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Ocado - revenue rises but investment means losses widen

Nicholas Hyett, Equity Analyst | 14 July 2020 | A A A
Ocado - revenue rises but investment means losses widen

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Ocado Group plc Ordinary 2p

Sell: 1,701.00 | Buy: 1,703.00 | Change 0.00 (0.00%)
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Ocado group revenue rose 23.2% to £1.1bn in the first half of the year. However, higher costs and non-cash charges associated with the value of Ocado's smart platform technology, meant pre-tax losses were £40.6m.

The group said there has been no "material" change to the outlook for the full year. Retail revenue growth is still uncertain, and depends on the extent of disruption from social distancing restrictions in the UK.

The shares fell 1% following the announcement.

View the latest Ocado share price and how to deal

Our View

Coronavirus has accelerated the shift to online shopping and Ocado reckons it needs substantial new funds to help it capitalise on the changes. That makes sense on paper, but asking investors for yet more money earlier this year was a little irksome.

It was only in December 2019 it asked for money to help pay for the joint venture with M&S. At that point we were reassured new funding wouldn't be a consideration for two years.

This time around the money is earmarked for the Solutions business - which is the most important area for Ocado's future growth, after selling half the retail business to M&S. The division charges retailers to use Ocado's robotic systems. Hundreds of thousands of orders are processed each week, with the help of automated 'bots' scurrying around the trademarked grid systems.

Coronavirus is likely to have created a permanent increase in demand for online groceries. In theory that means Ocado will be able to unearth a higher number of potential partners and strike more deals as grocers look to increase their online capacity. But it's not a home-run just yet.

Ocado is having to stump up hundreds of millions to fund a lot of the Customer Fulfilment Centres itself - a far cry from the capital-light tech business investors had once expected. And as Ocado remains heavily loss making, investors are having to pick up the bill.

The Solutions division continues to burn through cash at a heady rate. That isn't likely to change for some time. In fact it's pretty hard to know when this will change, because the centres are long term investments. So while landing the deals is key, it'll be years before we know if they'll pay off.

In terms of liquidity we don't have any immediate concerns, with access to over £2bn in gross cash sitting on the balance sheet. We don't doubt that Ocado has a great product, and it's well placed to capture a shift to online shopping. But it's crucial the expected wave of new deals comes to fruition. If things don't go to plan it's going to be a while before Ocado can ask investors to open their wallets again.

It's important to take Ocado's valuation into account too. Its lack of profits makes it harder to value than a more traditional company. Looking on a purely sales basis, the shares change hands for almost three times more than the ten year average. That means if the Solutions business falters, so will the share price.

Ocado key facts

  • Current 12m forward price to sales ratio: 6.6
  • Average 12m forward price to sales ratio: 2.1
  • Prospective yield - Ocado doesn't currently pay a dividend

We've introduced this section in response to recent survey feedback. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

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Half year results

Retail revenue rose 27.2% to £1.0bn, as the average basket size rose 27.7% to £137.46, which offset the fact people shopped less often during lockdown.

Underlying EBITDA (earnings before interest, tax, depreciation and amortisation) from the division rose 87.3% to £45.7m, reflecting the higher revenue and well controlled costs.

The UK Solutions division earned revenues of cash fees from partners of £320.4m, an increase of 9%. EBITDA declined 28.2%, reflecting higher costs and the reduction in fee income from Morrisons following the Andover fire.

In the International Solutions business, fees invoiced to partners rose by 58.2% to £73.7m. However, revenue earned was £1.6m because payment is not received until the customer fulfilment centres are up and running. Paired with a 90.7% increase in costs, EBITDA losses increased to £45.1m, compared to a loss of £23.7m last year.

Capital expenditure for the full year is expected to reach £600m.

The group had cash and cash equivalents of £1.3bn at the end of the period, compared to £750.6m in December. The increase includes the positive benefit of accounting changes, and contributed to Ocado reporting net cash of £196.2m compared to net debt of £283.4m last year.

In order to help capitalise on the shift to online shopping, and an expected increase in demand in the Solutions business, the group issued new convertible bonds, raising £600m during the half. It has also recently raised a further £1bn through issuing £657m worth of new shares, and a further bond issue.

Ocado received £36.3m in insurance payments during the period, relating to the Andover fire in February 2019.

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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.