Ocado: Amazon bid rumours provide food for thought

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In the delicate UK retail ecosystem, the mere mention of a certain 800lb gorilla can cause a stampede. Witness Ocado’s share price, which surged on Thursday after a report that Amazon might be nosing around. Whether such excitement is justified remains to be seen, but it does suggest investors in the unloved stock may hunger for a shake-up.

To be fair, Ocado (worth £4.6bn) could trundle on for some time. Following an equity raise, it had £1.3bn of liquidity at the end of 2022. That should tide it over until it becomes free cash flow positive, perhaps from 2026, according to Visible Alpha. But investors’ patience has been sorely tested already. Even after the surge, Ocado’s shares are 80 per cent below their pandemic-era peak. The group has underperformed the FTSE 100 by 45 per cent over the past five years. 

How can it reverse this trend? A good start might be to offload its UK retail business, now a joint venture with Marks and Spencer. More than two decades after it was founded — during which it lost a cumulative £1.5bn — it remains subscale and slipped into negative ebitda in 2022. The shareholder pact with M&S envisages a first potential exit chance next year.

That would leave Ocado as a pure-play technology company. It has developed proprietary supermarket-sweeping robots, which can tell a potato from a parsnip and fill shopping baskets at lightning speed. These have impressed major clients, including Kroger in the US. By 2031, there will be 60 Ocado-powered warehouses in the world.

While this business at present provides 12 per cent of revenues. It is scalable and should produce 20 per cent-plus internal rates of return, according to Bernstein analysis.

Amid the crowd of UK groups contemplating a move to the US, Ocado makes a good candidate. As a pure-play tech, it might then truly attract serious bids, not to mention a higher valuation. The group achieves 1.5 times its sales, well below what it could achieve as an automated logistics specialist. It could be worth up to 10 times, thinks Peel Hunt.

Ocado’s technology business may well be at the foothills of an ecommerce El Dorado. But plenty of upfront investments still need to be made. Equity holders will not finance those needs indefinitely. If the right sort of approach came along, shareholders should consider lining up at the checkout.