After falling 60%, is the Ocado share price a bargain?

The Ocado share price has fallen heavily in the past year. But our writer is still not buying it for his portfolio. Here he explains why.

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It has been a disappointing year for investors in retail technology expert Ocado (LSE: OCDO). Its share price has tumbled 60% over the past 12 months. But several directors have been buying the shares this month. Is the current price a possible bargain for my portfolio too?

Tech worries

A fall in many tech shares over recent months has not helped sentiment towards Ocado. But I think the share price fall reflects broader concerns, about whether Ocado can really benefit from the benefits enjoyed by many tech business models.

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One of the reasons successful tech companies often attract high valuations is because of their “scalability”. Once they build a platform, adding new users has a low marginal cost. That can lead to big profits if the user base grows big enough.

But Ocado does not really fit that model, in my view. While its tech may be scalable, the firm is also in the business of building and operating physical distribution centres. That imposes costs on the company that many tech firms do not have to incur.

Grocery market pressures

That is not the only thing weighing on the Ocado share price. Its most recent trading update trumpeted a 31% increase in the company’s active customer numbers year-on-year. Despite that, and an increase in order numbers, retail revenue actually fell 5.7%.

Customers are spending less when they shop, which could hurt the profitability of individual orders. Servicing more customers to make less money from sales does not sound like an attractive business proposition to me.

Inflation is another worry for the company. In the statement, Ocado noted its impact on the grocery industry generally. That could add more costs for Ocado.

Such costs reduce profitability. That was already a concern for Ocado. Last year, it was again loss-making, with pre-tax losses more than tripling to £177m. That partly reflects the ongoing capital expenditure costs associated with increasing the B2B customer base for Ocado’s technology. But I see a risk that could happen again, due to the company’s business model.

My next move on the Ocado share price

On the positive side, the investment in Ocado’s technology today should hopefully help it reap rewards in future. It has built a strong position in the market for grocery delivery technology, which I expect to grow in years to come.

But the loss-making company continues to face challenges that could hurt profits. I see an ongoing risk of rights issues to raise cash. That could dilute the stakes of current shareholders. Despite the Ocado share price falling, the company continues to have a market capitalisation of £6bn. That looks expensive to me. I do not see the share as a bargain and will not be adding it to my portfolio.

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Christopher Ruane has no position in any of the shares mentioned. The Motley Fool UK has recommended Ocado Group. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

Should you invest the value of your investment may rise or fall and your Capital is at Risk. Before investing your individual circumstances should be considered, so you should consider taking independent financial advice.

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