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Ishan Majumdar
Ishan Majumdar
Articles (105)  | Author's Website |

Grubhub: A Merger Arbitrage Play

The company's merger talks with Uber make it a compelling short-term investment

Grubhub Inc. (NYSE:GRUB) has been the talk of the town owing to the fact that it is a potential acquisition target. Uber Technologies Inc (NYSE:UBER) appears to be interested in acquiring the food delivery company, and negotiations have begun to value Grubhub in what is expected to be an all-stock deal.

If this deal goes through, it would result in the merged entity becoming the top player in the meal delivery space in the U.S., ahead of companies like DoorDash and Postmates. However, the deal has its own set of complications in terms of potential regulatory hurdles, even if the companies agree upon a price.

On the other hand, there could also be a brewing interest in the company from retail giants with significantly larger buying power, such as Amazon (NASDAQ:AMZN) and Walmart (NYSE:WMT). Either way, if a deal can be reached, I think Grubhub could become an interesting opportunity for short term merger arbitrage players.

Company overview

Grubhub provides an online and mobile platform for restaurant pick-up and delivery orders. The company’s revenue model is simple: it charges restaurants a commission based on each order amount and also charges consumers a delivery fee for orders where the firm handles the delivery. Grubhub’s offerings include Grubhub and Seamless mobile applications and websites such as grubhub.com, seamless.com, allmenus.com and menupages.com. It has over 50,000 restaurant partners spread across 1,100 cities in the U.S. and is a leading player in the meal delivery space in the U.S., along with DoorDash, Uber Eats, Postmates and Waitr. The company has a headcount of close to 2,714 employees and is headquartered in Chicago, Illinois.

Recent quarter results

Grubbub managed to deliver a strong first-quarter 2020 result, beating analyst estimates in terms of revenue as well as earnings. The company’s business got a major boost as a result of the Covid-19 lockdown, reporting revenue of $362.98 million, which was well above the analyst consensus estimate of $358.13 million and represented growth of 12% from the prior-year quarter. The company reported earnings per share (EPS) of zero cents whereas analysts had expected a loss of 4 cents per share. 

Meal delivery market

Meal delivery as a market is growing rapidly with an annualized growth rate of around 24%. However, the inherent nature of the industry is such that companies operating in this space have a very long gestation period and do not reach a cash break-even until many years of operations.

Another big drawback of this market is the fact that the barriers to entry are nominal. Building a food delivery application has become very easy and app developers are known to sell food delivery app prototypes apps over the counter as a result of a large number of businesses around the world using this model. However, few of these efforts survive. In the U.S., there are five main players – DoorDash, the market leader, followed by Uber Eats, Grubhub, Postmates and Waitr. A couple of years ago, Grubhub was the market leader with a 35% market share, but this has fallen to as low as 20% with Uber Eats and DoorDash rising above the company.

Potentail merger

Grubhub and Uber merging seems to make sense. The combined entity would have excellent cost synergies, which are a big requirement in a high-cost, long-gestation industry like meal delivery. Also, both companies have strong positions in different cities, so there would be good potential revenue synergies as well. The combined entity would have nearly 50% market share, way ahead of the current market leader, DoorDash, though this could pose regulatory issues with anti-trust authorities in the U.S.

Uber made the first move by offering about $6 billion for Grubhub in what was seems to be an all-stock deal with an exchange ratio of 1.9 Uber shares for each of share of Grubhub. The valuation of Grubhub’s stock was at around $62.72 per share as per this deal, which is well above its current market price. Grubhub’s counteroffer came in the form of an exchange ratio of 2.15 Uber shares per share, which was rejected by Uber, so the deal has not finalized yet. It remains uncertain whether the companies are moving toward a compromise.

Other potential acquirers

As we can see in the above chart, Grubhub has had its fair share of ups and downs during the year but has managed to grow its stock price 35% year-to-date. It could go even further up depending on how the negotiations go with Uber. It seems like a strong possibility that Amazon could bid for the company, especially given its recent investment in UK-based delivery service Deliveroo. The company was unable to scale its Amazon Restaurants business, and Grubhub could definitely present strong synergies for them. Also, grocery giants like Walmart and Kroger (NYSE:KR) could see the company as an opportunity to expand into new industries.

It is worth highlighting that an acquirer like Walmart, Kroger or even Amazon could easily offer an all-cash deal given the huge piles of cash that each of these companies are sitting on. Uber, on the other hand, is a loss-making and cash-burning entity, and its $8.2 billion in cash comes at the expense of the continued holding of a far larger amount of debt and the issuance of new debt. 

Disclosure: No positions.

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About the author:

Ishan Majumdar
I am a qualified Chartered Accountant with a Masters in Management (Grande Ecole) from HEC Paris. I run a proprietary boutique financial advisory firm called Baptista Research (www.baptistaresearch.com) specializing in M&A, corporate advisory, equity research and valuation of listed companies.

I have nearly a decade of experience spread across investment banks, financial advisory firms, investment funds and other corporates in many different geographies, such as France, Spain, India and others. I was a part of the LBO Financing team at BNP Paribas where I worked on deals with a combined enterprise value of over $1 billion. I have also worked in mergers and acquisitions with Credit Agricole CIB and corporate strategy with Groupe Danone SA. Over the years, I have developed a strong specialization in corporate valuations, strategy and financial analysis.

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