Rising pressure on grocery shoppers’ wallets continues to make me give Ocado (LSE: OCDO) extremely short shrift.
Stock pickers have been piling into the online specialist with gusto however, despite the extremely sticky earnings outlook for the country’s supermarkets. Indeed, the stock has gained 22% in value over the past month, leaving the business dealing at quite ridiculous valuations.
For the year to November 2017 Ocado sports a gigantic P/E ratio of 259.4 times. This figure soars above fellow London-quoted supermarkets Tesco and Sainsbury’s (these firms carry multiples of 19.4 times and 14.2 times respectively). And I cannot fathom why the internet specialist boasts such a high rating given its lack of obvious growth drivers.
Sparking into life
Ocado has exploded following a report by The Telegraph touting a potential tie-up with another British retail colossus. The paper reported that a deal was about to be explored for Ocado to begin delivering Marks & Spencer’s edible offerings.
Aside from the fact that such talk remains rumour at this stage, I believe the potential rewards of such a deal could be less than anticipated as rising inflation could also dent demand for the expensive foods sold by Marks and Sparks. And of course these same pressures could batter Ocado’s top line in the months ahead.
At first glance my fears concerning Ocado’s earnings outlook may be looking a tad overplayed. As Kantar Worldpanel notes, its growth rate of 10.8% is bettered only by German cut-price operators Aldi and Lidl.
But one cannot discount the possibility of Ocado extending the anticipated 41% earnings slide for the current fiscal year as a combination of increasing economic difficulties and rising supplier costs weigh.
Sure, the company’s focus on filling the cupboards of more affluent Britons may leave it less exposed to the mid-tier operators. However, Ocado is not immune to broader movements in consumer confidence, as Sainsbury’s will attest to. And should the London firm’s sales rate begin to slow, investors may consider the business undeserving of its premium rating and kick it to the kerb.
Power play SSE (LSE: SSE) has also seen investors pile in with gusto in recent times, the stock shooting to levels not seen since the start of January, above £15.50 per share this week. In total the supplier has seen its value explode 10% over the past month alone.
But I believe the business, like Ocado, is loaded with far too much risk at the present time. Not only does SSE continue to be battered by the rise of cheaper, independent suppliers (the company lost 190,000 customers in the 12 months to March 2017), but the potential price cap touted by the governing Conservative Party could add another devastating effect to SSE’s revenues picture.
The City expects earnings at SSE to fall 3% in the year to March 2018, resulting in a P/E ratio of 12.8 times. Although cheap on paper, I reckon the strong prospect of earnings downgrades in the near term — not to mention the uncertain regulatory outlook for profits further out — still makes the supplier a gamble too far.
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Royston Wild has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. 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.