Zomato IPO: Pandemic Gave A Boost. Will It Last?
A file photograph of a food delivery rider for Zomato Media Pvt. as he gets on a motorcycle outside a restaurant in Mumbai, India. (Photographer: Dhiraj Singh/Bloomberg)

Zomato IPO: Pandemic Gave A Boost. Will It Last?

Zomato Ltd. couldn’t have timed its initial public offering better: its unit economics is perhaps the best ever. And being the first food aggregator planning to go public, it has generated investor excitement.

The restaurant discovery and food delivery platform trimmed losses for the year ended March 2021 by 65% to Rs 812 crore, according to its IPO filing. And the company earned an average Rs 20.5 on every order in 2020-21 compared with a loss of Rs 30.5 in the previous fiscal.

Improving unit economics gave the Ant Group-backed company the confidence to increase the IPO size by 14%. Zomato now plans to raise Rs 9,375 crore from the issue that opens on Wednesday. And it's targeting a valuation that is 36% higher than $5 billion at which it last raised funds.

Also read: Zomato IPO: All You Need To Know

The restaurant aggregator is cashing in on the interest in technology-backed firms as the pandemic accelerated shift towards digital services. Investors are betting on technology firms debuting on the market. Happiest Minds Technologies Ltd.'s maiden offer was subscribed 151 times, online travel portal Ease My Trip Planners Ltd.'s issue saw a demand of 160 times, while online gaming platform Nazara Technologies Ltd.'s IPO was subscribed 175.6 times.

But will the interest sustain after the pandemic?

According to a Jefferies note, some tailwinds of the pandemic could reverse in the future impacting unit economics for Zomato. "For example, as restrictions and Covid-19 lockdowns ease, share of group orders and in-turn average order values may revert to lower levels.”

Other analysts also have their reservations.

Also read: Zomato IPO: What Brokerages Have To Say

Zomato is very richly valued given its status of a company which is yet to make any profit, analysts at KRChoksey said. They are not very comfortable with the "sky-high valuation" of the IPO.

Zomato, along with domestic peers like Swiggy and global ones including Doordash, has almost always been unprofitable. And like most internet startups, it has raised cash from venture capitalists for growing fast and stay ahead of the competition.

While Yes Securities sees strong investor interest despite "punchy valuations" at 25 times enterprise value to sales multiple for FY21, it said the path to profitability for Zomato "is still not clear".

Twitter, too, has been abuzz with doubts over the valuation Zomato estimates.

Pandemic Boost

The complete lockdown to contain the first wave of the pandemic stalled economic activity. Zomato suffered too.

“There was a significant adverse impact on our operations in fiscal 2021 due to the Covid-19 pandemic,” the company said in the IPO prospectus. But the business recovered as the economy reopened gradually.

Zomato's gross orders hit a record in the fourth quarter at Rs 3,313 crore. And there has been no adverse impact of the second wave on business, it said.

The company, however, acknowledges that the pandemic bump won’t last forever.

“The accelerated growth of our business stemming from the effects of the Covid-19 pandemic may not continue in the future,” Zomato said in its filing. It is difficult to say the historical growth rates are sustainable or can be achieved in the future, it said.

Zomato cited an underpenetrated market for its optimism. Food delivery only is 6-8% of the overall food services market, it said. And it's also pegging hopes on returning customers.

“Rising contribution from existing users can substantially drive profitability as sales and marketing expenses, and discounts with existing customers are substantially lower compared to those for new customers,” Nomura said in a report.

Edelweiss Securities also expects operational efficiency to improve. While average order values are unlikely to rise and even a slight decline is possible, discounts are unlikely to return as more people are used to these food ordering apps, the brokerage said. “We expect unit economics over the next few years to largely mirror that of FY21.

Other Concerns

Still, it's not easy to retain customers as the cost of switching between platforms is low.

“Customers may have a propensity to shift to the lowest-cost provider and could use more than one platform,” Zomato said in the prospectus. Restaurants could also prefer to use platforms that charge lower commission, it said.

Competition is also expected to go up with Amazon ramping up its delivery food operations even as the battle intensifies between Swiggy and Zomato.

And Zomato is also dabbing in grocery, a high-competitive space that will require more investments to create a niche.

While operating losses have reduced substantially over FY18‐21 with revenue growing at an annualised rate of 62% and contribution margin turning positive, maintaining that trajectory might be difficult given the need for continued investments and higher marketing costs and discounts, Yes Securities said. With the company looking at organic and inorganic growth, the path to profitability remains unclear especially in new hyer-competitive segments like cloud kitchens and grocery, it said.

There is also a concern of premium restaurants switching to direct orders. And restaurants have also been pushing back against fees and are seeking access to user data. The National Restaurant Authority Of India even filed a complaint with the Competition Commission of India.

And a backlash can be a concern when going public. U.S-based Doordash saw its stock plunge 31% on the first day of trading on concerns over governance and how it treats its workers.

Gaurav Gupta, co-founder of Zomato, termed the worries as misplaced. Zomato, he said, is confident that it will optimise business and unit economics the same way it has done in the past.

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