Is it time to shop for Tesco’s shares?

Thursday, Apr 19 2012 by
9
Is it time to shop for Tescos shares

Tesco issued their preliminary results this week, and there were few major surprises in the financial numbers. As expected, the UK business had a comparatively poor year against its major competitors, offset by good growth in the rest of the world. But the US “Fresh & Easy” business still looks rather sickly. Group sales were up 7.4% which is not bad for most retail businesses in the current economic climate, but obviously less that past growth rates in Tesco.

The underlying e.p.s. of 37.4p is actually better than was forecast when I looked in detail at the company a year ago. But analyst’s current consensus forecast for this year are for a fall to 34.4p which takes into account the increased costs from investing in the UK business (more staff, store revamps, etc). Prospective yield is now 4.8%.

Let’s pick out a few highlights to comment on in the announcement. It says:

the strength of our property-backed balance sheet was again demonstrated through continuing strong investor demand for our property sale and leaseback transactions….”.

But any fool knows that most sales and leaseback deals simply provide a short term cash flow benefit with a negative longer term impact on profitability (at least that is my past experience). It’s rather like flogging the family silver to make ends meet.

The Fresh & Easy business is noted as “showing promising results, with losses having fallen for the first time”, but breakeven seems to be drifting out and is now not expected to be reached until the 2013/14 financial year. In fact this business managed to lose £153m on sales of £630m last year. In essence it is sub-scale and inherently unprofitable. Now that it is a reasonable length of time since the former CEO who promoted this concept has departed, surely it’s time to bite the bullet and scrap this venture. It must be an enormous distraction of management time and effort, even if it does enable Tesco executives to spend a few weeks in sunny California when UK weather is bleak (yes, I know what this is about – been there, done that). In essence this business is surely still consuming cash that would be better spent elsewhere.

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For example, the good news is that they are investing heavily in improving their on-line offering and the steps being taken to improve their UK business seem to make sense.

The Tesco Bank also seems somewhat troubled with exceptional costs, delays in “migration” and in the launch of new products. Again is this key to the Tesco customer offering and has Tesco got any special expertise in running banking services? I doubt it.

The company is trying to improve return on capital, which I am always keen on. But rather than doing “sale and leasebacks”, I would rather see disposals of some of these peripheral but probably capital intensive operations.

In summary it’s still a “work in progress” to get back to the historically quality business that Tesco used to be, with good growth prospects. But as a value play on a business that might recover if management don’t drop the ball, it may be worth considering by those investors who appreciate the dividend income.


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Disclaimer:  

The author may hold shares in this company, all opinions are his own and you should check any statements that appear factual and not rely on them before making an investment decision. The author is NOT a qualified analyst nor authorised to give investment advice. Whilst the author is a director of ShareSoc, all views expressed are entirely his own and not necessarily those of ShareSoc.


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Tesco PLC, incorporated on November 27, 1947, is engaged in retailing and associated activities in the United Kingdom, China, the Czech Republic, Hungary, the Republic of Ireland, India, Malaysia, Poland, Slovakia, South Korea, Thailand and Turkey. The Company also provides retail banking and insurance services through its subsidiary, Tesco Bank. The Company’s operations in the United Kingdom is the within the Company, with over 3,000 stores. The Company’s in-store picking model is complemented by a small number of specialized dotcom-only stores, which allow the Company to respond to customer demand. The Company’s Click & Collect service is a part of its multichannel offering and enables customers to pick up their shopping when and where it suits them. It has over 1,500 Click & Collect collection points for general merchandise and over 150 Grocery Drive-thrus in the United Kingdom. more »

Share Price (Full)
180.2p
Change
-6.0  -3.2%
P/E (fwd)
9.6
Yield (fwd)
4.0
Mkt Cap (£m)
15,125



  Is Tesco fundamentally strong or weak? Find out More »


5 Comments on this Article show/hide all

emptyend 19th Apr '12 1 of 5
1

I think the answer to the question is "no".

UK sales in core businesses are roughly flat on a like for like basis...and Tesco is retrenching internationally (selling Japan for example). Whilst growth will be good in some markets, I think they are pretty maxed out in the short term in the UK - and the competition is getting tougher.

