Ocado Group plc (OCDO) Earnings Call Transcript & Summary

Good morning, everyone. We're delighted today to announce the signing of a partnership between Ocado Solutions and Lotte Shopping, to develop Lotte's online grocery business. Before we discuss the deal, we'd like to take a moment to acknowledge the tragedy in the Itaewon district of Seoul over Halloween weekend. Our thoughts are with our new partner, the South Korean people and all those affected during this period of national mourning. Together with our team here in Seoul today, I was honored to join new colleagues at Lotte in observing a period of silence to reflect on the tragedy and all those impacted. We're really happy to be working with Lotte, one of the largest business conglomerates in the country, whose interest span hotels, cinemas, chemicals, food production and retail generating total annual revenue of GBP 45 billion last year. Lotte is the second largest grocer in South Korea with more than 1,000 stores nationwide. Lotte now joins 11 other leading grocers around the world whose online businesses will be powered by the unique and proprietary Ocado Smart Platform, and will join the Ocado club of industry trend setters. Under our agreed contract, Ocado Solutions and Lotte will develop a nationwide fulfillment network with 6 customer fulfillment centers to be ordered by 2028, the equivalent of 30 modules. Ocado's in-store fulfillment software will also be rolled out in Lotte’ store estate. The CFCs will cover multiple geographies and cater to a wide range of online grocery missions. We plan to implement OSP in-store fulfillment in 2024. The first CFC is due to go live in 2025. This partnership will also bring new technologies announced at Ocado Re:Imagined to Lotte's operations as well as new innovations designed to further meet the requirement of densely built urban environment. The structure of fees agreed with Lotte are similar to those agreed with our other international Ocado Solutions partners. Lotte will pay Ocado Solutions certain fees upfront and during the development phase. Then ongoing fees linked to both sales achieved and installed capacity within the CFC and service criteria. The partnership is exclusive in South Korea on the basis of Lotte in the longer term, ordering an agreed schedule of CFC capacity and in the longer term, meeting mutually agreed market share target. Ocado Group expects this deal to add minimal CapEx requirements in financial year '23 with the majority of additional CapEx spent in the 12 months prior to the opening of CFCs, the first of which will be in 2025. We do not believe that this additional CapEx spend requires fresh capital as this forms part of anticipated new business CFC rollout, discussed in our recent modeling seminar. We have talked in the past about the fact that these are big and significant deals, which take time to negotiate and require a high degree of due diligence. Lotte is a good example of this. Once signed, however, these deals can be transformational for our partner and for the customers they serve. We are encouraged by our strong pipeline of potential new partners all of whom recognize the opportunities presented by channel shift online and the outstanding customer experience and partner economics that OSP can provide. We believe that we will sign more deals as our addressable market grows and we look forward to doing our bit to help change how the world shops the groceries for good. Thank you. Operator, we can move to questions now.

[Operator Instructions] Our first question today comes from William Woods of Bernstein.

I suppose one for me. Can you just tell us -- you said that you're integrating the Re:Imagined technology into this deal. Could you tell us how that changes the unit economics when you include that Re:Imagined technology? And should we think about that as take rate accretive?

I think that you should think about it both as take rate accretive for Ocado Group. I think you should also think about it in terms of improving the customers' -- clients economics. And you should also think about it as improving the proposition that they can offer to their customers. So Ocado Re:Imagined is about a win-win, win for the customer, a win for our clients and a win for the group.

We move to our next question now, which is Andrew Gwynn of BNPP Exane.

Congratulations on the deal. So just firstly, how similar is similar, obviously, been a while since had a deal. So just maybe a little bit anxious that the terms are subtly softer, but just a little bit of clarity there. And then obviously, in the U.S., big news, The Kroger and Albertsons, just wondering if there's any sort of early thoughts or conversations you've had with Kroger about potentially significantly more CFCs in lights of a possible deal with Albertsons.

So yes, I don't see anything as subtly softer. This is about working together to go after the massive opportunity here in one of the most developed e-commerce markets in the world with one of the most important businesses in the country. As William asked us before, because of Re:Imagined, you should expect that our take rate is slightly higher because we're offering the client facilities that are significantly more productive. But because they are more productive, their economics also benefit, Re:Imagined also brings other benefits like smaller sites. And some kind of lower building specs as well that are on the client side in terms of savings. So similar economics, pre Re:Imagined some extra take from Re:Imagined is how you should look at it. In terms of -- I was actually with Kroger at the time of deal, rumored on the Thursday. This -- obviously, the deal is subject to regulatory approvals, but we see it as extremely positive, and that's the indications that we've had from our partners in the U.S.

Okay. I guess this is clear as you can be at this stage.

We're now moving on to Sreedhar Mahamkali of UBS.

