- The Observer, Sunday 21 February 2010
The 1.2 million sq ft Ocado warehouse in Hatfield, Hertfordshire. Photograph: David Levene
Ocado, the online grocer, is insisting this weekend that it is still on track for its biggest delivery to date – a £1bn stock exchange listing.
Volatile markets have scuppered a string of high-profile flotations in recent weeks, including that of fashion chain New Look, and fuelled speculation that Ocado, which has not booked a true profit despite eight years in business, is also headed for disaster.
But the company's finance director, Andrew Bracey, tells the Observer nothing in its plans has changed: "A listing will enable us to raise the capital we need to grow more quickly."
Customers may love the smiling van drivers who deliver Waitrose delicacies to their door, but the business community has not always been so enamoured of Ocado: Tesco boss Sir Terry Leahy once described the serially loss-making enterprise as a "charity".
"Ocado begins with an o, ends with an o and is worth zero," says Ambrian analyst Philip Dorgan, who calculates that since making its first delivery in 2002 Ocado has achieved sales of £1bn but racked up pre-tax losses of £321m in doing so.
The lack of profit has not deterred a string of illustrious backers. Al Gore, the former US vice-president, Jorn Rausing, the Tetra Pak billionaire, and Procter & Gamble have all pledged funds on Ocado's as-yet-uncompleted journey towards pre-tax profitability. Indeed, the company is estimated to have raised in excess of £300m in equity since it started life in 2000, more than any other European internet start-up.
The credit for Ocado's ability to seduce investors is laid at the door of its founders, Jonathan Faiman, Tim Steiner and Jason Gissing: three suave former Goldman Sachs bankers. "Tim Steiner is a genius and very persuasive," says one associate. "They are salesmen selling a dream."
A child of the millennium, Ocado set out to challenge home-delivery giants Tesco, Sainsbury's, Asda and Morrisons. While rival supermarket chains fill internet orders by dispatching items from the shelves of their local stores, Ocado has pioneered a centralised business model based around a hi-tech hub in Hatfield, Hertfordshire. Bracey says the investment case for the business is strong: like-for-like sales growth is "above 25%" and the business regularly books sales of £10m per week.
The flotation candidates that sank – New Look, travel services and IT provider Travelport, and Legoland owner Merlin Entertainments – all had one thing in common: private equity ownership. Fund managers, newly cautious after getting their fingers burnt buying shares in other private-equity-owned businesses that had been returned to the public markets in poor health, steered well clear, particularly when there was a lot of debt on the balance sheet. Bracey says Ocado is different: "We are growing at a very good pace and don't have much debt. Also, grocery retailing is the biggest and most stable part of UK retail."
Ocado has borrowings of close to £100m and the flotation's proceeds would be used to pay them down as well as to open another warehouse. Some retail experts argue, however, that the first warehouse will never pay for itself, never mind adding another one. Neither Asda nor Sainsbury's are thought to make a profit from their online food business, although Tesco says it does.
"The clever thing about supermarkets is customers do all the work," says one analyst. "Shoppers walk round, do their shopping, unload the trolley, then carry it home. For the same margin, Ocado is doing all that for them." Ocado counters that Hatfield can handle annual sales of £1.3bn – more than twice its current rate of £500m – and will pay its way once its vans are travelling further afield.
Analysts are also perturbed by the online grocer's seemingly unhealthy relationship with Waitrose, whose parent, the John Lewis Partnership, owns a 28% stake. Ocado has a five-year deal to sell Waitrose products within the M25, but regularly sells Waitrose own-label lines at lower prices than the retailer's own stores. In addition, the upmarket grocer is developing a competing web business, Waitrose Deliver.
John Lewis, one of Ocado's original investors, put some distance between it and Waitrose in 2008 when it transferred ownership of its stake – at that time valued at £128m – into the John Lewis pension fund. But it says it is "supportive" of Ocado's listing and maintained its holding by participating in the company's most recent fundraising.
Bracey says Ocado has an "excellent" relationship with Waitrose and expects the companies to continue to work together after the current contract between them expires in 2013.
Ocado's credibility in the City was boosted by the fundraising in September last year, which saw Generation, the investment firm chaired by Gore, invest £7m. Fund manager Fidelity International, an early backer of Google, also climbed aboard. Procter & Gamble, however, opted out of buying more shares.
Bankers estimate that a flotation priced at about £1bn would be realistic – a price that would deliver multimillion-pound fortunes to its three founders, who together own a fifth of the equity, as well as a substantial return for the John Lewis pension fund. John Lewis is expected to reduce its stake, as the pensions fund's trustees have an estimated £900m deficit to plug.
Credit Suisse analyst Andrew Kasoulis says the Ocado business model isn't so much "unproven as unknown". "The business is very complex and not something retail analysts have come across before," he says. "We don't know the rate at which internet food sales will continue to grow, but Ocado feels like a big growth opportunity and needs funds to do that."
It is also wrong to focus purely on Ocado's finances when arriving at the valuation, adds Kasoulis, as there is a decade of intellectual capital tied up in the business. "The valuation debate is more interesting because there is no precedent. Is this Amazon or is it Tesco?"
Ambrian's Dorgan is considerably more sceptical. "Ocado has been likened to Marmite – 'either you love it or hate it' – but it's really snake oil," he says.
The jury may be out, but Bracey remains optimistic: "I think we are quite an attractive candidate to list," he says. "We're not private equity."