Key Takeaways
- Ocado is under pressure after a key US customer casts doubt on the future of their business partnership.
- Shares in Ocado are down 92% over five years.
- Dominant rivals Sainsbury’s and Tesco have posted strong gains this year.
Shares in UK-listed Ocado OCDO tumbled nearly 20% on Sept. 12 as investors digested the news that US food retailer Kroger, Ocado’s only customer in the US, would be evaluating their partnership.
This fall in the UK online grocery stock erased the gains of the August rally and leaves the shares down around 30% in the year to date. Shares in the former FTSE 100 member and retail investor favorite are now down 92% in five years.
Verushka Shetty, equity analyst at Morningstar, says in the worst-case scenario, the ending of the Kroger partnership would make it more difficult for Ocado to foster future partnerships, not just in the US.
“No site closures have been announced yet and Kroger’s e-commerce business is still expanding. However, installing Ocado’s end-to-end solution is timely and expensive, and there are many alternatives that are a fraction of the price,” she says.
But this Ocado selloff did not lead to sectorwide weakness. Larger rivals, Tesco TSCO and Sainsbury’s SBRY, continue to trend upward, with total returns of around 20% so far, in line with the performance of the Morningstar UK Index.
After the Fall, Are Ocado Shares a Buy, Sell, or Hold?
No moat Ocado is considered undervalued by Morningstar’s Shetty and is trading in 4-star territory. At 225p its shares now trade significantly below its fair value estimate of 300p. Morningstar’s Radu says the coronavirus pandemic brought demand to Ocado Retail and solutions, but e-grocery growth has moderated in the last few years.
“Ocado’s growth hinges on e-grocery secular expansion, and the firm must successfully launch fulfillment centers to capture its share of the pie. Current partners are rethinking commitments made during the pandemic, raising uncertainty about the future of Ocado’s installed base,” she says.
Are Tesco and Sainsbury’s Shares Undervalued or Overvalued?
In the world of physical supermarkets, Morningstar has just reinitiated coverage of both Tesco and Sainsbury’s.
No moat Tesco is trading as a 3-star stock and is considered fairly valued. At around 432p, its shares are trading at a slight premium to its fair value estimate of 407p.
In Shetty’s view, Tesco has completed a successful turnaround by reorganizing the business, shutting down unproductive international subsidiaries, and reassessing its UK store footprint. The UK’s largest supermarket is Morningstar’s top pick in the European grocery sector.
No moat Sainsbury’s is also trading in 3-star territory and is fairly valued. Sainsbury’s stock trades at 325p at a discount to its fair value estimate of 341p.
Morningstar’s Shetty notes that Sainsbury’s possesses a strong market share in London and the southeast of the UK, regions with high incomes and favourable demographics.
But the company must contend with the highly competitive UK grocery market, with hard discounters like Aldi and Lidl stealing market share.
While Marks & Spencer MKS is not a “pure play” supermarket like Tesco and Sainsbury’s, it has a presence in the UK grocery market with its retail partnership with Ocado. According to retail analyst Kantar, M&S has a 4.5% market share in the UK grocery market. The company’s shares are off 8% this year, but have risen nearly 300% in five years, and are considered fairly valued according to Morningstar metrics.
