Why Jefferies thinks Zomato shares can reverse course and more than double

zomato

Indian Market
by 5paisa Research Team Last Updated: 2022-07-26T14:26:49+05:30

Food delivery company Zomato has been having a horrid 2022, with its shares sinking deeper and deeper.

Since the beginning of the year, the well-known but often controversial food delivery company has shed almost 70% of its value, leaving its investors high and dry.

The last two days have been especially bad for the stock as its IPO lock-ups ended and its pre-IPO investors began bailing out. On Monday, Zomato was down as much as 14% and on Tuesday it fell as much as 13% before recovering a little to trade 9% down at Rs 43.15 apiece in late afternoon.

Zomato’s July 2021 IPO had raised $1.3 billion and had attracted a host of investors including Morgan Stanley and Fidelity. China’s Ant Financial had been an early investor in the firm, which had come on board in 2018 and held a 16% stake in Zomato before the IPO.

The Zomato stock did surge after listing and touched an all-time high of Rs 169.10 in November last year. But then it began sliding lower and lower and is now down 43% from its IPO price of Rs 76 per share. This, even as the benchmark Nifty 50 index has returned nearly 4.9% since then.

Is a falling share price Zomato’s only major concern?

Not really. Zomato has been facing a lot of bad press especially in the wake of its announcement that it will deliver prepared meals in under 10 minutes. Moreover, it faces competition from the likes of Naspers-backed Swiggy and Amazon. Its recent acquisition of quick delivery app Blinkit, too, has drawn criticism from investors and analysts as the latter has been burning cash, making its independent existence unviable.

Moreover, reports suggest that Domino’s India has said it could take some of its business away from Zomato and Swiggy, if their commissions rise further.

Zomato and Swiggy have also been under the scanner of the Competition Commission of India (CCI). The CCI had sought responses from Domino’s and several other restaurants as part of an investigation on alleged anti-competitive practices of Zomato and Swiggy.

This comes months after the National Restaurant Association of India (NRAI), which represents more than 500,000 restaurants, asked the CCI to investigate the food delivery companies for breaching platform neutrality by providing priority to exclusive contractors.

The NRAI also alleged Zomato and Swiggy of misusing consumer data to build cloud kitchen and charging exorbitant commissions along with providing massive unfair discounts.

The CCI has noted that there is a conflict of interest in the case, both with regard to Swiggy as well as Zomato. In response, Zomato has said it will explain to the competition watchdog that it follows relevant laws and said it intends to comply with any recommendations given by the CCI.

So, is the party over for Zomato’s investors?

Not really. Brokerages like Jeffries think Zomato is a great case to buy. Jefferies has set a target price of Rs 100 for the Zomato counter.

“Worries of Fed tightening and investor focus on cash flow have been weighing on the Internet names, including food tech, globally. From an exuberance at the time of listing last year, Zomato is now unloved, having underperformed its peers year to date. The Blinkit acquisition elongates path to profitability and despite management guidance on a break-even in food delivery, investors are not giving much benefit of doubt,” said Jefferies in a note.

Jefferies also said that Zomato’s management has accelerated its journey towards better unit economics and is now eyeing a break-even in the food delivery business in the foreseeable future. It noted that Zomato’s adjusted Ebitda losses for Q4 FY22 was less than $30 million, with food delivery losses at $10 million.

The brokerage house said it expects this to get better quarter after quarter now as management lowers its customer acquisition cost by tapping into its monthly active users to drive monthly transaction volumes, reduces discounts, and increases take-rates, among others.

“The only exception to management’s conservative stance is its decision to buy Blinkit, which may be driven by FOMO or protect its food delivery turf, as highlighted post acquisition,” Jefferies said.

It also said that the time horizon will be probably longer for the management as against investors as this business will likely be cash guzzler in the medium term. Zomato itself has guided for $400 million of investment over the next two years.

“This remains a medium-term concern for investors as this would weigh on company profitability,” Jefferies said.

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