Quite a few changes since the last post. 2 new entrants to the portfolio
- Added Zomato with a 3% weight:
I view Zomato as a long-term compounder. The business has dominant moats that will prevent new entrants from coming: - Large benefit of scale: as scale increases; density of network increases which reduces order fulfillment costs (more deliveries per hour) and improves customer experience (think about how long it used to take Swiggy/Zomato to deliver 4 years ago vs today).
- 3-sided local network effect
A potential new entrant would have to first burn money acquiring users and then burn money fulfilling each order while it scales up; all while competing with Swiggy/Zomato’s scaled up cost structure and network density. VC’s wont fund a new player. That leaves Reliance, Amazon and Flipkart. Amazon tried and shut its service down. Flipkart wont try. Realistically only Reliance has the pockets to compete.
The growth levers are well known: User Base expansion x Frequency Increase x Order Value Increase. All 3 should happen over the long run. However, I dont think the 40-45% growth will continue; the company should easily be able to grow at 20% over the next decade.
I view Zomato more as a low-cost hyperlocal logistics player. I feel the TAM is much larger that food delivery; the company has a per order delivery cost of ~Rs 45. They should be able to deliver anything where they are able to earn Rs 100+ per order. Potential expansion areas could be: Groceries (experiment on), Medicines, alcohol, documents, personal care products, etc. However, I will ignore all these optionalities for valuation purposes.
Economics:
The company has a take rate of 22-24% (including ads), and current contribution margin is 4.5%. The management has guided for contribution margin to increase over time to 8-9%. I see a path to these kinds of margins even without increasing take rates; simply by cost efficiency, AOV increase at inflation rate and reduced discounts. Those kind of contributions with high scale could lead to EBITDA margins of 4-5% of GOV or roughly 15-20% on the company;s revenue.
If we give a platform business multiple of 30x EV/EBITDA (company will not really need any capex to grow); that implies that at steady state profitability, company could be valued at 4.5-6x revenues (of the food delivery business). Current food delivery revenue ARR is about 6000 cr, and current EV is about 30k cr (ex cash). Thus we are already at 5x sales; the lower end of the valuation range. Thus I feel that we are already being well compensated for just the food delivery business and effectively getting all the other optionalities for free.
Risks:
There are 3 things that I worry about:
a) Reliance entry
b) Realistically how many people can afford food delivery > Rs 350/order? Is the potential user base much smaller than we think? The Ken has written about this in detail
c) Self selecting low cost/value restaurants
- Bought Chamanlal Setia Exports: Not a great business; but a great valuation. The business can be best described as a very disciplined rice trading operation. The business benefits from fragmentation at both the production side and consumption side and acts as the aggregator in the middle. The only thing that matters is not doing anything stupid like dealing with poor credit quality customers, taking excessive leverage or doing business with companies in countries with sanctions. Their competitors have been guilty of some of these actions in the past and as a result dont exist today. They are still a tiny part of India’s rice exports so growth is not a problem. They turn their Working capital about 2.5x every year and make 10% EBITDA margin on sales leading to about 20% ROCE. The profits each year are reinvested into working capital which is the only thing the company requires to grow. The company is available at 8x P/E which is far too cheap. Should be able to make 20% earnings growth + some re rating to ~12x PE
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