A couple of questions, maybe 3 actually, but hopefully quick ones. You talked about GBP 9.5 billion in revenue for Lotte Group. How much of that is grocery, that's the first one. Secondly, where is online penetration now in the country? And what is it currently for Lotte, and then thirdly, really just can you give us an idea how it is being fulfilled right now.

Sure, The corporate is quite a complex structure. So I think Lotte Shopping's revenue is something like GBP 9.5 billion. Lotte Shopping is not the only part of Lotte Group that's selling groceries. So I think that if you want to kind of do a bit of work on Lotte in its size, I would suggest by talking to them or looking at their publicly available information because I don't want to get it incorrect. And even Lotte's Shopping, some of that is revenue. It's not transaction value because a lot of Lotte's shoppings kind of the business going through the stores is actually not put through their accounts because of the way that their commercial agreement works. So it's the #2 player in retail and the #2 player in grocery in the market. In terms of e-commerce, it's market share is estimated to be about 5% at the moment. But the overall market here, whilst down has quite large numbers includes a lot of, I think, packaged grocery that is sold as individual items and stuff by general commerce players. So it's not quite comparable to certain other markets. Again, I would look at it more independently. But I think that we and Lotte agree and share in a vision that there is a significant opportunity for Lotte to take the #1 market share in this space.

Maybe just one last one. You talked about deals quite complex and a lot of due diligence and taking time to conclude. How long has this taken, just to give us an idea of the kind of time lines that you're working with and things like that.

I think it's a difficult question to answer because Lotte is one of a significant number of global grocers who we've known for an extended period of time. And so from what starting point, from the starting point when they decided more recently and visited the U.K. by engaging in licitation and more specific detailed due diligence. So probably one year that it's been more intense in terms of working with them, but I met with them in the past over a large number of years. And there are dozens and dozens of grocers that I could fit in that camp. Sometimes it just takes a moment for the focus and then it takes an extended period of time and visits going both directions and interruptions to that due to COVID, just for the time to be right. And the time is right now, the opportunity is here. Both companies are very excited about it. But we have a lot of these activities going on in the background that you're probably all literally unaware of.

From Citi. We have Nick Coulter with our next question.

Congratulations. Three if I may, I'll go one by one, if that's okay. Firstly, on the CFCs, will they cater for non-food as well as grocery? Or is that a longer-term consideration or an option within the deal structure.

They could do because as you know, they've got great range capabilities. It's not part of the kind of exclusivity arrangements specifically, but they could decide to put non-food through them. I think it's something that will be kind of something that we'll look at as we go forward. They may not focus just on grocery.

Okay, And then can I press a little bit on the funding, what sort of rough quantum of net cash flows should we think about the '24, '25 as you start to roll this out, obviously, cognizant that you have a cash flow seminar coming up?

As we said before, a warehouse of this size, the net cash outflow is in the low double-digit millions for us in the 12 months before it goes live. But I think we're going to get -- I think the next seminar that Stephen is going to host with you we will get into slightly more detail to help you do better modeling, but I don't think today is the time to need to do that.

Okay so this is...

Sorry Nick, when we did the last session, we talked about a number of warehouses, that number of warehouses included some estimates of a number of new warehouses for new clients, of which this is within. And so this is not an additional amount of new warehouses to what we anticipated we were doing. We just didn't know exactly who we would do those new warehouses with and we still intend to do more with others that we haven't yet told you about.

Okay. And these are slightly smaller, around 5 modules per CFC, very...

We built some at 2 to 3. We built some at 4 . We've built some at 6. We've built quite a few at 7. We've built some at 8, and we built some bigger than that. So they're slightly smaller than the average that we've built in the North America, for example, yes, but only slightly. And again, as our partners go out there and look for sites, no one can be sure at this stage that they will all turn out the order of that size, some might be larger and some might be smaller. It all depends on the availability of land. And obviously, this is the most dense -- I think the most dense population of this size, in the developed world. So sites is obviously a challenge. And so if you -- if they find one that's a good 4 or a 5 or a good 6, I'm sure they'll be very interested in them. But that's the notional size, yes.

Okay. Great. I've got a slightly dodgy line at my end, but thank you very much indeed.

We're now moving on to Simon Bowler of Numis.

Three if it would be okay. First one being -- and I appreciate it's coming some work first around this as well. But just wondering if it's possible if you just kind of share your perspective on the kind of what they do in e-commerce at the moment, what are the solutions they may have trialed and before coming to the decision to partner with yourself. Secondly, the last is a very quick one. Secondly, can you just confirm if they committed to a CFC number or a module number, i.e. is that kind of 6 CFCs or 30 modules when you mentioned kind of exclusivity part of it? And finally, has there been a decision made in terms of whether or not they'll utilize the Ocado flex element of Re:Imagined or do you be expecting to develop the web shop element for them as well?

