30 highlights
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Never before have India’s public market investors encountered an internet stock which has never turned a dime in profit in its corporate history. Well, now we have one and we’ll see how that goes.
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On the face of it, it is important to establish what Zomato is not. It is not Just Dial, one of the famed public market internet stocks of its time. Zomato is certainly not Info Edge, incidentally the food delivery company’s largest shareholder. It is not Indiamart or Bharat Matrimony. All of these companies have one thing in common; they are a play on India’s internet penetration and domestic growth/consumption story. The difference is that while most of these companies turn in real cash, quarter after quarter, Zomato does not. So in that context, Zomato is closer to a company like MakeMyTrip, which listed in the US back in the day and remained loss-making for a while.
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The magic figure in the prospectus is called the average order value, or AOV. Zomato’s average order value has been trending upwards the whole of the past year and a half. It has grown over 1.5x in that period.
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Ask any expert or investor who has looked at the food delivery business closely and they’ll tell you that the holy grail for any company is an average order value of Rs 400. It is around this number when delivering the food from place A to B, after deducting the restaurant’s cut, starts making some economic sense.
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The difference between the two figures is what is called the net contribution margin. Here, that’s a negative Rs 30.5—simply put, that’s the average amount the company was losing on delivering each order in 2019-20.
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Now if you do the same math for the nine months of fiscal 2020-21 that Zomato has provided figures for in the draft IPO prospectus, where the average order value is around Rs 400, the company’s unit economics look pretty decent.
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The net contribution margin is a healthy Rs 22.9, and Zomato’s highest ever.
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The caveat though is that the COVID-19 pandemic is the reason for this performance. Which means this is a blip or an extraordinary event. Because of country-wide lockdowns, people have been staying in and ordering in. It is anybody’s guess if this trend is here to stay. There are, of course, differing views.
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It would be fair to say that this is the best report card in Zomato’s long corporate history
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Analysts say this change in consumer behaviour is here to stay because people have gotten used to it. But that’s e-commerce, a bundle of necessities so to speak. It is unclear if the same trend will hold for food delivery.
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Investors and analysts hold the view that pandemic has forever changed consumer behaviour. To suggest that, they have been pointing at the growth in e-commerce penetration that has happened across the world in the past couple of years.
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This is tricky because we can only speculate how consumers are going to behave. An expensive meal from a favourite restaurant in a lockdown becomes a thing about normalcy.
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Another point to note is that average order values and contribution margins are tedious, tiny pieces that Zomato is getting into today because the numbers look good. It is anybody’s guess if Zomato will be putting out these numbers religiously, quarter on quarter, for its investors.
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But unlike the promoters of other internet stocks in India, Goyal’s shareholding is too low to be counted as anything significant.
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II. Deepinder Goyal’s 5.51% stake
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I. Zomato couldn’t have timed this IPO better. It is now or never.
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Now that we have that out of the way let’s get straight to the three points which any prospective Zomato investor should think deeply about.
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In a more logical sense, Info Edge, the largest shareholder with 18.55% equity in Zomato, could be a promoter, but Info Edge is the one selling its shares via this listing.
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In the food delivery market, Zomato is neck-and-neck with its biggest competitor, Swiggy, if not a little behind. The competition is fiercer if we take the overall food tech and services segment, which includes cloud kitchen companies like Rebel Foods and quick service restaurants like McDonald’s or Domino’s.
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For a public company to operate in a market as tough and uncertain as this one, the investors need a strong company figure to look up to. That someone could only be Goyal, given his history with the company, but his shareholding of 5.51% in the company (equity share capital on a fully diluted basis, inclusive of vested options under employee stock option schemes from 2018 and 2021) is too low to be relied upon by investors.
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III. Making profits and Swiggy
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The fact remains that, despite trying everything, Zomato has not been able to eke out a profit from its operations.
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The biggest food delivery app in the US is shaking up the fees it charges restaurants, in the hope that it can push more merchants into paying it as much as 30 per cent of each order.
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In that context, Zomato is not very different from global peers such as Deliveroo in the UK and DoorDash in the US. Neither company makes money and it is a constant struggle between restaurants and regulators.
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DoorDash on Tuesday announced restaurants would be able to choose from three new tiers of commission — 15, 25 or 30 per cent — with different levels of service, depending on whether they wanted to focus on “profitability or growth”
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Things in India are no different. It is no surprise that Zomato’s risk factors speak about the lockdown movement in the country, where hundreds of restaurants came together against the company in 2018-19.
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The CCI has been on Zomato’s tail because the Indian food delivery market is now a clear duopoly between Zomato and Swiggy.
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One final closing point, and this is about the timing of the Zomato IPO, the question of why now, which we think needs a little more digging.
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There’s one explanation that thanks to the pandemic, Zomato’s numbers are the best ever
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Another explanation is that Deepinder Goyal’s time ran out. And finally it came down to investors bringing the company to the public markets to see if they will reap dividends for their years of patience.