Capgemini: Raising Our Fair Value Estimate To EUR 210 on Moat Upgrade To Narrow; Shares Undervalued

After taking a fresh look at Capgemini CAP, we are raising our fair value estimate to EUR 210 from EUR 190 and upgrading the company’s moat to narrow from none. Our fair value estimate increase is mainly driven by the longer competitive advantage period in our Stage II forecast with the change in moat rating to narrow. Our estimates are broadly in line with FactSet consensus and the company’s midterm strategic targets. Our EUR 210 fair value estimate implies a P/E ratio of 18 times, slightly above its historical average. Despite our in-line forecast, the shares look undervalued. We surmise this reflects uncertainty around the company’s long-term growth rate given we are on the cusp of normalization after the temporary boost to demand that occurred during the coronavirus pandemic.

Capgemini, based in France, is a leading IT services provider with a strong position in engineering research and development services. The company’s narrow moat is based on switching costs, which generate a midteens return on invested capital, including goodwill. IT is mission-critical within an organization. If an enterprise’s software applications have significant downtime, this could cause significant disruption and additional costs. Capgemini creates customized software applications for its clients, which are then integrated with the client’s existing IT infrastructure. Switching to another provider would require significant time and resources to rebuild or adapt the applications to the new provider’s systems. Furthermore, unwinding the integration of systems between the client and Capgemini to switch to a new provider is a complex and time-consuming task. Last, once Capgemini’s solutions are integrated with a customer, employees will receive training and become familiar with Capgemini’s systems. Switching to another provider would require employees to be retrained on new systems and workflows.