So in terms of the -- what they've done historically, they've got fulfillment centers, including with automation in them from similar generations -- whilst they're much newer, there are similar types of automation as we have in Hatfield and Dordon. So kind of conveyors and shuttles that type of automation. They obviously have in-store fulfillment. They also have a smart store that has conveyors and systems inside a supermarket. And they have also had some other automated sites that they are -- have shut down as well they built in the last few years with some automation that we are rather familiar with. And so I think they're very clear that our automation in Ocado OSP is a new generation and significantly ahead of anything else in the market. But equally critically, as one of them laid out past last night, equally critically, it's the end-to-end solution that we bring that is unmatched by anybody anywhere. Your second is on Flex, I think we'll wait and see. I mean they're taking the end-to-end solution, whether they choose to kind of at the very, very front end, they have a bit more autonomy and use Flex or they chose take the front end that we provide with it, we'll see. It's not a big deal, whether it's Flex or not Flex on the front end. They're taking the end-to-end, and it's a critical part of why they wanted to go this direction.

Okay. Great. And then just the last one just in terms of the CFCs versus the 30 modules.

Well, that -- it's kind of the same thing because they clearly -- they've laid out their target, they stated today, 6 and 30. And -- but if it turned out to be 5 and 30, I mean, we're not going to be saying that they haven't fulfilled their obligation or if it turned out to be 7 warehouses and 30. It doesn't really matter, it's the amount of capacity. And I'm indifferent to them doing it in 4, 5, 6, 7, 8, et cetera. But I know what they think is the right currently in a current view of the optimum size for this particular market with the geography and the densities and the modalities that they want to offer and stuff like that. So that's kind of currently the plan.

Our next question comes from Rob Joyce of Goldman Sachs.

Just a couple. Firstly, on the online market, in Korea. I just wonder if you could give us an idea of what the remaining 95% of that market looks like in terms of who's serving it? Is it a lot of online specialists and what sort of technology or not is being used to serve the rest of the market? And then the second one is just on the time line to go live. I think first site in '25 and then 6 planned by '28. Just trying to understand what that means. Is that 6 live CFCs by '28?

Rob, so to your first question, obviously, there are other incumbent grocers like SSG, E-Mart And then there are plus the old Tesco business Homeplus, but there are other incumbents. And then there's the pure plays, which is Coupon and Market Kerley. And there is quite a lot of marketplace activity out here as well that sales items that get included in what the overall grocery market includes. And -- in terms of automation, I think there's quite a lot in play over here. So I think people have tried a lot, including, as I mentioned before, our new partners have -- their businesses have tried quite a lot. And they see the very obvious benefits of our solution driving significantly better economics as well as a better customer proposition and the fact that it is all part of a single end-to-end platform is something of immense value to them.

And just in terms of that sort of time line.

Sorry, in terms of time line. So we would expect all those sites to be started at that point. I wouldn't have expected that they would all be delivered by that point because it's just -- it's a timing piece around finding and starting sites in terms of property real estate. So we would expect the sites to start in that time frame.

We now move on to Luke Holbrook of Morgan Stanley with our next question.

My first question was just on whether they'd actually secured any sites for maybe the 2025 start just following up on that last point. And then the second one was just on the -- just a quick Google shows that maybe the online sales here, they have enough capacity for maybe 3 CFCs at this point in time. Is that right? And then would you be just factoring in their online sales growing to cater for the full 6 at this stage?

Luke, I think their property pipeline isn't one for me to discuss -- and then in turn -- so I think that for them and their property teams. Obviously, they also are a large property player here in the local market. And in fact, I went out on delivery yesterday and went into apartment buildings that were also Lotte. In terms of kind of scale of demand, I mean, just the greater Seoul area alone is around 20-odd million people. And there's kind of 50-odd million people in the country, incredibly dense urban areas, just looking at the window from the amazing Lotte World Tower we're sitting in at the moment. It is -- well, it's something I don't think I've ever seen before in terms of density of people around the potential sites. So I think there's plenty of -- and they believe there's plenty of potential to grow, not just the numbers that we've announced today, but beyond that in the future.

Okay. Understood that 3 CFC number that I said was broadly accurate, catering to online sales today.

I think their point is, they're really going after a new service here to significantly expand their business.

And we now take a follow-up from Andrew Gwynn of BNPP Exane.

Very, very quickly. Just wanted to confirm up a month before the end of the year, which is everything is broadly in line with where you've guided previously.

This isn't the guidance call. So I don't know, Steve, if you want to say anything, but I think if we had to move guidance, we would have moved guidance, but don't know Steve if you want to add anything else.

Yes. Tim, that's the answer I would have given, the fact that we're not saying on it, yes, you can assume that guidance remains unchanged.

That news is good news. Congratulations again.

At this stage, we have no further questions in the queue.

In which case, thank you, everyone, for joining us on short notice this morning. We're obviously very excited to be working with the Lotte Group, and we appreciate your time this morning.