After surging in value at the start of the pandemic, the Ocado (LSE:OCDO) share price has struggled. Over the past year, it has dropped just over 20%. For a while now, I’ve steered clear of the company, given the falling share price and steep valuation. However, with the shares rising 7% last month, could this be the start of another rally for the business?
Gains during the pandemic
At the start of the pandemic, it was clear why Ocado could benefit. The online grocery retailer had the perfect logistics and website set-up to deliver to people stuck at home. Lockdowns meant that even if people could go to supermarkets, many preferred to stay at home for safety. This meant that the Ocado share price doubled in value over the course of 2020.
Even before we came into 2021, it became apparent to me that the valuation of Ocado was becoming stretched. In November of last year, I wrote about the £19.3bn valuation that the company had at the time. This was when the share price was around 2,600p (it’s under 2,000p today). By comparison, other supermarket chains had a larger market share but a lower valuation in some cases.
For example, the Tesco market cap was £21.3bn. J Sainsbury was £4.47bn, with Morrisons at £3.95bn. I thought that this could lead to the Ocado share price falling as investors caught up to this fact.
From a fundamental view as well, Ocado has become a less compelling buy this summer. With restrictions being completely lifted, people are happier to go back to physical stores. The vaccination rate is also very high, which suggests we’re unlikely to need another national lockdown as seen in 2020. Both reasons don’t support another surge in the share price.
Uncertainty around the Ocado share price
In the short term, there has been a pop higher in shares. Some of this relates to the half-year results released in early July. The Retail division showed an increase of 140k active customers versus the same period last year. The rise in orders per week was 20%. And growth is still being pursued, with 12 new fulfilment sites being targeted over the next three years.
Most of the growth during this period (24.1%) was driven by the Retail segment, although Ocado does have tech, logistics and other arms worth noting. Yet ultimately, the company is still loss-making. For H1 2021, it lost £23.6m.
I think investors took the report as a positive overall given the Ocado share price level. But I still have concerns about whether this rally can be sustained. The valuation has cheapened, but still looks expensive to me considering the losses generated. Even if I were to look ahead and buy the stock for future growth, I’m not convinced. It’s true that Ocado could retain most customers gained from the pandemic, but I expect order size and frequency to shrink as normality continues to resume.
Overall, I don’t think the short-term pop is going to lead to something more. Therefore, I won’t be looking to buy shares in Ocado anytime soon.
