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Time to BUY Zomato? podcast

Nov 11, 2022

Should you BUY Zomato? The answer lies in your investing style.

In this video, as I decode what investors and traders should do with the stock of Zomato.

Hi guys, this is Aditya Vora here. Hope you are doing well.

Seeing majority of global markets near their 52-week lows while Indian market barely 3% away from its all-time highs feels magical, isn't it?

However, there is 1 section of people which are extremely unhappy as their stocks hit new lows every day.

I am sure there are no prices for guessing. I am talking about investors of new age platform companies or people who invested in these loss-making tech platform IPOs.

Out of the lot, Nykaa, the last man standing or since its Nykaa, let me call it the last women standing too has fallen.

You name the stock, be it Zomato, PayTM, Policybazaar, Car Trade or even Nykaa all have more than halved.

I am sure I can give you 10 reasons why these stocks fell like 9 pins, but my point here is not to do post-mortem analysis but talk about the future.

In markets and life, as they say past is past, but its pertinent to learn lessons from it.

So, friends, the billion-rupee question is, after more than 50% fall, do these stocks become attractive.

To start with, the answer to the above question depends on a) your risk appetite and b) your tenure of holding.

So let me give you a direct answer

If you are a long-term investor, then my answer is No.

If your investment style is only fundamental analysis and you derive value of the company by using valuation methods, then my answer is definitely No, as it is extremely difficult to estimate future cash flows.

But if you are a trader and have the stomach to take risks then the answer is Yes.

In stock markets, Valuations and Earnings are Kings and Queens of the market.

A stock at an x price will be overvalued while the same stock at a x-50% could become attractive.

As they say beauty lies in the eyes of the beholder, the same is the case with valuations which are relative.

So, friends, out of the above lot, I find Zomato the most attractive on a risk reward basis and the attractiveness of the sector.

In this video, let us analyse Zomato from purely a price action perspective.

You know on a lighter note, when a stock start becoming a meme stocks or people start cracking jokes about it, the bottom has been made at least for the short term.

We all know the memes people shared on ITC; the stock tested patience of even extremely long-term investors.

But when ITC s time came in 2022, the stock is up 55% in a year.

I am sure you must have seen memes of people predicting the price of Zomato and the price of Tomatoes being the same.

The way Zomato stock price was falling, it almost touched the price of 1kg of Tomato in Mumbai.

So, the question is after the massive fall, what do we do about Zomato?

My reasons are very simple why I am bullish on Zomato.

Let's start with the big picture which is the valuations.

Valuations have moderated on a 63% fall in price from the top.

Zomato got listed at a Rs 1 trillion market cap and reached a peak valuation of Rs 1.4 trillion.

Now my question at that time was, how can Zomato which is a loss-making company and burns cash every year have a market capitalization of Rs 1.4 trillion, while Jubilant foods which sells Dominos Pizzas generating massive free cash flow trade at 60% discount to Zomato.

If your starting point was wrong, I am sure the result is not likely to be materially different.

And that is exactly what happened, where Zomato got derated... as in the first place it never deserved those valuations.

Now that the valuations have moderated rather let us look at it logically... Zomato a year ago with much worse financials was available at Rs 1.4 trillion market cap while today that same Zomato with better financials and lower cash burn is available at 60% discount.

I will talk about the improved performance and management commentary a bit later in the video.

One more reason why the stock fell sharply was the expiry of pre-IPO lock in which saw massive supply overhang in Zomato. One more reason why the stock fell sharply.

To add to it, initial investors like PE fund Moore and Uber, completely exited Zomato leading to massive supply, taking the stock to an all-time low.

With major PE funds exiting Zomato and supply being absorbed by marquee domestic mutual funds, the risk supply overhang doesn't exist for Zomato unlike many of its new listed peers in the platform and tech space.

So, while the above 2 points were from the perspective of valuation and stock price, let us talk about fundamentals and certain logical points related to the industry.

Let me just give you some industry statistics.

India with a population of 1.38 bn has internet penetration of 49% as compared to USA and China which has an internet penetration of 94% and 68% respectively.

Just imagine what will happen if we reach Chinas internet penetration in 10 years.

Also, you will be shocked to know these 2 statistics.

One- Home cooked food accounts for 90% of food consumption while only 10% is catered through by restaurants.

Secondly, out of all the internet users in India, only 8% of them use online food delivery apps.

Just imagine the scope of addressable market.

As per research, an average household in a metro city orders food from outside only twice a month, in fact in tier 1-2 cities, the average is only once a month.

If you take all the statistics above and add them up, just imagine the headroom for growth.

A rise in 1) internet penetration, 2) Increase in frequency of ordering, I mean only twice a month becomes thrice, the industry volumes will go up by 50% ,3) Increase in order value, even if I assume 5-8% rise every year, the numbers are encouraging.

In all this I haven't even spoken about increase in working population and penetration of these apps to villages.

In short, the industry size can balloon to a crazy number.

Currently the food delivery market is 57 billion dollars in India while USA and China are at 552 billion dollars and 613 billion dollars respectively.

Even Brazil is 83 billion dollars food market.

If all these factors converge, the growth will be exponential.

When you look at the industry dynamics, it is a duopoly, with only Zomato and Swiggy having about 50% share each.

Personally, if competition wanted to come in, they would have come till now. In fact, there were talks of Amazon entering, but nothing has happened till now.

Considering the cash burn required to establish the business, it is difficult to enter at a time when the cost of money is increasingly becoming expensive.

I believe over the years as both players want to generate profit, rationality will prevail just like it happened in the telecom sector, where after 3 years, Jio stopped its freebies with the intention to make money that benefitted the industry.

In a jungle, the Lion and Tiger become friends so that both get to eat the prey, and nobody sleeps hungry.

Coming to Zomato, I like 2 or 3 things which they are doing.

One is that their cash burn has significantly come down. In fact, during the last quarter, the company's food delivery business was adjusted EBITDA breakeven, while the company is on track to bring the entire Zomato business to EBITDA break even.

In fact, the management has targeted end of this financial year to be breakeven.

Second is that a lot of people including me were sceptical about the blinkit acquisition, the company over paid.

Now, that is in the past, but the encouraging factor is that the company has cut infusing additional funds in the company from 400 million dollars to 320 million dollars and has also clearly stated that it is not going to make any further minority investments in companies as preserving cash is its main priority.

That is really encouraging.

In fact, the loss has been narrowing every quarter.

So, to end this, net, if you evaluate things for Zomato, many levers have started firing together.

Imagine, a) you are in an industry which is having super normal growth due to all the factors I mentioned in the video b) competition is limited and expected to be duopoly c) As there are only 2 players and both at some point soon want to earn profit, rationality will prevail.

Aren't all these, a goldilocks scenario.

On top of it Zomato is getting its act together and the stock has corrected by 60% from the top.

While I can't predict exact bottom, but I can tell you that it definitely looks interesting from the short and medium term.

Thank You guys for watching the video.

Aditya Vora

Aditya Vora (Research Analyst) Hidden Treasure has 7 years of experience in the markets as an equity research analyst. He is a Chartered Accountant by qualification and worked with some of the big names on Dalal Street like Motilal Oswal, CRISIL, and IDFC securities. He follows a rigorous process of financially screening stocks. At the same time, Aditya believes an investor's edge lies in capturing qualitative factors. His forte is bottom up stock picking. However, he is also a firm believer in the importance of market cycles. Especially identifying emerging themes at an early stage.

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