Earlier this year, Ocado Group (LSE:OCDO) tumbled out of the FTSE 100. The relegation to the FTSE 250 had been coming for a while, as the market cap was shrinking due to the falling share price. Down 38% over the past year and a whopping 80% over the past three years, it hasn’t enjoyed the best time. However, there comes a point when it might become a cheap value stock. And now could be the time.
The case to buy
Despite the share price fall, the business is growing in terms of revenue. In 2023 the firm posted the highest revenue yet of £2.83bn. Even though it still posted a loss before tax, it was smaller than the loss from 2022.
Due to the nature of operations, Ocado does need to scale in order to become profitable. For example, the large customer fulfilment centres are expensive to build and can take several years before the financial benefits are felt.
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Ocado opened three during 2023, with more expected this year. It’s only a matter of time before the added revenue from this division helps to push the firm to a profit.
As for Ocado Retail, the joint venture with Marks & Spencer in the UK, it continues to grow. The 2023 report commented that this division “has had significant success growing customer numbers, taking online grocery market share”. This is a competitive space, and again time is needed to chip away at the existing market players.
The bottom line here is that if given enough time, Ocado could become a profitable firm. At that point in time, the share price would likely be higher than where it is right now. So it’s the long-term vision that an investor would need to think of this as a bargain value stock right now.
Why I’d stay away
It’s hard to say whether the stock is cheap right now because I can’t use some conventional metrics to find a valuation, as it is loss making.
However, consider this. Even with the falling share price, the market cap is still £3.12bn. In comparison, Man Group has a market cap of almost the same value. Yet the investment manager generated a profit after tax of £181m last year, and has been consistently profitable for years.
So if I’m looking for a company of that size, I think I can find better value from a profitable firm.
Another angle is that Ocado Group might be cheap now, but there’s nothing to say that it won’t get cheaper in the future. It could continue to fall, for example based on the higher debt levels. Debt rose from £577.1m in 2022 to £1.08bn in 2023.
If losses continue and debt keeps rising, the share price should fall as intrinsically the business is worth less.
High risk, high reward
I won’t be buying Ocado shares as a value play. I think there will come a time for me to buy, but I don’t think it’s right now.
However, if I was more of a high-risk investor, I’d consider buying. If the business can flip to being profitable within the next couple of years, the rally in the share price could be considerable!
