Ocado - Leveraging the business.
All,
Please find our slightly updated analysis here.
Operationally, Ocado is improving. The Retail JV is seeing growth again. The operational leverage of the Technology business is bigger than we thought, and the EBITDA contribution is growing faster than we expected. The roll-out of CFCs continues but at a slower pace than Ocado had expected, but is still close to our model.
Investment Considerations:
- The December 2025 SUNs currently yield 7.3%, with the 26 and 27 SUNs yielding 9.5% and 11.3%.
- The 26 and 27s look better value than 2025, but we see this is close to equity risk, and at 11%, we are not tempted, considering said volatility and the back-dated economics.
- The cost of capital will rise with the new issuance, so management is unlikely to refinance the whole debt structure in 2024.
- Management does not intend to allow the 2025 convertibles to become current, so a Q4 call is likely; the 2026 SUNs and the 2027 Converts mature within three months of each other so Ocado will need to deal with both simultaneously.
- Ocado still looks like an equity story and must draw a less conditional line to generating fees for capacity provision to persuade debtholders to invest.
- The 50% of the retail JV is worth about £470m to Ocado. The logistics is around £1.0bn, which covers the debt. However, Technology is some years from being free cash flow positive, making the valuation very sensitive to any delay in the build-out.
- The fact is that this will shuffle along for some time before cost and value become clear, but there is still a monster equity cushion behind us.
24H1 beat our expectations:
- Results were ahead of our expectations, and despite the slowdown in the CFC roll-out, they are encouraging. Revenue at the M&S JV was higher than forecast, but margins are still lagging. Operating cash flow aligned with our forecast, excluding the £49m AutoStore settlement. Capex was £100m lower than we originally forecast as the CFC roll-out slowed. Negative free cash for FYE24 will be £150m less than last year (up from a £100m improvement). Higher EBITDA is part of the story, but the improvement is mostly due to lower capex and the Autostore settlement.
- Technology: Full-year margins will be in the mid-teens as the operating leverage in the division is impacting faster than our model. Ocado also claims that the Re-Imagine cost-saving programme is boosting profitability, which will have helped. The contribution margin from installed live modules reached 71% and is forecast to rise to 80% over time.
The roll-out of CFCs has slowed, but two new sites (with eight modules) are due to open in 24H2. Ocado needs to continue adding orders from grocers.
- Retail JV: The better top line will relieve Ocado as it negotiates with M&S regarding a valuation of the business. Volumes and profitability are guided to continue to improve in H2M&S said some nice things about the JV at its AGM, which indicates some thawing of relations. Ocado still holds the contingent payment from M&S at £28m in its balance sheet; we view this as a bargaining chip in the eventual acquisition of Ocado’s stake in the JV. The sooner the M&S business converts to a facility revenue stream (like other Technology customers), the better for both Ocado and M&S.
I look forward to discussing this with you all.
Regards,
Aengus
T: +44 203 744 7055