Shares of food delivery major Zomato rose nearly 1 per cent in Wednesday's trade after analysts at HSBC Global Research said they expect the stock to hit ₹87 going ahead, implying an upside potential of 64 per cent from the current levels.
Zomato has lost over 11 per cent in the year-to-date period and has underperformed the S&P BSE Sensex. Despite this underperformance, HSBC has maintained a 'Buy' rating on the stock.
The food delivery industry has slowed down sharply in recent months and may slow down further in 4Q23, but the brokerage expects Zomato to reclaim its market share.
The brokerage said it values Zomato using a DCF model, employing a WACC of 10.5 per cent based on our assumptions of a risk-free rate of 2 per cent, an inflation differential of 2.5 per cent, a beta of 1.1, and a market risk premium of 5.5 per cent (all unchanged).
"Our DCF model also incorporates our Blinkit estimates. We believe consensus expectations are now a lot more realistic although they still need adjustments to bring the medium-term growth rate forecasts closer to 10 per cent for the food delivery GOV over the longer term, which, in our view, is achievable," the note said.
Moreover, analysts at HSBC said they are not overly negative on the Blinkit business and expect positive surprises on GOV growth and profitability over the coming quarters.
On reclaiming some of the market share
Zomato has started to reclaim some of the market share it lost in 2HCY22, thanks to the launch of Zomato Gold, the brokerage said.
It expects Zomato to continue to gain market share from Swiggy, led by an aggressive go-to-market strategy. "We now expect Zomato’s share to improve to 57% in FY24e. This would mean, notwithstanding the loss in 2022, that Zomato has gained 13 ppts in terms of market share from Swiggy since FY20," it said.
"We assume the hyper-growth expectations of the Street have now been suppressed, although current muted growth is likely undershooting the long-term trend. We expect FD Gross Order Value (GOV) to grow c9% y-o-y in 4QFY23, below our medium-term expectation of 15%," HSBC said, adding this seems disappointing, but there are several silver linings for Zomato investors.
In the coming quarters, as the company absorbs the impact of Zomato Gold, EBITDA margins should continue to improve. On top of this, Swiggy continues to burn a lot more cash than Zomato, the note said.
As the execution bias swings in favour of profitability, industry dynamics will be more conducive for Zomato as it looks to expand margins.
Blinkit could offer significant value-add over the long term
With regard to Blinkit, the brokerage believes that its grocery business is viable at certain economies of scale and business construct. It said that Blinkit remains under appreciated by the Street.
“Hyperlocal/Qcommerce is likely to see strong growth for a few years due to low penetration and stabilising competition. Blinkit’s current GOV run-rate is $1bn. In FY25e, the business could easily achieve GOV of $2bn, which even at 0.5x GOV could provide $1bn to the stock value (20-25% of its current EV). With increasing volumes we see the potential for quite an improvement in profitability as well," it said.
Downside risks
1. Growth in FD transacting users may be slower than expected
2. Zomato's equity investments in start-ups may not generate value
3. Competition in grocery and other hyperlocal areas may outperform Zomato and its investee companies such as Blinkit
Disclaimer: The views and recommendations made above are those of individual analysts or broking companies, and not of Mint. We advise investors to check with certified experts before taking any investment decisions.
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