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Is the current Tesco share price a buying opportunity?

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Supermarket aisle with empty green trolley
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The Tesco (LSE:TSCO) share price held its own during the pandemic. Make no mistake, there was a fall from its pre-pandemic highs of 320p in late February, but prices remained reasonably stable throughout the rest of the year. The start of 2021 saw prices nudge back above the 300p barrier, but this bullish run came to a stop in early February when prices tanked to below 230p.

Does this present me with a buying opportunity for this FTSE 100 veteran? Let’s take a closer look.

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Tesco share price nosedive

Whilst the Tesco share price drop may signal alarm bells for investors, it’s actually not as bad as it seems. In February, the business announced a special dividend of 50.9p per share to be paid back to investors. This was to be financed by the £7.8bn sale of the group’s Thailand and Malaysia operations that completed back in 2020. Some £2.5bn of this was paid into the firm’s defined benefit pension scheme to improve future operating profit. The remaining £5bn was paid to investors on February 26.

So, why did the Tesco share price drop? The sale of these assets reduced Tesco’s market cap by around 20%. If nothing was done, the share price would have fallen by the amount of the dividend paid, which would have been bad news for investors. To prevent such a vast fall, Tesco conducted a 15 for 19 share consolidation. This means for every 19 existing shares owned, investors would own 15 new ones. While the drop may seem significant, it has been amplified by the share price consolidation. As a fellow Fool explained, after adjusting for share price consolidation, the price is down just 4% year-to-date.

A buying opportunity?

Now the share price drop has been explained, let’s take a closer look at the company’s future prospects.

In its April annual report, the firm highlighted free cash flow of £1.2bn, which is substantially higher than its regular dividend cost. The firm also highlighted that the pandemic added over £900m of costs. However, as the world moves back to normality, these costs are likely to shrink away. This could leave the firm with an increasingly strong cash position, which is great news for the already attractive 4.5% yield. An increasing yield is likely to attract more investors and could drive up the Tesco share price.

Though the free cash position caught my eye, it’s hard to ignore some of the other numbers the report presented. Group sales were down, alongside an 18.7% decrease in pre-tax profit. In addition to this, competition within the food retailing market is heating up. Throughout April, Tesco’s sales rose just 3%. By comparison, Aldi and Lidl saw jumps of 10% and 18% respectively! This is bad news for Tesco, as competitors are eating into its market share.

I’d buy for the long term

Currently trading at 226p, I think the Tesco share price offers some great value. Although competition is growing, I think the current cash position of the firm could offer room for an increasing dividend. There are still risks to consider, but at this price, I think the future looks bright for Tesco shares and I’d buy. 

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Dylan Hood owns no shares in Tesco. The Motley Fool UK has recommended Tesco. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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