The last time global markets went into meltdown coincided with boom times for Softcat. The pandemic triggered a wave of spending by employers on equipping their staff for homeworking, and a jump in sales for the IT equipment and software reseller.
The current turmoil will not be accompanied by the same windfall for Softcat. Weaker corporate confidence has already cast a shadow over the FTSE 250 constituent’s valuation.
The shares trade at 21 times forward earnings, down from a peak multiple of 44 during the pandemic, when the group benefited from the clamour among companies to increase their corporate IT budgets. But it is also below a ten-year average of 25.
Softcat, which started life as a seller of PCs in High Wycombe in the early 1990s, now sells billions of pounds worth of software and hardware services. It works across both the private and public sectors, and its stock has been well supported by demand for technological improvement programmes.
The threat of a tariff-induced recession risks unseating Softcat’s progress this year. At its interim results earlier this month, the group upgraded its outlook for the year, for “low double-digit” operating profit growth, above previous guidance for a “high single-digit” increase this year.
Revenue over the first six months of its financial year, which runs until the end of January, rose by 17 per cent to £546 million, alongside pre-tax profit of £76.7 million, 12 per cent higher than a year earlier. Analysts expect it to repeat this at the full-year, forecasting a profit of £177 million this year.
Gross invoiced income (GII), which measures income billed to its customers, rose by almost a fifth to £1.5 billion in the first half of the year, benefiting from a recovery in hardware sales, as increased demand from data centres offset the impact of businesses holding on to their handsets for longer. The move towards the cloud, as companies seek the greater computing power needed to embed AI into their operations, has also helped to lift corporate spending.
A forthcoming device-refresh cycle driven by AI-powered PCs and the Windows 11 upgrade, as support for Windows 10 operating system ends in October, could provide another boost to spending. Microsoft is Softcat’s most important vendor, making up about a quarter of GII and about 15 per cent of gross profit in 2024.
It has also been taking an increased share of corporate IT budgets, with average gross profit per customer increased by almost 11 per cent to just over £43,000. Its addressable market is £60 billion in the UK, of which resellers and distributors account for roughly half of spending, according to estimates from Panmure Liberum. It estimates that Softcat has a market share of 5 per cent, up from about 3 per cent in 2019, which leaves plenty more to go for.
Softcat is one of the more expensive technology names in London, at 21 times forward earnings. It is a premium to both its rivals Bytes Technology Group, at 18, and Computacenter, at 12. Yet several attributes make Softcat worthy of a rich valuation. Earnings have grown at a compound annual rate of 14 per cent over the past decade. Cash conversion, defined as net cash generated from operating activities as a percentage of operating profit, remains attractive at 102 per cent.
Another increase in the dividend could be on the cards, analysts think, with the consensus forecast sitting at 49.37p a share. That equates to a respectable potential yield of 3.4 per cent at the current share price, which rises to 3.7 per cent, based on the dividend forecast for next year.
Headcount growth slowed to 6 per cent over the six months, less than half the rate a year earlier, to reflect a tougher trading backdrop, which could provide some support to margins.
For long-term investors, the benefits of compounding have delivered a total return of 417 per cent over the past decade, versus just under 3 per cent for the FTSE 250 and 19 per cent for the FTSE All-Share over the same period.
However, a meaty forward earnings multiple also means Softcat has higher growth expectations embedded within its valuation, which could also leave it more vulnerable to investors taking a more risk-averse approach.
Advice: Hold
Why: A weaker valuation reflects a tougher trading environment
