The online supermarket's shares take a beating on disappointing results.
Even before online supermarket Ocado (LSE: OCDO) floated on the stock market in July 2010, I warned the Fool audience to avoid its shares.
No to Ocado shares
I've since repeated this warning several times, because I'm sceptical of Ocado's business model and, in particular, the sustainability of its growth and earnings.
Founded by three ex-Goldman Sachs (NYSE: GS.US) bankers in 2001, Ocado has never made an annual profit, despite a decade of investment and growth. However, it did make a tiny pre-tax profit of £200,000 in the 24 weeks to 15 May, and aims to make its first full-year profit this year.
However, the FTSE 250 firm's latest results -- released this morning -- give me cause for concern, because sales growth is slowing and margins are slipping.
In the 36 weeks to 7 August, sales rose almost a fifth (20%) to nearly £445 million. However, in the last 12 weeks of that period, sales growth dropped below 17% as Ocado shoppers feel the pinch in this new age of austerity.
Even so, the average number of Ocado orders per week leapt almost 20% to nearly 111,000, but the average spend per delivery slipped 2% to £111.
Great service, bad investment
This slowdown in growth sent investors rushing to the store exits. As I write, Ocado shares have slumped more than 13% to 116p. At this price, the retailer's market cap is down to £650 million.
Alas, Ocado would be growing faster, were it not for capacity constraints at its Hatfield customer fulfilment centre (CFC). Ocado continues to invest in the CFC, setting a year-end target of 140,000 weekly deliveries. Also, the retailer is building a second CFC in Warwickshire, on time and on budget.
One thing that separates Ocado from rival retailers is its superb customer service.
My wife orders an Ocado delivery every week (using its Ocado Delivery Pass) and is delighted with this service. For example, when goods don't live up to expectations (such as last week's pithy peaches), a no-quibble refund promptly arrives. What's more, orders are usually perfect, plus Ocado drivers always turn up on time and are a credit to their firm.
Even so, first-class customer service doesn't make for a first-rate investment. Ocado's track record and lack of solid fundamentals make its shares very hard to value. In addition, Ocado may need to sell more shares to raise additional cash.
Although it has cash at hand of close to £100 million, Ocado also has debts exceeding £89 million (plus an undrawn credit line of nearly £95 million). Producing sustained profits will require more investment, which means that Ocado may have to ask its shareholders for a future cash injection.
Thus, in this fragile retail environment, I won't be queuing up at the till to buy Ocado shares. That said, my interest would grow were Ocado's share price to drop below, say, 80p.
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