MONDAY VIEW: Why I still have nagging doubts about Ocado¿s latest offerings as it celebrates new partnership with Morrisons
I never set out to be the biggest critic of Ocado. I am a big believer in online retailing, how its growth will improve people’s lives and also destroy many household names.
By 2020, I expect that 20 per cent of retail sales will be transacted online. That is 30 per cent in non-food and 10 per cent in food.
Therefore, I would really love to love Ocado, but I have never found myself able to do so, despite a few flirtatious glances.
That said, I must admit to getting a shock when I began to take in the details of its long-term agreement with Morrisons.
While I had attempted to include any potential tie-up with Morrisons in my valuation of Ocado, there were a number of details which took me by surprise.
The main one was that I had not expected Morrisons to sign a 25-year deal. 2.5 years is a long time in online retailing.
More... Sir Stuart Rose £1.5m richer in Ocado deal with Morrisons Proof that shoppers CAN get something for nothing by using cashback websitesIn 25 years, we might be having our food teleported to our table at the wink (literally) of an eye. So, 25 years seems like an eternity.
That said, this is good news for Ocado shareholders, as is much of the deal.
This isn’t a marriage, but they have agreed to live together. The deal brings in a large sum of money (up to £170million) which will provide much-needed ballast to a weak balance sheet.
It also adds ‘mid-teen million’ pounds to Ocado’s net profit in year one after the deal and a contribution to operating costs, a management fee, an IT fee, an R&D fee and a birthday present to Mrs Steiner every year.
I made the last bit up, but I think Tim Steiner and his new chairman, Sir Stuart Rose, should take a bow. Well played chaps.
However, I also have a number of nagging doubts about the deal.
First, Ocado – which picks from its two warehouses – is certainly not a proven profitable model. The company lost £2.6million after tax on sales of £664million in its last 52-week financial year.
While I expect online food to generate growth of 20 per cent a year, it has grown faster over the past 13 years (since Ocado’s launch) yet Ocado has never made money.
Therefore will Morrisons – which currently has an average transaction value of around £20 – first, be able to raise this to around £100 online and, second, even if it does, will Morrisons be able to make a profit by 2018, as promised?
If the supermarket struggles, then the 25 per cent earnings before interest and taxation share, generous though it is, will be irrelevant.
The other nagging doubt concerns the law of unintended consequences.
Ocado believes the extra research and development money will enable Waitrose to benefit even further from their current supply arrangement and therefore there is no reason why Waitrose will seek to give notice that it would like to terminate the relationship in 2015, before closure in 2017.
However angry noises from our middle class hero suggest there is, in fact, a high probability of divorce.
Now, 2017 is a long way away and already 20 per cent of Ocado’s sales are through its own label, so dependence on Waitrose is diminishing.
Just as tesco.com piggy backs off Tesco’s scale and infrastructure, the importance of Waitrose to Ocado cannot be over-stated.
We suspect Ocado management view this as yesterday’s news as the company looks forward to similarly lucrative deals overseas with other desperate souls.
This would add incremental revenue and multiple years of growth to its market-leading proposition.
I just don’t buy this. I don’t see Ocado’s software as that special and I don’t view its model as attractive enough to bricks and mortar retailers.
So I don’t believe the Morrisons deal is game-changing. There is, however, still part of me that hopes Ocado will succeed. But I just don’t think that it will.