Food retailer Ocado (LON:OCDO) recently published its 2013Q4 results, which saw sales up 20%. It collaboration with Morrisons is starting to bear fruit. There is considerable price momentum in the company, and bears are, understandably, probing for weakness to see if it’s a good shorting candidate.
Personally, I think £400m would be a more realistic valuation for OCDO, and I expect that many think it should be lower still. Even if I put on my Fantasy Hat I could only come up with a valuation of £1400m; less than half of its current valuation at £3.1b.
How did I arrive at that figure? By being really lazy and optimistic! I assumed that it could do about £4b in revenues in about 10 years. That may sound a stretch, but OCDO is growing its revenues by around 16%pa. So, it could potentially quadruple sales over 10 years. If it could earn a 3% net profit margin on that, it would be earning around £120m in a decade’s time. Slap on a pricing multiple of 15, and discount that over a decade at the risk-free rate of about 2.9%, and you come up with a valuation of about £1400m (~ 120 x 15 / 1.029^10). See, I told you I was being lazy!
I have, of course, made a vast array of assumptions which many can pick apart as laughable. The most egregious assumption I think I’ve made is that I have I am assuming that OCDO can fund expansion without tapping shareholders. That’s a big assumption, and would imply that OCDO was even more overpriced if that assumption proved to be incorrect. Deutsche Bank recently noted, for example: “Ocado’s margins were already so low that any additional investment would revive cash flow concerns”.
Digital Look reports that 2 brokers rate OCDO as a strong buy, and 5 as a strong sell. Goldman Sachs is their corporate broker, the directors have strong links with them, and, given the expansionary nature of the company, I would expect it to be a nice little fee-earner for the Goldman. Needless to say, they rate OCDO a buy. Digital Look may be a little outdated, though, as I think that Numis downgraded it yesterday from Buy to Add. I’m not sure where Numis are coming from with their recommendation. Maybe they just let the trend be their…
