The flames of inflation look, finally, to be cooling. While politicians play tug of war over who can take the credit, shops’ tills should reap the benefits. Tesco’s chief executive, Ken Murphy, was already hailing “encouraging early signs” of easing inflation back in June; results in October then showed an almost 9 per cent increase in sales and a 14 per cent rise in profits for the first half of the year as Britain’s biggest supermarket upgraded its profit forecast.
That half-year sales increase was almost entirely due to inflation, but Tesco’s discipline in keeping costs constrained — while also cutting its prices on essentials such as milk and bread to compete with Aldi and Lidl — has put it in a retail sweet spot. It has asked analysts to pencil in adjusted profits of between £2.6 billion and £2.7 billion from its retailing this year — higher than an earlier forecast of £2.4 billion, the figure for last year.
The markets don’t seem to have fully priced this in. While Tesco shares have fared well this year — up 18 per cent and now trading at £2.79 — they are still below the £3 peaks regularly hit pre-Covid, and the supermarket’s price-to-earnings ratio of 11 is well short of its historic 14, and as low as it has been for almost a decade. The outlook isn’t entirely clear: home energy bills and mortgages remain high, the cost of living crisis continues.
However, Tesco is showing success in recovering sales from discounters, and its Finest range is nipping some sales from Waitrose and Marks & Spencer. Its market share inched up from 27 to 27.2 per cent in the latest three months of data from retail analyst Kantar.
At the cheaper end of the scale, rivals may struggle to maintain their aggressive deals: both Asda and Morrisons are heavily indebted. Tesco’s balance sheet is healthier, with net debt trimmed by £605 million over the past year to £9.9 billion, or 2.3 times adjusted earnings. There was an improved retail free cashflow of £1.4 billion — the pension liability is negligible — and Tesco Bank, which is being punted around for a sale, paid a £250 million special dividend to the group.
Now, the supermarket is cautiously spending more on freeholds to bolster its retail estate and cushion the impact of future inflation-linked rent reviews. Investors have not been forgotten, however, with the City expecting a pay-out worth at least 11.25p a share this year, and more share buybacks likely later in the year, too.
There’s nothing flashy about Tesco and its sensible management, but boring can be beautiful. Add the supermarket’s shares to your basket.
