There are a few reasons why Zomato wants $8 billion valuation from its IPO — here's a look at if it makes sense

• Zomato is pegged to be valued at $8.1 billion, ahead of its upcoming IPO scheduled for this year.
• The company is expected to earn $1.4 billion as operational revenue, but the question over its profitability still lingers on.
• Swiggy’s capital flow can put Zomato’s valuations in danger as it is susceptible to losing the dominant position in India.

Food delivery platform Zomato, which started as an online restaurant finder, is all set to raise $1.1 billion through its initial public offering (IPO) scheduled for this year, reportedly at a valuation of a whopping $8 billion.

The question that is bothering many is the fact whether the Gurugram-based company deserves this kind of valuation given its loss-making operations. Some experts say, yes.

The Indian financial services company Edelweiss has valued Zomato at $8.1 billion (₹58,051 crore) currently, given the strong business performance in the past and the potential for an even greater future. The said valuation is calculated at a 49% premium to Zomato’s last funding round raised in February 2021, which valued the company at $5.4 billion.

But these valuations are simply based on the narratives, and the company will really have to pull up its socks in order to maintain its ground in the public market. Zomato may have reported somewhat steady growth so far, but the food-tech company would really have to pull a bunny out of its hat in order to impress the public market.

Zomato’s valuation largely hinges on the ability to sustain and fortify the leadership in the Indian market, says Edelweiss, and rival Swiggy is not that far behind. Zomato (founded in 2008, started deliveries in 2016) may have received a head start in the food segment, but Swiggy (founded in 2014) played many right moves to give a tough competition to the Gurugram-based company.

While Zomato was busy expanding its presence across 23 overseas markets, Swiggy solely focused on capturing the Indian market. The end result was that Zomato had to roll back its services in 9 countries by 2016 due to rising losses, and Swiggy had closed three funding rounds and crossed over million downloads in India.

Today, both these platforms match up in almost every metric -- average order value, monthly deliveries, operational cities (India)and more. To add on, Swiggy has raised almost $1 billion in the last couple of years and has enough capital to take on Zomato in the Indian market.

“Swiggy and Zomato are practically of the same size currently; hence their execution in terms of cohort growth and getting new consumers would be key. We don’t see capital as a constraint for both the companies in the medium term. Execution, therefore, will be a function of quality of management and their strategic choices,” the report read.

Zomato declined to comment on the queries raised by Business Insider. Swiggy did not reply until the time of publishing.

Besides the incoming competition from Swiggy, Zomato will also be susceptible to rivalry from new entries like Amazon. Zomato may have to find more attractive mediums to keep the customers interested without giving up on its unit economics, which is going to be one challenging task.

Zomato expected to turn profitable by FY23, operational revenue to hit $1.4 billion

Edelweiss’ report on InfoEdge’s performance in the financial year 2021 also looks into the performance of its portfolio companies. Zomato is expected to report an operating revenue (commissions on deliveries) of $1.4 billion (₹10,554.8 crore) by the financial year (FY) 2023, nearly five times higher than its $350 million reported in FY20.

Besides this, Zomato is also expected to turn profitable at an EBITDA and FCF level by the same time frame. EBITDA is the company’s earnings before interest, taxes, depreciation, and amortization, whereas FCF is the free cash flow available to the company after the capital and operational expenditures.

But this may be too bullish of an approach. Global investment bank Goldman Sachs, which is also running Zomato’s IPO process, estimates that the food delivery giant will be able to reach EBITDA breakeven (cost = expense before tax) by FY23.

The food delivery giant’s positive unit economics achieved in 2020 may be a good sign, but it is too soon to be considered as a long term trend. It may be a step towards profitability, but there are still miles to cover for the Gurugram-based company.

Zomato ended up in losses in FY21 (till December 2020) despite earning ₹22.9 per order. The company registered a loss of $10 million (₹74 crore) on a monthly basis between April to December 2020. Its monthly transacting users were also cut by half from 10.7 million to 5.8 million in the same time frame as the pandemic made users more cautious about ordering in.

Zomato expected to deliver 130 million orders a month by 2025

Founded in 2008, by Deepinder Goyal and Pankaj Chaddah, Zomato has marked its presence in every continent, except Antarctica, through acquisitions and its subsidiaries.

Edelweiss' estimates show that the foodtech business’ monthly order rate is expected to grow 30% in the next four to five years. This means Zomato, which delivers about 30 million orders on a monthly basis at the moment, could be delivering 130 million orders by 2025.

However, the same might not hold true for Zomato’s average order value (AOV).

The company’s average order value (AOV) grew to ₹407 in Q3 of FY21 due to many Covid-induced factors. The biggest trend of 2020 was that individual orders were seen shifting towards family ordering as young professionals started working from home. However, Zomatos’s AOV is expected to decline to ₹360 once offices start resuming, as per the report.

“A notable dip in AOV due to single orders – instead of family orders – and rising discounts due to increased competitive intensity are the key risks to unit economics, and valuations,” the report reads.

There is no doubt that Zomato’s IPO is one of the most anticipated ones in the India market, given its popularity amongst the masses. But keeping up with the volatile market is not an easy thing to do. Zomato’s US-based counterpart DoorDash was valued at a revenue multiple of 17X in its IPO. A similar multiple would peg Zomato below its current valuation of $5.4 billion, says The Ken.

SEE ALSO:
Amazon, Flipkart and other e-commerce platforms may not be able to do flash sales any more, if Indian government has its way
Sharechat employees will make $19 million out of the latest ESOP plan, as growth spikes in the absence of TikTok
Paytm ropes in Goldman Sachs, JP Morgan as bankers for upcoming IPO ⁠— there may be more along the way