Is the Deliveroo share price justified?

A Deliveroo rider cycles in London

The Deliveroo (LSE: ROO) share price closed at 341p yesterday. After releasing its first earnings report since its IPO in March, the stock was down more than 4% for the day. Its share price had previously spiked to 363p the day before, when its competitor, Delivery Hero, bought a 5% stake worth £284m. Delivery Hero’s CEO said that “in no scenario would this be a bad investment long term.”

The price is now back up to 362p. With this volatility in mind, is the current Deliveroo share price justified?

The good news

Delivery Hero is a much larger competitor with an international presence in over 40 countries worldwide, partnering with over 500,000 restaurants. It owns stock in Just Eat and Zomato, one of the biggest delivery apps in India.

Delivery Hero doesn’t operate in the UK, but Deliveroo’s operations reach 72% of the UK population. Speculation of a takeover could send the Deliveroo share price soaring. Delivery Hero has history with buying out competitors, recently completing a €3.6bn takeover of South Korean based Woowa. 

Deliveroo’s first earnings report was packed with good news. Revenue was up 82% to £922.5m. Losses narrowed to £104.8m in H1 of 2021, compared to H1 2020, buoyed by a doubling of orders, as well as transaction value. It now has more restaurant partners than any other UK food delivery app.

Risks to the Deliveroo share price

The pandemic may have caused much of Deliveroo’s recent rapid growth. Enforced lockdowns have seen consumers unable to visit restaurants or grocery stores in person. Competition for online grocery delivery slots saw customers forced to to use food delivery apps.

With over 4,600 on-demand grocery partners, any decline in grocery deliveries could hit the Deliveroo share price hard. 75% of UK adults are now fully vaccinated, with the rest of the developed world not far behind. As society opens up, it seems likely that demand for this service could fall.

Deliveroo also faces stiff competition from the likes of Uber and Just Eat. Both companies are far larger than Deliveroo in terms of market cap. As the company is currently loss-making, any reduction in market share could hurt it disproportionately.

Legal challenges

The company also faces regulatory risk because it classifies its workers as self-employed. Aviva, which manages some £365bn of assets, has refused to invest in Deliveroo over poor worker rights. Competitor Uber has been forced to reclassify many workers as employees after a Supreme Court ruling in February. This gave them a guaranteed minimum wage, pension entitlements, and holiday and sickness pay.

Though this ruling did not apply to Uber Eats, the food delivery division of Uber, the precedent for further court cases has been set. Deliveroo has had to put aside £112m to deal with potential future litigation. 

Deliveroo is a potential high-growth stock. Its volatile share price is testament to the high risks and high rewards that it offers. I’d consider investing after full-year results for 2021 are released. By then, the threat of legal challenges could have subsided. I’ll want to see an established pattern of sales growth leading to narrowing losses and eventual profit.

The business has potential for me, but I’m not sure the Deliveroo share price justifies the risks right now.

The post Is the Deliveroo share price justified? appeared first on The Motley Fool UK.

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Charles Archer owns shares of Aviva. The Motley Fool UK has recommended Just Eat Takeaway.com N.V. and Uber Technologies. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.