As an online grocery delivery business, Ocado does well when the supermarkets’ tills are jingling on the web and on smartphones. As a technology business, it does well when the world’s big international retailers expand their delivery networks. And as a listed company, it is little short of a phenomenon, loss-making and paying no dividend but managing, nonetheless, to garner a market value of £9.3 billion and a place in the FTSE 100.
It has its detractors — those who, understandably, fret that its valuation is built on expectation over substance — but in terms of pure share price growth, this business has made a lot of investors a lot of money.
Ocado was founded in 2000 by three former partners at Goldman Sachs, one of whom, Tim Steiner, 50, remains group chief executive. It listed its shares in 2010 at what now seems like a paltry 180p apiece and just over a year ago became a member of London’s senior index.
The group’s original business model was built on delivering groceries ordered online at Waitrose and the prospective growth of internet shopping. It has since morphed into two distinct entities.
The delivery business is now Ocado Retail, operated as a 50-50 joint venture with Marks & Spencer, which last year paid £750 million to buy into a partnership that gives it an online shopping service. As it stands, and despite the sceptics’ wariness about the link with M&S, Ocado’s retail business has been motoring: it generated £811.5 million of revenues over the 26 weeks to June 2, accelerating to £429.1 million over the 13-week period to December 1.
Yet the excitement lies in the second business, Ocado Solutions, a technology-driven logistics operation that fills automated warehouses and delivery centres with robots, powers apps and organises the routes that delivery lorries take to get groceries to shoppers’ front doors. Ocado now has seven partners here, including Aeon, a Japanese retailer that is one of the biggest in Asia. It has contracted Ocado to build a nationwide delivery network with the capacity to deliver goods worth at least £4 billion a year by 2025 and £7 billion by 2035, which equates to about 20 of its giant automated warehouses. The first is due to open in 2023.
The group has a similar-sized agreement with Kroger, an American grocer, and many of its deals with overseas retailers are exclusive, albeit contingent on a minimum number of warehouses being built each year. Ocado receives upfront payments and then recurring fees once the delivery operations are up and running.
The first of its delivery warehouses, for the French Casino supermarkets group on the outskirts of Paris, will begin operating during the first half of the year, at which point the service fees begin to come in. The exact size of these fees is not yet clear, but before the agreement with Aeon Ocado estimated that once all of its warehouses were up and running, it could be collecting between £1 billion and £3 billion a year, depending on the amount of grocery business transacted online.
The potential of the warehouse operations drives Ocado’s valuation, which — loss-making, no dividend — cannot be calculated using conventional metrics. At 6.2 times the midpoint of prospective annual fees, before taking the Aeon agreement into account and ignoring the worth of Ocado’s retail business, its rating does not feel excessive.
The shares, up 8½p, or 0.6 per cent, at £13.34 yesterday, have risen by 16.6 per cent since this column recommended them as a long-term “buy” in July. That advice stands.
Advice Buy
Why The profit opportunity from its present partnerships alone is huge and earnings will begin this year
Polypipe
There were clear signs of a slowdown in parts of Polypipe’s business during the tail end of last year, but the group’s shares have performed creditably well, nonetheless. In fact, investors who ignored this column’s advice to avoid the stock in May will have enjoyed a 20.7 per cent gain in the value of their holding based on last night’s closing price of 521p (down 13p, or 2.4 per cent, on the day). Still, that increase means that buying into this company has become a little more expensive than it was at the last look and it’s not clear yet that the call back then was wrong.
Polypipe specialises in the plastic pipes and drains used in residential homes, commercial buildings and large-scale industrial and infrastructure projects. It also sells drainage systems, underfloor heating and ventilation products.
Over the long term, it stands to benefit as homeowners and the private and public sectors replace old steel and concrete pipes with more durable plastic. At the same time, though, it is exposed to the vagaries of the housing and construction markets and an infrastructure sector that tends to move in cycles. Having delivered a mid-single-digit improvement in revenues and pre-tax profit over the six months to the end of June, signs of pressure on trading began to show during the subsequent four months.
Although revenues in the residential division rose by 7.9 per cent over the period, they fell by 5.8 per cent in the commercial and infrastructure systems unit. That translated into an overall growth in sales of 1.7 per cent over the four months to the end of October, well below the 6.2 per cent of the first half, and prompted analysts at Jefferies to nudge down their annual profit forecasts to about £78 million, against a consensus of £81 million. While construction and the wider infrastructure sector may well rebound, particularly if the new government backs big new developments and if the housing market recovers, it shows the frailties of the areas in which Polypipe operates. The shares trade for 16.7 times Jefferies’ forecast earnings for a dividend yield of 2.6 per cent, a valuation that remains uncompelling for this particular observer.
Advice Avoid
Why Good-quality company but its rating is full one
