Supply Side
Capita Profit Warning – Is Better Public Procurement a Cause?

Capita has been one of the UK’s most impressive business success stories of the past 30 years. A tiny IT services firm, created by Rod Aldridge in 1984 as an offshoot from the Chartered Institute of Public Finance and Accountancy, the firm is now valued at some £5 billion with 75,000 employees. The business was built on outsourcing work taken on largely from the UK public sector in the early years, and although expansion has included considerable amounts of private sector work, and work outside the UK, Capita is still seen first and foremost as a public sector outsourced service provider.

Some critics suggest that Capita sometimes takes on work from the public sector, without a totally clear idea of how it can add value, and then works out how to cut costs as it gets into the work. The recent problems over handling back-office services for family doctors that we covered here comes across a little like this, it has to be said. But the firm has avoided the major problems that hit two rivals, Serco and G4S, over the Ministry of Justice prisoner tagging scheme.

So we have never subscribed to the negative view of Capita propounded by Private Eye and others who philosophically hate the idea of the private sector delivering “public services”.  The firm has probably been better than anyone at taking on a variety of public sector work and making a success of it – despite the occasional high-profile failure.

But last week, it shocked the London stock market and investors by announcing a profit warning; this year’s figure would be some 20% below expectations. Underlying profit before tax for the full year to December was expected to be in the range of £535m to £555m, whereas previously analysts were forecasting around £614m. Capita shares lost some 30% of their value.

A number of reasons were given for the profit warning. “Our performance in the second half of the year to date has been below expectations, as a result of a slowdown in specific trading businesses, one-off costs incurred on the Transport for London congestion charging contract and continued delays in client decision-making.”

Uncertainty following the Brexit vote was one excuse, but there were two very specific contracts mentioned. One is with the Co-op Bank, where Capita agreed a deal last year to process mortgages for the bank. Capita says it is owed payment for this work, but the Co-op hit back quickly saying “The bank strongly refutes Capita’s suggestion that they have delivered an element of the transformation programme which the bank has not paid for. In addition, there are amounts which the bank regards as owing to it by Capita”.

That sounds like a fascinating story, but perhaps even more interestingly, Capita admitted that late delivery of an upgrade to the Transport for London congestion charge contract is likely to result in one-off costs of between £20m to £25m. Their CEO said “Our delivery wasn’t up to the standard expected. The upgrade proved more complex than we anticipated and the penalties ramped up very quickly.”

This is noteworthy on two counts. Firstly, Capita knows this system well, having delivered the original work, so it is odd that they have messed up so badly here. But from a procurement point of view, we salute the TfL people involved here.

How often have IT providers to the public sector been late on delivering IT systems? And how often have they been properly “punished” with financial penalties? Not often, in our experience, and we certainly cannot remember many where a contractual penalty has featured in a major firm’s profit warning.  Capita says all is now OK and the system is running, but they are £25 million down on the deal.

Whilst TfL no doubt is unhappy that the system was delayed, in some sense this is a big positive for the organisation – congratulations to the procurement and / or IT people who negotiated those penalties into the contract. If we want great performance from key suppliers to the public sector, they must be rewarded properly. But they must be incentivised in both senses; a positive incentive to do good work and negative incentives to make failure painful.

So it is good to see TfL having this ability to hit Capita where it hurts, and perhaps this is a sign that public procurement is getting smarter. Certainly it looks that way in this case, but maybe generally, buyers and contract managers are making life more difficult for Capita and their competitors – in a positive manner and to the benefit of the taxpayer. Perhaps this is a sign of procurement maturity, with buyers paying more attention to making contracts robust and effective, and to diligent contract management.

That would be good news for taxpayers, public sector workers and elected representatives, but maybe not such good news for shareholders of BPO firms and other major companies servicing that sector. Watch this space.