Zomato IPO: Investors looking for clear path to profitability, say analysts

The growth versus profitability debate in the context of Zomato seems to be already heating up ahead of the company’s initial public offering (IPO) planned later this year. According to analysts at Jefferies, while one set of investors are looking at Zomatos’ growth metrics even at the cost of medium-term profitability, the other camp is looking for a clear path to profitability going ahead. Potential competition from Amazon, Thrive etc. is also on investors' minds and so is the dynamics between Zomato and Swiggy, they said.

“A few investors are concerned that Swiggy, given its unlisted status, may have less investor pressure on profitability versus Zomato, which will have public market shareholders,” wrote Vivek Maheshwari, Jithin John and Kunal Shah of Jefferies in a June 7 note.

Questions are also being raised on the utilisation of Zomato’s IPO proceeds, Jefferies said, given the lack of clarity on this issue as things stand. The proposal to raise Rs 8,250 crore, or over $1.1 billion, through its initial public offering (IPO) makes this IPO one of the largest by a consumer internet company in India. There has also been a fair amount of discussion on Zomato's presence in segments like hyper-pure, dine-out subscription and the recent foray into nutraceuticals. Investors, however, have been surprised with the reluctance on trying grocery or hyperlocal opportunities.

“In the context of nearly $2 billion of cash on books post IPO, there are questions on its usage, where there is lack of clarity now. We, however, highlight that until usage is identified, this cash would earn other income, which means profit before tax (PBT) breakeven could be ahead of Ebitda, other things being the same,” Maheshwari, John and Shah wrote.

On its part, Zomato has said that it plans to use part proceeds to fund organic and inorganic growth, including customer and user acquisition, delivery and technology infrastructure, and acquisitions.

“Only large players that have deep pockets and a steady backing of funds / investors will be able to sustain and turnaround their businesses going ahead. Over the next few years, a healthy demand for their products, consistent funding along with a check on overheads will be key to success for players like Zomato etc.,” says G Chokkalingam, founder and chief investment officer at Equinomics Research.

According to a recent report by Anand Rathi Securities, food consumption in India in 2019 stood at around $670 billion, mostly driven by home-cooked food. Food Services, defined as non-home-cooked food or restaurant food, now contribute only around 10 per cent to the food consumption market.

Zomato, Jefferies said, has seen a ten-fold growth in user base (MTU) between FY18-20 to 10.7 million. While the pandemic negatively impacted MTUs, average order values (AOVs) have spiked. Earlier in the first quarter of fiscal 2020-21 (Q1-FY21), its gross order value (GOV) dipped sharply as Covid-19 outbreak led to imposition of a country-wide lockdowns and restaurants temporarily suspended operations. There was also a hesitance amongst consumers to order food.

“Delivery GOV on Zomato declined around 60 per cent QoQ from over Rs 25 billion in Q4-FY20 to nearly Rs 10 billion in Q1-FY21. Recovery was also swift as restrictions were eased and consumer hesitance to order food abated. GOV pickedup sequentially and reached pre-Covid levels in Q3-FY21. GOV in 9M-FY21 stood at Rs 62 billion versus Rs 112 billion for the full year FY20,” Jefferies said.

Contribution per order for Zomato stood at over Rs 20 in nine months of the current fiscal (9M-FY21) compared to (-) Rs 50 in FY20. “Post normalisation, in case of a mean reversion on AOVs, even if slightly higher than FY20 levels, contribution could stay positive and the medium-term sustainable level. Also, despite better trends, 9M-FY21 Ebitda has been at (-) Rs 3.1 billion and hence, the timeline on break-even is on some investors' minds,” the Jefferies note said.