025 if things continue to improve. The booking dynamics, which show consistent levels of booking, should support further delivery of projects and revenue growth. We do think that GenAI is putting funds back in tech budgets that Capgemini will benefit from for a while as companies experiment with their GenAI options.

While we see EPS growth being likely, and the valuation is by no means unfair in absolute terms, we are still aware of better deals and will go for those instead, including picks like Asseco Poland (OTCPK:ASOZF), which we’ve covered in the past here on SA. They’re much cheaper on a PE basis, and they have just as good a record of growth.

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