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Ocado – Canadian CFC opening cancelled

Ocado has announced its Canadian supermarket partner, Sobeys, has paused plans to open a fourth customer fulfilment centre.
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Ocado’s Canadian supermarket partner, Sobeys, has decided to pause the opening of a fourth customer fulfilment centre (CFC), which was due to open in Vancouver in 2025. The partnership will instead focus on increasing order and sales volumes across three existing CFCs in the region.

The exclusivity deal between Sobeys and Ocado has also been ended. This means Sobeys is free to seek other partners for its digital fulfilment and expansion should it wish.

Ocado’s full year expectations are unchanged. The expected capacity fees from the paused Vancouver site have been deferred.

The shares fell 12.5% following the announcement.

Our view

Ocado might be best known to most thanks to the distinctive delivery vans scuttling around the UK, but it’s future growth rests on its so-called Solutions business. And it’s this area of the business that’s looking bruised following news that Ocado’s Canadian supermarket partner, Sobeys, has pressed pause on plans to open a fourth Customer Fulfilment Centre (CFC), and has also ended exclusivity with Ocado.

CFCs are the cornerstone of Ocado Solutions. The group charges third-party retailers to use its robotic systems. Hundreds of thousands of orders are processed each week, with the help of automated 'bots' scurrying around the trademarked grid systems.

There has been increasing demand for the kind of technology Ocado specialises in, allowing it to bring new partners on board. But the current economic outlook poses challenges, putting pressure on existing and potential partners to cut unnecessary spending. However, running operations through Customer Fulfilment Centres (CFCs) brings a host of cost savings and efficiency benefits which could offer a competitive advantage for those who can afford it. That said, the hiccup with Sobeys has also thrown up questions about whether there are some Ocado-specific issues at play. For now, that’s a case of wait-and-see.

There’s pressure for the group to establish a long runway of CFC openings, because Ocado is stumping up hundreds of millions to fund these centres. This has led to significant fundraising from shareholders. Medium-term plans for free cash flow generation from existing CFCs seem ambitious to us, and we can't rule out Ocado burning through its available liquidity faster than planned.

Ocado's smaller retail business - the grocery delivery company half-owned by M&S - is continuing to perform well. Customer numbers have now passed the one million mark and volumes are showing impressive growth.

But there are things to monitor. Growth in retail sales has been achieved by selling more items rather than letting prices do the heavy lifting. We approve of the positive customer value perception this creates, but raising prices slower than UK grocery inflation will have an impact on profitability. Careful management on this front will be required to hit the group’s high mid-single-digit margin targets.

There’s also potential legal action with M&S over a withheld £190mn performance payment, after pre-defined targets weren’t met. We’ll be following this closely, but regardless of the outcome, it’s hard to imagine it will benefit relations.

We should be clear - Ocado has an amazing product. It's the only global provider of an end-to-end, online grocery platform. That's an enviable position. As the group builds scale and partnerships mature, profits and free cash should flow. We just aren't convinced this will happen in the projected timeframe, which could result in further knocks to the valuation.

This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. It was correct as at the date of publication, and our views may have changed since then. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. 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 disclosure for more information.
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Written by
Sophie Lund-Yates
Sophie Lund-Yates
Lead Equity Analyst

Sophie is a lead on our Equity Research team, providing research and regular articles on a selection of individual companies and wider sectors. Sophie's specialities are Retail, Fast Moving Consumer Goods (FMCG), Aerospace & Defence as well as a few of the big tech names including Facebook and Apple.

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Article history
Published: 20th June 2024