Despite posting the sixth biggest loss in UK corporate history, shares in Tesco (LSE: TSCO) are flat today at the time of writing. That’s in spite of the company reporting a whopping £6.4bn loss for the last financial year, with trading conditions remaining challenging and the company’s turnaround plans taking time to have a positive effect.
This, then, is likely to be the time when many investors feel pessimistic regarding the company’s future prospects. However, now could be the perfect time to add Tesco to your portfolio. Here’s why.
One-Off Items
Although the supermarket sector is experiencing a challenging period, with incumbents such as Tesco seemingly running hard just to stand still, the major reason for Tesco’s horror show annual performance is asset write downs. In fact, Tesco has written down its fixed asset base by £4.7bn, which is reflective of anticipated difficult trading conditions in future.
And, there are other one-off items, too, with Tesco experiencing an impairment of goodwill of £880m, a reduction in the value of its stock of £570m, as well as vast restructuring costs of over £400m. Together, they amount to £7bn of one-off items, which clearly makes the company’s results appear disastrous but, looking ahead, by their very nature they are not expected to recur.
A New Start
As with any company that is going through a tough period and which appoints a new management team, there is often a lot of bad news in the early days. This happens in every sector in every part of the world and, while it can lead to investor sentiment declining, in the long run it is the most successful formula for turning a business around. That’s because it allows the company to begin afresh and to move forward with the changes that are necessary. As such, the magnitude of losses announced by Tesco today is perhaps to have been expected, given the problems which exist within the supermarket space at the present time.
Green Shoots
Of course, excluding all of the one off items mentioned above means that Tesco remained profitable last year. Certainly, its bottom line fell by 58% to £1.4bn, but this was very much in-line with expectations. And, with Tesco delivering its first like-for-like sales volume growth in the UK for over four years, its strategy of improving customer service and better targeted price reductions appear to be increasing footfall and having a positive impact on customers. Furthermore, plans to rationalise the business are likely to make Tesco more focused and more efficient which, in time, is likely to improve profitability.
Looking Ahead
While today’s results are clearly disappointing, the market was anticipating a very tough year. The key driver for Tesco’s share price, of course, is what happens moving forward as opposed to how difficult the past has been. And, on this front, the company appears to have the right strategy with which to make a strong comeback over the medium to long term. This will undoubtedly be aided by better trading conditions, with real terms wage growth likely to ease pressure on sales volumes and improve the company’s outlook.
So, while Tesco’s share price has risen by an impressive 23% year-to-date, its forecasts and valuation indicate that there is much more to come. For example, it is expected to increase its net profit by 15% this year, and by a further 28% next year. And, with Tesco having a price to earnings (P/E) ratio of 21.7, it appears to offer excellent value for money given its very positive outlook.