I think it is a serious error to buy Tesco in expectation of the past growth path resuming. Remember Rentokil, which grew at 20% pa....until the year when suddenly it didn't.

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Isaac 19th Apr '12 2 of 5
2

In reply to emptyend, post #1

So in your opinion ee what should people be investing in specifically?

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emptyend 19th Apr '12 3 of 5
6

In reply to Isaac, post #2

You know the answer to that - the oil & gas sector.

There is obviously room to invest in a range of other things too (including food retailers) but in very many cases their share prices are more than up with events.

It is noteworthy that Tesco (LON:TSCO) shares have actually fallen marginally further from their 2007 peak than supposedly riskier shares like SOCO International (LON:SIA) (with which you are familiar). Tesco has of course paid a dividend throughout that period .....but still - that is shocking - especially when one considers the opprobrium that some (eg you) heap on managements for such outcomes!

Tesco is now back to the levels it was at through 2005. I see no reason why it should recover materially during 2012 - and I can see a number of reasons to expect further weakness. Compare Tesco with Booker (LON:BOK) since the start of 2009 - Booker is up by 400%.

Compare also Tesco with Sainsbury. Tesco has marginally underperformed Sainsbury in recent years - but IMO the underperformance should have been bigger. I'd rather hold J Sainsbury (LON:SBRY) than Tesco (LON:TSCO) at this point, because they are further down the recovery track in the UK.

And compare Tesco (LON:TSCO) again with SOCO International (LON:SIA). As you know, I think that SOCO International (LON:SIA) will do a deal to reveal their value as being substantially above the current share price - but there is no such M&A outer available for Tesco (LON:TSCO), because any other retailer buying Tesco would immediately prompt a Competition Commission reference.

In sum, Tesco (LON:TSCO) investors have seen both the big gains and big losses since the Millennium - and the future seems likely to be rather duller (and accompanied by further dissipation of their premium image amongst investors).

ee

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Isaac 19th Apr '12 4 of 5
5

Well I sold Tesco a few weeks back @ £3.39 ... and put the proceeds into more Soco.

I have considered Sainsbury's, it offers more value, better NAV protection and higher yield. But I do think both stocks will be impacted by a downturn in the UK consumer.

 

Off board I've been told by a friend that you are relatively risk averse because you are pretty much in 'retirement' and have made your money so there is no requirement to take significant risk.

Do you share that view? I ask because the person that made that point said this because you have mainly held Soco in the last few years and Soco is relatively low risk as is BG.

 

Would be interested in your views, thanks.

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emptyend 19th Apr '12 5 of 5
6

In reply to Isaac, post #4

Well I sold Tesco a few weeks back @ £3.39 ... and put the proceeds into more Soco.

I have considered Sainsbury's, it offers more value, better NAV protection and higher yield. But I do think both stocks will be impacted by a downturn in the UK consumer.

Slightly worryingly, I don't disagree with that.

Off board I've been told by a friend that you are relatively risk averse because you are pretty much in 'retirement' and have made your money so there is no requirement to take significant risk.

Do you share that view? I ask because the person that made that point said this because you have mainly held Soco in the last few years and Soco is relatively low risk as is BG.

It is true that I see SOCO International (LON:SIA) and BG as relatively low risk (especially at current valuations). I made a conscious decision back in 2008 to stick with SOCO International (LON:SIA) and accept a relatively low return via holding to the point of takeout. That low return has been slower to materialise than I would have expected and will also be at the lower end of the range of my expectations - but IMO will still be 20-30% or so over the then price......but of course the mark-to-market in the interim has been much worse than I would have envisioned (as I'm sure has also been the case for Tesco (LON:TSCO) shareholders!).

I'm not sure that your risk averse theory holds up in the context of some other holdings though, having seen a 140% gain in 4 months transformed in a few days into a mere 30% gain. Medium term (later this year) I'd expect to be looking for a more diversified portfolio, but I'm likely to keep 20% or so in relatively high risk equities.

FWIW

ee

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About Roger Lawson

An active private investor and entrepreneur. Chairman of ShareSoc which promotes the interests of individual stock market investors.



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