Even as Zomato scripted history on Friday by becoming India’s first unicorn to debut on the stock exchanges, analysts and experts remain sceptical about the share valuation of the company.
The Bengaluru-based foodtech startup Zomato listed on the bourses on Friday (July 23) at INR 120, a nearly 53% premium over the issue price of INR 79 per share. While the food delivery major’s stock has hovered around the INR 125 mark till a few hours after the listing, it touched a high of INR 138.9 briefly and powered the company’s market capitalisation to over INR 1 Lakh Cr. The price premium was far ahead of the 25-30% premium that analysts were expecting.
The company debuted right into the top 100 listed companies by market value. At issue price, its market cap stood at around INR 65,000 Cr.
Experts suggest that investors are betting big on the Indian market beyond Zomato to drive this demand. Valuation expert and professor of corporate finance at Stern School of Business at New York University- Ashwath Damodaran noted in his blog that as per the financials shred by the Zomato in its draft red herring prospectus (DRHP) the company’s shares should be valued at INR 41, almost half of the actual issue price.
“That may seem like a lot to pay (INR 41) for a money-losing company with less than INR 20 Bn in revenues in the most recent year, but promise and potential have value, especially when you have a leader in a market of immense size. That said, the stock’s pricing (72-75 INR, per share) makes it too expensive,” he wrote.
Overall, the INR 9,375 Cr Zomato IPO received 2,751.27 Cr bids for a total issue size of 71.92 Cr equity shares, according to data from the National Stock Exchange (NSE).
The Qualified Institutional Buyers (QIBs) portion of Zomato IPO was oversubscribed the most at 51.79 times the size of the offering. Foreign Institutional Investors (FIIs) led the QIB portion, followed by banks, financial institutions, and mutual funds companies.
Damodaran has listed a number of premises leading up to the valuation of INR 41. He has assumed the food delivery market in India to reach up to $40 Bn and Zomato’s market share to hit 40% in the next five years and operating margin of 30 per cent for his calculation. This includes the fact the Indian market is diversifying very fast and it is possible that Zomato will end up with a maximum of 20% share of the $10-40 Bn food delivery market. Further, if any rival businesses, which include Swiggy and Amazon’s food delivery initiative, make aggressive bets, the market dynamics can change significantly.
In fact, stock market guru and ace investor Rakesh Jhunjhunwala recently stated that while he continues to remain bullish on the domestic market, he is not anywhere close to betting on the new-age internet companies.
“I think I will get much better returns from metals and other sectors such as banks. It (internet startups) is not my party, I do not go there. This party will get spooked at some stage,” he was quoted as saying in a Financial Express article.
Why Zomato Faces A Tough Task Ahead
Damodaran further noted that Zomato’s platform has the benefit of large numbers, but it falls short on both intensity and proprietary data. Thus, Zomato app users are on the system only when they order food, and the engagement is often restricted to food ordering and delivery.
“The biggest challenge that these businesses face are in the absence of stickiness and exclusivity, since users can have multiple food delivery apps on their devices and pick the cheapest one, and in balancing the competing needs of users and service/product providers with very different needs. Online food delivery businesses around the world, and Zomato is no exception, are facing backlash from restaurants and delivery personnel, who believe that they are getting the short end of the stick, as the company seeks to offer lower prices and better delivery deals from customers,” he wrote.
If Zomato plans to expand its offerings to its platform-users, it is very likely that these add-on businesses will be food-related, perhaps extending into grocery shopping, creating some option value.
In addition to its B2B supply chain business Hyperpure, Zomato is also doubling down on B2C online grocery delivery and will launch its grocery offering shortly, pitching itself against the likes of BigBasket. It has recently made a $100 mn investment in BigBasket rival Grofers but the company said that the investment is independent of its grocery plans.
Damodaran further stated that many companies, in large and fast expanding markets like India and China, are being valued at a premium simply because of the user base they cater to. However, these valuations tend to overlook the fact that these huge markets will also rapidly attract new rivals.
Zomato has reported narrower losses in FY2021 with 60% of its food delivery business recovering well after the pandemic last year. The company’s revenue declined almost 25% to INR 1,994 Cr in FY21, but at the same time losses also narrowed from INR 2,363 crore in FY20 to INR 812 crore in FY21, ending March this year. Goyal added that the adverse impact of the pandemic on the business in the first two quarters of FY 2020-21, which has been made up by the recovery in the subsequent months.
“In terms of operating risk, the company, in spite of its global ambitions, is still primarily an Indian company, dependent on Indian macroeconomic growth to succeed, and my rupee cost of capital will incorporate the country’s risk. Zomato is a money losing company, but it is not a start-up, facing imminent failure. On the plus side, its size and access to capital, as well as its post-IPO augmented cash balance, push down the risk of failure,” states Damodaran.