Ocado's Loss Could Be the Making of M&S Online

(Bloomberg Opinion) -- Well, this is convenient.

Ocado Group Plc, which said its pretax loss on Tuesday surged, wants to extricate itself from at least part of the U.K. grocery business. Marks & Spencer Group Plc needs a food delivery option that can accommodate its unique economics. 

It may not be a match made in heaven, but a deal between the two companies might just satisfy both of them. 

The Mail on Sunday has reported that the two are in advanced talks. This tie-up has always been a deal waiting to happen, not least because Ocado’s chairman, Stuart Rose, is a former Chief Executive Officer of M&S. 

It’s not hard to see why the company’s CEO, Tim Steiner, would want to move away from the daily grind of online grocery to concentrate on the whizzy technology arm. Although retail revenue rose 12 percent in 2018 to almost 1.5 billion pounds ($2 billion), underlying profit from this business rose just 4 percent. The 44 million-pound loss for the period was primarily due to the tech division, which is capital hungry, but potentially more lucrative. 

Ocado's Loss Could Be the Making of M&S Online

It is not clear what form a transaction would take, but one option would be for M&S to provide some of the food sold by Ocado once the latter’s contract with Waitrose expires in September 2020. To get there, M&S could buy part of Ocado’s U.K. online grocery business, the MoS reported. This could be worth about 2 billion pounds, so acquiring a 50 percent share would cost M&S about 1 billion pounds.

Ocado's Loss Could Be the Making of M&S Online

That would enable Steiner, who founded the business with two other former Goldman Sachs Group Inc. bankers in 2000, to achieve what he has wanted for some time: freedom to concentrate on supplying technology to supermarkets around the world.

However agreeable a conscious coupling with M&S sounds, the relationship would have to be managed carefully.

M&S sells about 7,000 food products, much fewer than Waitrose, and doesn’t offer big brands. Many of Ocado’s household names are bought jointly with Waitrose, so a new approach would be needed to plug potential gaps in the offering. Perhaps the new partners could work together instead, or Ocado could exploit the relationships it has developed with big manufacturers. This isn’t an insurmountable task – and if a deal gets announced soon there’s plenty of time for both companies to deal with it.

Ocado's Loss Could Be the Making of M&S Online

Any solution could also help address one of the big hurdles M&S has faced selling groceries online. The value of its shopping baskets is typically less than 20 pounds. Given that it usually costs between 10 and 15 pounds to fulfill an online grocery order, that doesn’t leave much room for profit. Offering big brands, or a broader range of its own products through Ocado, could boost the profitability of home delivery.

But there are delicate issues to be dealt with.

True, a deal might suit Ocado: not only would it receive annual revenue for running the M&S service, the proceeds of any asset sale would help meet its heavy investment needs. Capital expenditure will be 350 million pounds this year.

But, it would be a big and expensive transaction for Archie Norman, chairman of M&S, to sell to investors. He must convince shareholders of the merits of the tie-up, particularly if he wants to raise capital as part of the deal.

The two companies must also persuade customers loyal to Waitrose to switch to M&S.

Of course, it could turn out that this speculation is a canny negotiating tactic by Ocado to get a better deal from Waitrose. Steiner refused to comment about the recent reports on Tuesday morning, and M&S has said nothing.

Given that the two are pretty well-suited for each other, they’re better off not letting the perfect be the enemy of the good.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Andrea Felsted is a Bloomberg Opinion columnist covering the consumer and retail industries. She previously worked at the Financial Times.

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