Ocado Group (LSE: OCDO) has always seemed something of an enigma to me. The company started out as simply an online supermarket, at a time when Tesco and the rest were seeing demand for their home delivery services rising strongly.
At flotation in 2010, the shares were strongly subscribed and the price soared way above what seemed to me like a rational valuation.
Admittedly, Ocado doesnt have the overheads of a large chain of stores to deal with and delivers solely from its warehouses. But I couldnt see where the profit was going to come from to justify that early share price.
Eight years on, the share price has climbed a lot further. At 1,308p at the time of writing, Ocado shares are up nearly 150% in just the past 12 months, so whats happened?
Its down to partnerships, with the firms recent tie-up with Marks & Spencer (LSE: MKS) providing a big boost.
New contract
The latest news Tuesday is of another deal, this time with Australias Coles Group to develop its online groceries business based onthe Ocado Smart Platform. If you dont know who Coles is, its one of Australias biggest retailers and already commands online sales of around A$1bn a year.
But Ocado still isnt making any profit, and theres none on the cards as far as forecasts go. So how can we justify the lofty share price?
Well, its all about thatOcado Smart Platform thing. Ocado isnt an online supermarket any more, its a technology provider and we all know technology shares can keep climbing regardless of profits. Oh, hang on, Ive just remembered what happened last time.
Ocado may well prove successful by licensing its technology and its patents, but until there are some profits and some way of quantifying the firms value, Im steering well clear.
Strategy shift
Speaking of Marks & Spencer, thats another Ive always seen as somewhat enigmatic. For decades, the company has enjoyed roaring sales in its food division but has struggled to keep up with clothing trends, so its focused most of its efforts on the latter but with little success.
Despite its best efforts, M&Ss earnings have been unexciting, and have actually been falling for the past couple of years. But a 40% share price slump in five years has dropped the stocks P/E valuation as low as 10, and pushed dividends up to more than 6%. For an investment, you could certainly do worse than that.
But things are up in the air again after M&S announced its tie-up with Ocado, focusing on the part of its business that it actually does best.
Raising cash
The deal involves Marks & Spencer shelling out 750m for a 50% stake in Ocados UK retail business, and that will be paid for by a combination of a 600m rights issue and a cut in the dividend.
Something that immediately springs to mind is that M&S is buying into Ocado at a time when Ocado shares are soaring, funded by a rights issue at a time when M&S shares are close to a five-year low but I guess thats timing for you.
Would I buy M&S shares now? Not with the new uncertainty. But then, I wouldnt have bought them before the Ocado deal, not when there are so many better options out there.
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