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Here’s why the Tesco share price is flying today

Tesco fruit and veg
Image source: Tesco

The Tesco (LSE: TSCO) share price was flying in early trading this morning as the company announced it would be raising guidance on profit for the full year. With takeover action renewing the market’s interest in UK supermarkets over recent months, I think there could be more upside to come. It’s unlikely to be all be plain-sailing though.

Profits soar

At £27.3bn, sales rose 2.6% over the half-year compared to the same period in 2020. This led total adjusted operating profit to jump 40.6% to £1.46bn. The vast majority of this came from the company’s stores, which benefited from reduced pandemic-related costs in the UK and abroad. That said, it’s encouraging to note that Tesco Bank also returned to profit.

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On a statutory basis, revenue rose 5.9% to £30.4bn over the period. Pre-tax profit more than doubled to £1.14bn. In another positive, free cash flow from Tesco’s retail arm rocketed 93.6%, allowing the company to reduce its net debt burden from £12.5bn down to £10.2bn. As someone who places great importance on a firm’s financial resilience, this was a particular highlight for me.

Expectations raised

Following such a great first half, Tesco has now increased its expectations on adjusted retail operating profit for the full year ending 27 February. A total of £2.6bn is now predicted, even though some moderation of sales is likely. That’s a 4% hike on previous guidance.

Naturally, there’s no guarantee that this number will be hit. Supply chain issues, driver shortages and food price inflation could make for a tricky festive period for all supermarkets, including Tesco. CEO Ken Murphy was keen to highlight that the company’s relationships with its suppliers remained “a key asset“. However, I suspect things could get strained as the end of 2021 approaches.

The are other potential obstacles, of course. A rise in Covid-19 infection levels as more people socialise indoors could hurt sentiment towards the stock. The sharp rise in energy prices could also have consequences as shoppers adjust their spending to meet higher bills. Naturally, a wider slowdown in economic growth could see the FTSE 100 retreat too. In such a scenario, the Tesco share price will likely fall in tandem, despite the company’s fairly defensive qualities.

Notwithstanding all this, the stock still grabs my attention.

Tesco share price: still good value

Tesco was trading at 13 times earnings before markets opened this morning. For a business that possesses an enormous share of the market (and a hugely popular loyalty scheme), that looks reasonable to me. My enthusiasm rises further when one considers just how well the company has developed its digital offering. Yes, multiple UK lockdowns have no doubt helped. However, like-for-like online sales growth of 74.1% over two years isn’t to be sniffed at.

In addition to the above, I also regard Tesco as a great candidate for an income-focused portfolio. A potential 9.6p per share cash return this year gives a yield of 3.8%. That’s higher than the 3.5% offered by the FTSE 100. It also looks very secure, based on anticipated profit.

Patience required

Today’s rise in the Tesco share price looks justified. It also goes some way to solidifying my opinion that this is still the best pick of the sector. So, while the next few months could prove difficult for all retailers and patience is most definitely required, I’d feel comfortable buying TSCO today.

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Paul Summers has no position in any of the shares mentioned. 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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