Ocado surge stings short-sellers after second major international contract

Winning a contract with $24bn-sales-a-year Sobeys should create "significant long term value" for the FTSE 250 online grocery specialist, with upfront fees upon signing and during the development phase, with ongoing payments linked to capacity and service criteria.

The contract, which is structured similarly to the deal with France's Groupe Casino announced at the end of November, will see Ocado build a state-of-the-art automated warehouse near Toronto, stocked with the Ocado Solutions product-picking grid and robots, although the expected start-up costs of building the warehouse will mean the contract has a neutral effect on earnings in 2018.

Ocado said that, like the Casino tie-up, the deal will mean additional capital expenditure of £15m this financial year "to support the partnership and accelerate the development of its platform", but that next financial year and beyond should see the profitability of Ocado solutions "likely to grow" as the fees from the Sobeys deal increase "and as other deals are signed".

The contract is structured as an exclusive partnership in Canada, subject to Sobeys meeting pre-agreed capacity commitments, for Ocado to launch an end-to-end online grocery service for Sobeys. include a front-end website and mobile grocery ordering applications linked to the back-end 'customer fulfilment centre' and last-mile routing management technology to optimise delivery truck efficiency, customer service excellence and punctuality.

Sobeys president and chief executive officer Michael Medline said the company "intends to play to win in Canadian online grocery shopping" and had some very nice things to say about Ocado.

"We are very excited to bring this best-in-the-world grocery ecommerce experience to Canadian customers. This unique and innovative Sobeys and Ocado experience will offer consumers the biggest selection, freshest products and most reliable delivery available anywhere on the planet. Our end-to-end ecommerce solution will allow Sobeys to build an online offer in a manner that is profitable and creates exceptional value for our customers, investors and supplier partners."

Ocado CEO Tim Steiner, who had for several years been mocked in the City of London for his jam tomorrow optimism about a major overseas deal, leading to short-sellers still having more than 13% of the company's stock out on loan at the end of last week, said the contract was with one of the leaders in North American grocery retailing.

"Sobeys is a highly successful and much admired Canadian business and we are proud that they have chosen Ocado Solutions to partner with to build their online grocery business".

Luke Jensen, chief of the Ocado Solutions division, added: "Channel shift to online in North America is gaining pace as consumers increasingly seek the benefits of grocery shopping from the comforts of their own homes, and as retailers attempt to offer services to meet this growing customer trend."

Shares in Ocado jumped almost 13% to 465.3p on Monday morning.

Analyst Laith Khalaf at Hargreaves Lansdown said it was "a poke in the eye for the hedge funds" who have bet against the company, with the 50% share price rise in the last six months "inflicting some serious pain on anyone who has shorted the stock".

"Investors have been tempted to bet against Ocado because of its eye-watering valuation. At 140 times earnings, the online retailer looks like an extremely pricey bit of kit. However its share price is looking forward to future earnings based on licensing out its online delivery technology, rather than the revenues it’s currently making from food retail. In this respect, Ocado is more Amazon than Asda.

"Indeed, Amazon’s recent purchase of Whole Foods may well have been the big bang in the grocery market which flushed deals out into the open for Ocado. The threat of a big disruptor entering the sector puts pressure on food retailers to be on top of their game when it comes to online deliveries, and that’s where Ocado comes into its own," Khalaf said.

Neil Wilson at ETX Capital noted that as these deals are not immediately adding to earnings the share price is still trading at very high multiples, with various start-up costs offsetting initial fees in the first year.

"This is a big win for the firm and a sign that Steiner is delivering on his repeated promise to produce ‘multiple deals in the medium term’," Wilson said, noting that short interest in the stock has been as high as 20% in the past and remained high even after the Casino deal.

"Could this be the moment the shorts throw in the towel? Shares have popped more than 9% on the news with shorts squeezed again. However the high multiples for the stock mean Ocado has to keep delivering more major international tie-ups of this kind,” he said.

House broker Numis said the terms of the agreement seem to be very similar to those with Casino, initially covering CFC and with other CFCs to be considered, a two-year build time, and a deal structure which includes upfront fees on signing/development and then ongoing fees linked to installed capacity.

Numis has not yet updated its forecasts for Ocado, though. A conference call for analysts was scheduled for 1300 GMT on Monday.