Ocado: best before end?

Ocado (OCDO) may be a hit with the investor class, but you are left wondering whether there are some distinctly ambitious assumptions baked into the market valuation. Shares in the company have soared 117 per cent over the past year alone, as traders bet coronavirus lockdowns would push more shoppers to join the club.

But most ordinary folk haven’t got on board. Ocado grabbed just 1.7 per cent of the UK market last year, according to consultancy Kantar. The bull case is that the company, recently rebranded as a tech firm, can sell its delivery technology to bigger supermarkets. But online food shopping, though at record levels, has not caught on during lockdown, at least relative to some other retail segments, doubling from an 8 per cent market share to an unspectacular 16 per cent, Nielsen found. 

Ocado, true to its tech unicorn status, also doesn’t turn a profit. The company reported a loss before tax in the year to November of £44m, despite revenue from its online supermarket growing 35 per cent to £2.2bn. Revenues from its UK delivery outsourcing business increased 14 per cent to £654m. Ocado’s hefty market valuation of £20bn, as analysts at Shore Capital said, is “redefining financial physics”, though valuations in the tech space routinely defy gravity.

Food delivery remains a low-margin and low-profit game. It also provides little added convenience for City-dwelling customers, who only have to walk round the corner to their nearest supermarket. Many rural folk also prefer travelling to the store, where they can pick products themselves and don't have to battle for limited delivery slots. Ocado is investing heavily to improve its service, but was still forced to temporarily shut down its website when it was overwhelmed by orders in the early days of the pandemic.

The uptick in demand for online shopping over the past year does mean more supermarkets around the world are keen to boost their offering. This should provide plenty of opportunities for Ocado, which has already partnered with Canadian supermarket Sobeys and French giant Casino (FR:CO). But it will also mean plenty of competition, as Uber (US:UBER) and Deliveroo look to strike deals with grocers. Morrisons (MRW), one of Ocado’s partners, has now teamed up with Amazon (US:AMZN) to provide same-day delivery. 

Ocado has been delivering great returns for shareholders, but relatively speaking not that many groceries. Long-term shareholders are still waiting for it to turn debt-fuelled innovation into a market-leading position. After a record period for online shopping, investors who hopped along for the ride may jump ship if the firm struggles to report the same level of annual growth over the coming year. Sell at 2,663p.

Last IC View: Hold, 2,613p, 1 Oct 2020