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Ocado - M&S joint venture completed

Nadeem Umar | 17 September 2019 | A A A
Ocado - M&S joint venture completed

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Ocado Group plc Ordinary 2p

Sell: 1,966.00 | Buy: 1,967.00 | Change 9.00 (0.46%)
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Ocado's retail revenue grew 11.4% in the third quarter, in line with previous guidance.

The group's joint venture with Marks & Spencer completed in August.

The shares rose 1.4% following the announcement.

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Our View

The M&S deal has dominated headlines, and while it's good news for Ocado, the retail business isn't the main attraction.

Ocado's future is a lot more, well, futuristic, than delivering groceries. The Solutions business charges retailers to use its robotic systems. Hundreds of thousands of orders are processed each week, with the help of Ocado's automated 'bots' scurrying around the trademarked grid systems.

The group isn't holding back on investment in this area. The number of technology employees has risen 73% since 2015, and extra hands on deck mean over 100 new patent applications were filed last year. Booming e-commerce and the increasing threat from Amazon's groceries business means traditional supermarkets are increasingly looking for a digital answer. To that end, the spending makes sense - it's important to stay ahead of the curve. But it does also mean investors can't expect to see meaningful profits or dividends for a while yet.

There is a lingering bugbear. Ocado is having to stump up hundreds of millions to fund the Customer Fulfilment Centres itself - which is a far cry from the capital-light techy business model investors had once expected.

Ocado needs to keep momentum in the division going. There's been a lack of new contracts announced lately, perhaps in part because the fulfilment centre fire at Andover in February sent prospective partners the wrong signals.

It shouldn't be forgotten that recent performance exceeded expectations though, and we think Ocado's cutting edge technology still has the ability to entice new partners. The fire may have dominated headlines, but in reality it's a bit of a sideshow.

The Solutions business is a sound proposition, but the lack of profit generated makes Ocado harder to value than a more traditional company. Looking on a purely sales-basis, the shares currently change hands for 4.8 times expected sales. That's more than double the longer term average of 1.8. Overall, Ocado will need to a) continue to impress with its existing partnerships, and b) get more deals done.

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Third Quarter Trading Statement

Retail revenues increased, as the average number of orders per week grew, to 314,000. Average order size fell 0.8% to £105.42, which the group said reflects the higher frequency of orders.

Following the fire at one of the customer fulfilment centres earlier this year, additional capacity at the Erith centre helped facilitate the further growth.

Looking ahead, Ocado is preparing to launch the full M&S food range, which will be available on from September 2020, at the latest.

Melanie Smith, new CEO, said the joint venture will enhance Ocado's offering, and deliver the "very best experience to an ever-growing number of customers".

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Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.