Can Ocado’s share price continue to deliver as earnings results loom?

The online grocer reports its full-year results tomorrow (11 February), capping a year of revenue growth and new global licensing deals, but will share price performance match recent momentum?

Ocado [OCDO] certainly delivered in 2019. After hitting a low of 873.80p on 7 February, its share price began climbing 64% to reach a high of 1,435p on 10 April. Since then, its share price fell 14% to trade at 1,229.50p (through 7 February), giving it a market value of £8.6bn. This year alone, however, the company has not had the best of starts, the share price has dropped 2.4% to 7 February close.

 

 

 

Growth has been driven by its split business model, which consists of its retail operations and sellable software. Its retail arm was given a boost late last year by the announcement of an upcoming tie-up with Marks & Spencer [MKS]. While Ocado Solutions, which licenses its proprietary software and builds robotic warehouse infrastructure for global retailers, has also been gaining new partnerships.

The latter includes deals with French retailer Groupe Casino [CO], the largest supermarket in the US Kroger [KR], Asian retailer Aeon [AEON] and Australia’s Coles [COL]. The deals entail that Ocado received upfront payments and then recurring fees once the delivery operations began.

 

Preparing to deliver a record Christmas

Last year saw some steep ups and downs for the FTSE 100 listed firm. The stock has been one of the most shorted on the London Stock Exchange on and off for the last three years, according to Morningstar.

In its 12 December trading update Ocado reported a 10.8% year-over-year increase in retail revenue to £429.1m for the 13 weeks to 1 December 2019. Average orders per week in the fourth quarter rose 10.4% from the period a year earlier to 350,000 and the average order size maintained at £104.9m.

The increasing number of UK customers has meant that it remains the fastest-growing grocer in the country, CEO Melanie Smith said, adding that the partnership with M&S was “working well” and was preparing to make their food range available online in September this year.

While retail revenues have consistently climbed throughout most of 2019, its half-year results warned of a 36% rise in fees invoiced from its solutions partners to £122m. As a result, Ocado still expects to post a net loss of £140m for 2019, up from a £45m loss in 2018.

 

The fire at its Andover warehouse and the costs of fulfilling its technology orders are likely to be fastest-growing contributors.

 

Stock price still prone to hiccups

The consensus among 20 analysts polled by MarketScreener is hold, with a target price of 1,259.47p. Despite the encouragement around its licensing deals, investors still see potential for Ocado shares to get lost in the aisles. For example, Simply Wall Street believes the stock’s 376% gain over the last three years is “very generous” compared to its annual revenue improvements.

There are concerns that the stock is overvalued with investors betting more on expectation than delivery. The stock is still prone to hiccups. The Andover fire raised fears about supply disruption and the safety of such automated sites.

Other concerns are the company’s losses, lack of dividend distributions and uncertainty around its licensing deals – mainly the rate of return and impact of capital investment on future profits.

Late last year, analysts at Jefferies also hinted that a new competitor in the US called Takeoff Technologies, which also offers an automated grocery service, might be a better fit for Kroger and other retailers given its “smaller and more efficient automated warehouses”.

Questions also remain about the profitability of online grocery delivery services in the UK given a potential post-Brexit rise in supply costs. However, in an interview last week Morningstar equity analyst Ioannis Pontikis said Ocado’s share price has a 20% upside from current levels.

“Ocado operates the most efficient online business model for grocers nowadays, which we think could provide it with significant advantage to their partners relative to their peers,” he explained, warning however of significant execution risks of international expansion.

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Ocado operates the most efficient online business model for grocers nowadays, which we think could provide it with significant advantage to their partners relative to their peers” - Morningstar equity analyst Ioannis Pontikis

 

Russ Mould, investment director at AJ Bell, has described Ocado as a Marmite stock.

“Some see the out of the box solution offered by the Ocado Smart Platform, based on proprietary software and algorithms as well as robotic warehouses, as a sufficiently compelling proposition to ignore questions over a multi-billion pound valuation and the company’s failure to yet register a profit,” Mould told Shares Magazine.

 “Others question when the multiple agreements Ocado has forged will start making a meaningful contribution to earnings.”

“Some see the out of the box solution offered by the Ocado Smart Platform, based on proprietary software and algorithms as well as robotic warehouses, as a sufficiently compelling proposition to ignore questions over a multi-billion pound valuation and the company’s failure to yet register a profit” - Russ Mould, investment director at AJ Bell