At face value Tesco (LSE: TSCO) may appear an appealing pick for those seeking white-hot recovery stocks.
Rising competition forced Britain’s biggest retailer into a humiliating rearguard action in recent years, the German discounters Aldi and Lidl in particular taking bites out of Tesco’s dominance. This had a devastating effect on its customer base and, in order to match its new rivals in terms of price, it had to keep slashing shopper bills at the expense of its previously-bulky margins.
But under the stewardship of Dave Lewis the ship seems to have steadied at Tesco, the new man laying out a variety of measures from freshening up its product ranges to improving the customer experience. Fans of the company would point to recent sales data at the firm as evidence of this success (latest Kantar Worldpanel numbers, for example, showed sales improved 2.5% during the 12 weeks to December 3, making it the best performer out of the so-called Big Four chains).
Excesses like the disastrous foreign ventures are now consigned to history, and the recently-approved £3.7bn buy of wholesaler Booker Group is seen as a potentially-transformative move.
City forecasters certainly reckon that the grocery giant is over the worst and are predicting exceptional and sustained earnings growth. For the year to February 2018 a 55% bottom-line uptick is being tipped, and in fiscal 2019 an extra 25% rise is predicted.
To the cheer of its investors, Tesco’s improving profits performance heralded the resumption of dividends earlier this year, and current estimates suggest a 3.1p per share dividend for the current period, resulting in a 1.5% yield. And the reward is expected to leap to 5.1p next year, nudging the yield to a decent 2.4%.
Still too risky
I am afraid, however, that I do not share the sense of optimism washing over the Square Mile given that the competitive pressures facing Tesco continue to rise.
While it has seen turnover improve in recent months, soaring inflation is the bedrock of this sales uptick rather than a marked recovery in shopper numbers. Indeed, Kantar’s numbers showed that the firm’s market share actually dipped 10 basis points in the period, to 28.2%.
By comparison Aldi and Lidl, helped by their aggressive expansion programmes, saw their market shares jump 0.7% and 0.5% respectively to 6.9% and 5.1%. And I expect this breakneck growth to continue as more and more cash-strapped shoppers look to load their baskets for less.
I see no reason to invest in Tesco right now, and particularly given its high forward P/E ratio of 19.8 times. Rather, I would use recent share price strength as an opportunity to cash out today.
Silver surfer
Those looking for bright earnings growth in the FTSE 100 would be better served investing in Fresnillo (LSE: FRES), in my opinion.
The precious metals miner is expected to record a 48% earnings improvement in 2017, and to follow this with a 10% advance next year.
It isn’t difficult to see the Mexican digger make good on these estimates, either, as it steadily ramps up its operations (silver output jumped 24.1% during July-September, to 14.6m ounces), and a cocktail of macroeconomic and geopolitical tensions is likely keep demand for safe-haven metals in vogue.
In my opinion Fresnillo is an attractive share to buy today despite its elevated prospective P/E multiple of 27 times.
