After a rocky start to its life, the Deliveroo (LSE: ROO) share price recovered some composure in July and August. The stock reached a high of 397p in the middle of August, a post-IPO high.
Unfortunately, since then, shares in the food delivery group have fallen around 28%. But I think there is a good chance the stock could return to 400p. This would bring the company’s valuation back into line with that of its largest pure-play public peer.
Deliveroo share price valuation
The easiest way to value stocks is to use the price-to-earnings (P/E) multiple. This ratio compares a company’s earnings to its stock price. However, this metric is impossible to use when a company is not earning a profit. As such, it is not suitable for all businesses.
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An alternative method is the price-to-sales (P/S) multiple. This ratio is more appropriate for companies that are not earning a profit. And also for businesses that may be spending a lot of money on marketing and capital spending initiatives.
The Deliveroo share price is currently selling at a P/S multiple of 3.4. That is a discount of around 38% to its larger peer Just Eat. The latter is trading at a P/S multiple of 4.7.
I think this shows how wide the evaluation gap is between the two companies. If Deliveroo achieved the same multiple, I calculate the stock could be worth as much as 400p.
Still, there is no guarantee the company will ever achieve a higher valuation.
There are some fundamental differences between the two businesses. Just Eat’s sales are nearly three times higher. The company also has a larger international footprint. Closer integration with customers has also provided more cash for marketing purposes in the past.
These qualities have given Just Eat an advantage. But Deliveroo has not been resting on its laurels. The organisation has been expanding into different markets and putting partnerships in place with different companies.
Consumers can now order a range of different products on the app, including groceries, medicines and takeaways. The company’s subscription service, which allows consumers to reduce delivery fees, also provides a steady income for the enterprise.
Challenges ahead
Despite these initiatives, the group still operates in an incredibly competitive market. This means it may struggle to capture further market share. What’s more, the company’s worker relations are somewhat rocky, and service disruptions, as well as higher fees, could put consumers off the platform.
Even after taking these risks and challenges into account, I would still buy the stock as a speculative position for my portfolio. Over the past 24 months, meal delivery apps have really come into their own, and it looks as if consumer habits have changed for good.
Considering Deliveroo’s valuation, I think it could be one of the best stocks in the sector to play this trend.
