Tesco (LSE: TSCO) just goes from bad to worse, doesn’t it?
I mean, one bad Christmas doesn’t mean the UK’s biggest supermarket has lost its way, does it? Well, it’s looking like it did, with Tesco still not having managed to turn things round in the last couple of years. And there’s clearly worse to come, with no sign of a return to profit growth on the cards before the year to February 2017 at the earliest.
Buy when things look bad
But when things look like they can’t get any worse — they do!
On 29 August, Tesco released a profit warning and chopped its dividend by a swingeing 75%! I’ve said before that I expected a cut, but I didn’t imagine anything that bad. And to top it off, major investor Harris Associates, which held 3% of Tesco, has slashed its holding amid fears that new boss Dave Lewis’s strategy is too uncertain — but least Mr Lewis, fresh from the top job at Unilever‘s Personal Care division, has now joined the company a month earlier than planned.
And the share price slumped again, and now stands at just 228p. But has it gone too far?
Here’s a quick look at Tesco lined up against J Sainsbury (LSE: SBRY) and Wm Morrison (LSE: MRW), assuming that the 75% dividend reduction will be maintained through to 2016:
| Year | Tesco | Sainsbury | Morrison |
|---|---|---|---|
| EPS growth 2014 | -5% | +6% | -8% |
| P/E |
10.4 | 9.6 | 9.5 |
| Dividend Yield |
4.4% | 5.5% | 5.4% |
| Dividend Cover |
2.17x | 1.90x | 1.94x |
| EPS growth 2015* |
-27% | -7% | -53% |
| P/E |
11.0 | 10.3 | 14.9 |
| Dividend Yield |
1.4% | 5.4% | 7.4% |
| Dividend Cover |
6.5x | 1.80x | 0.91x |
| EPS growth 2016* | -3% | -1% | +17% |
| P/E |
11.5 | 10.5 | 12.7 |
| Dividend Yield |
1.3% | 5.4% | 6.4% |
| Dividend Cover |
6.47x | 1.78x | 1.22x |
* forecast
On that score, I’m happy to rule out Morrisons as a contender right away. So it’s down to Tesco vs Sainsbury’s.
One down…
And although Sainsbury’s looks like a pretty good investment, the question is whether Tesco shares are oversold now — has the nation’s top food retailer finally hit the point of maximum pessimism?
I think it probably has (though I’ve thought that several times before), and I reckon there are some compelling reasons to buy as a recovery play now — albeit one not without risk. Tesco still has almost 30% of the UK’s groceries market, and it commands a 45% share of the online market. (That’s what you get by being first — eat your heart out, Morrisons.)
Tesco also has the clout, boosted by all that cash that it isn’t now going to pay out as dividends, to slash prices, dump ex-chief Philip Clarke’s initiatives, or whatever Dave Lewis thinks is the right thing to do.
Safe or adventurous?
So, for a safe supermarket investment, I’d go with Sainsbury’s — but I really can’t help thinking Tesco is finally at the “too cheap to ignore” level.
