Can Tesco PLC Make £5 Billion Profit?

Will Tesco PLC (LON: TSCO) be able to drive profits higher?

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Right now I’m looking at some of the most popular companies in the FTSE 100 to try and establish whether or not they have the potential to push profits up to levels not seen in the last few years.

Today I’m looking at Tesco (LSE: TSCO) (NASDAQOTH: TSCDY.US) to ascertain if it can make £5bn in profit.

Have we been here before?

A great place to start assessing whether or not Tesco can make £5bn in profit is to look at the company’s historic performance. Unfortunately, it would appear that Tesco has never been able to make £5bn in profit and it would appear as if the company is going to struggle to do so in the near-term. Indeed, due to the company’s terrible performance during its 2013 financial year, even after excluding extraordinary items, Tesco’s net income has slumped 35% over the past five years.

 That being said, excluding 2013, Tesco’s performance from 2009 to 2012 was extremely impressive. For example, over this period the company’s revenue increased 20% and net income, excluding extraordinary items jumped 48%. With net income expanding faster than sales, this implies that Tesco’s profit margins are improving and the company is not sacrificing profit for sales.

But what about the future?

Tesco’s future outlook is key here, as although the company put in a strong performance during the four years to 2012, the company has been running into trouble during the past year or so.  However, City analysts expect Tesco’s pre-tax profit to rise back up to £3.1bn for 2014, more than 50% higher than the pre-tax profit of just under £2bn reported for 2013.

Nevertheless, after 2014 analysts expect Tesco’s pre-tax profit to remain almost static for the next three years as the company tries to improve sales figures in an increasingly tough retail environment. Further, there is talk from some analysts that Tesco could start an aggressive price-war here in the UK by slashing its profit margin in half, to drive sales. Of course, this would further inhibit the company’s ability hit my profit target.

What’s more, Tesco’s net profit margin has averaged 3.2% per annum for the last five years, implying that unless the company can double or even triple its net profit margin, Tesco’s would have to make sales of more than £156bn per annum to make a profit of £5bn . To put that into some perspective, the whole UK grocery market was worth £169.7bn during 2013.

Foolish summary

So overall, I feel that Tesco cannot make £5bn profit. 

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

> Rupert owns shares in Tesco. The Motley Fool owns shares in Tesco.

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