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Profitability comes at the cost of growth

Food delivery GOV growth slows as contribution margin improves. Zomato’s food delivery gross order value grew 3.1% QoQ and 22.6% YoY in Q2FY23. This is meaningfully lower than the GOV trajectory over the last 4 quarters (Q1FY23 GOV grew 9.9% QoQ and 41.6% YoY). We believe this was a result of focus on profitability. Food delivery business contribution to GOV improved to 4.5% in Q2FY23 (up 170bps QoQ). Adjusted revenue (food delivery) grew 7.6% QoQ and 26.5% YoY. Food delivery business reported breakeven (post restatements) in Q2FY23 after adjusting for what was previously classified as unallocated expenses. Management clarified that the target for adjusted EBITDA is 4-5% of GOV which roughly translates to a segmental EBITDA margin in the range of 15-20% (I-Sec est.). This, we think, is lower than consensus estimates. The management has also guided for slower improvement in contribution going ahead as most ‘low hanging fruits’ have been pocketed.

We think take rate improvement (food delivery) could be muted in near term. We estimate take rate from restaurants increased ~70bps QoQ in Q2FY23. We also note that for the first time the company has reported a decline in the number of average monthly active restaurants. Therefore, we think that take rate improvement could be limited over the next 2,3 quarters. Management has guided for EBITDA breakeven for ex- Blinkit business of Zomato in the next 2-4 quarters (by Q2FY24).

Hyperpure continues on steady growth path. Hyperpure business grew 23% QoQ and ~200% YoY in Q2FY23. This is in line with our thesis around strong growth in B2B e-commerce over the next 2-3 years (link). Adjusted EBITDA losses increased to Rs53bn in Q2FY23 with a QoQ EBITDA margin of -16%.

Blinkit business reported strong growth. Blinkit business performance surprised positively with 17.6% QoQ improvement in the number of orders and 7.6% QoQ improvement in AOV. Scale benefits and synergies helped in contribution margin improving by 1,000bps QoQ.

We think the management’s guidance towards attaining EBITDA-breakeven for Zomato business by Q1FY24 would require careful calibration of employee expenses and marketing spends. We estimate EBITDA margin of -1.3% for FY24E. Hyperpure business (B2B e-commerce vertical of Zomato) is likely to benefit from growth in the overall segment. However, scale-up of Hyperpure will be contingent on significant investments in building refrigerated supply chains and technology for tagging and batching of fresh farm produce (link).

We maintain HOLD rating on the stock with DCF-based target price of Rs65 on the assumption of WACC of 12.5% and terminal growth of 5%.

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