As advertisements go, Ocado’s retail joint venture with Marks & and Spencer makes for a flimsy promotion for the “picking and packing” technology that it’s flogging around the rest of the market.
The grocery delivery specialist is suffering an almighty post-pandemic comedown, hastened by people tightening spending. The value and volume of goods bought by shoppers has fallen, pushing revenue for the retail business down almost 4 per cent over the last financial year and into an adjusted loss. The technology division that licenses warehouse and logistics technology to retailers remains a money pit. The result? Even after stripping out a heap of interest, taxes and other charges, group losses amounted to £74 million.
Timing is not the strong suit of Tim Steiner, Ocado’s boss, it seems. After increasing capacity during the pandemic, the online grocery specialist has the capacity to fulfil 700,000 orders a week in the UK, but is packing only about 400,000. When might it grow into that spare space? That’s anyone’s guess. Steiner and Co have guided towards adjusted earnings for the retail business being a little better than break-even this year. Unsurprisingly, the final instalment Ocado expects to be paid by M&S for the joint venture is roughly 60 per cent lower than it had anticipated at the time the business was formed in 2019. No wonder it is in discussions with M&S over changing the performance terms for calculating just how much it will receive next year.
The shares have fallen by about 80 per cent from the pandemic-era peak and have eroded any of the gains made over the past five years. Investors that bought into Ocado’s most recent £578 million fundraising must be feeling irked; they paid 30 per cent, or 242p, more than the price at which the shares are trading. Yet there is scope for the shares to fall further. Even based upon a better performance, analysts expect for the 12 months ending in November next year the shares will trade at almost 29 times the £197 million adjusted earnings before interest and taxes that analysts forecast for next year.
True, the market ascribes much of Ocado’s £5 billion valuation to its distribution and logistics business and only a small slice to retail. And the construction of warehouse buildings is funded by clients, though the cost of the software and automation technology is borne primarily by Ocado. The business doesn’t generate revenue based upon the number or value of orders fulfilled for third-party retailers. The solutions business charges clients an upfront fee and a continuing fee based upon delivered sales capacity.
For any retailer considering investing more in online grocery delivery, the slump in orders for the joint venture is a reality check. If Ocado has noted a downturn in online shopping since lockdowns, so, too, will the rest of the industry. The number of live sites trebled to 12 last year, resulting in another hefty £113 million loss for the international division. The business expects adjusted earnings to be “positive” this year as new facilities make a contribution.
What about the long term? Ocado reckons the capacity it has planned for will generate net cashflow of at least £350 million over the next four to six years, but that excludes any capital expenditure that it will have to shoulder for building sites for existing or new partners that it has not already signed up. That could suck a chunk of the cash generated by maturing fulfilment facilities, particularly given the grocery group’s record of rapacious expansion. Analysts think a better showing there will result in adjusted earnings of £89.5 million at a group level, helped by a cut to capital expenditure of £250 million to £550 million. But what does that mean in statutory terms? Ocado is forecast to remain lossmaking on a pre-tax basis until at least 2025.
Ocado has always been a highly speculative stock, but the chance of investors being rewarded for the risk is diminishing.
ADVICE Avoid
WHY Declining retail earnings and expansion expenditure could cause the group to miss market expectations this year
Unite
Cost inflation and a rapid rise in interest rates have sucked the air out of Unite’s once pumped-up share price. Nevertheless, investors in the student landlord should feel more reassured.
Why? First, the gap between the share price and the net asset value forecast at the end of this year has narrowed to 3 per cent, compared with a forward premium of 21 per cent last summer. Second, 97 per cent of its debt is hedged, compared with 85 per cent in July. The cost of debt might be due to rise to an average 3.6 per cent this year and 3.8 per cent next, but that would wipe only a combined £6 million to £8 million from the £358 million of profits generated last year.
Rising rents and better occupancy rates should more than offset higher costs, with a margin of 70 per cent expected this year, up from 68 per cent last year. Only a third of its leases are directly linked to inflation and those that are anchored to an index are capped at a rise of 5 per cent. But guidance for rental growth this year has been raised from 5 per cent to a range of 6 per cent to 7 per cent.
Reservations of 83 per cent for the next academic year are ahead of an historic norm in the low to mid-70s in percentage terms. Universities and students themselves are committing earlier to leases.
The FTSE 250 group has committed to four schemes, which will cost about £200 million to complete, easily funded from existing cash and available debt of around twice that figure on the balance sheet. But financing the additional four schemes being considered, at an outlay of roughly £500 million, would require either fresh equity or debt to be raised. So the cost of debt could go higher, ending up anywhere between 3.5 per cent and 4.5 per cent. A decision on whether to go ahead will be taken over the next 12 months. Either way, the student landlord’s valuation now looks more realistic.
ADVICE Hold
WHY Impact of higher debt and operating costs are better reflected in the share price
