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Ocado is now worth as much as Tesco. Here’s the one I’d buy

Alan Oscroft
·3-min read
Businessman standing in front of screen
Businessman standing in front of screen

Ocado (LSE: OCDO) briefly leapfrogged Tesco (LSE: TSCO) as the FTSE 100‘s most highly valued retailer this week. That’s astonishing.

The two are jostling for the top valuation spot, and they’re pretty much neck and neck as I write these words. The market capitalisation of each stands at almost exactly £21bn. At this week’s peak, though, Ocado reached a valuation of £21.7bn, putting a bit of clear space between it and its rival.

The two share prices have performed very differently this year. In 2020, the Tesco share price has fallen 17%, better than the FTSE 100’s 21% drop, but not by much. In stark contrast, Ocado shares have soared by 120%.

The Covid-19 pandemic and lockdown lie behind all this, of course. But what 2020 has really done for me is hammer home that the move to online shopping and home deliveries is a one-way shift. I really can’t see people going back, now they’ve sampled the convenience.

The market is potentially enormous too. Estimates for Tesco’s online sales put their 2020 value at around £5.5bn, from about £3.3bn in 2019. And online sales still only account for around 16% of Tesco’s total.

Tesco vs Ocado

How do we put the cultural change and these vastly different share prices into any kind of perspective? It isn’t easy. For one thing, the market shares of the two companies are vastly different.

According to figures from Kantar, Tesco currently controls 26.8% of the UK’s groceries market. Ocado, by contrast, has just 1.7%. So how can the two companies possibly command almost identical market valuations?

That question betrays a misunderstanding of how the market sees the two. It’s a misunderstanding I used to share, but the market view of Ocado has evolved. Today, Ocado is not seen, or valued, as a supermarket like Tesco. No, it’s treated as a technology company, able to provide the entire set of control software and infrastructure for retailers around the globe to set up their own operations.

The company has deals in place in the US, Australia, France, Canada and in Sweden. Its offering has the potential to transform a humble supermarket chain into a sleek online retailer fit to compete with the best.

Growth valuation

You can see the way groups of investors chasing hopes of technology-led growth have pushed Ocado shares way ahead of Tesco. There are big spurts for Ocado in 2018 and 2019, following on from the ‘just another supermarket’ years. The 2020 climb dwarfs them both though.

That brings me to the bottom line. To the thing that so often trips up a soaring growth stock. Ocado is not making any profit. And analysts are forecasting pre-tax losses of around £150m per year for at least the next two years. Sure, revenue is climbing. But until that translates to profit, there are very few quantitative metrics we can use to try to work out a sensible valuation.

Give me the cash

Tesco, meanwhile, is nicely profitable and paying good dividends. And its shares are valued on only modest forward P/E multiples. I’d buy Tesco today, and leave Ocado for those willing to take on the ‘jam tomorrow’ risk.

The post Ocado is now worth as much as Tesco. Here’s the one I’d buy appeared first on The Motley Fool UK.

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Alan Oscroft has no position in any of the shares mentioned. The Motley Fool UK has recommended Tesco. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

Motley Fool UK 2020