A year ago, I was seriously considering buying Tesco (LSE: TSCO) shares. This was before the Ukraine war, the energy price shock, and the cost-of-living crisis.
My biggest worry at the time was whether the economy was bouncing back fast enough from Covid lockdowns, amid ongoing supply shortages. Boris Johnson was Prime Minister, and Rishi Sunak Chancellor. It was a different world.
An awful lot has happened since then, and it has hit Tesco shares hard. They have fallen 21.11% in the last 12 months. By contrast, the FTSE 100 is down just 3.08% over the same period.
Lucky I didn’t buy Tesco shares
I’m glad I didn’t buy Tesco shares back then. The stock currently yields 5.04%. So even after reinvesting my dividend payout, I would still be sitting on a 16.07% loss.
If I had invested £1,000 a year ago, I would have £839.30 today. That’s not a disaster, but it’s not great either.
Naturally, Tesco has been hit hard by the cost-of-living crisis. While the group’s costs have increased, shoppers have less money. The £16bn FTSE 100 company may be the UK’s biggest grocer, with a 27% market share, but it lacks pricing power in a competitive market, with Aldi and Lidl sniffing.
Tesco’s profit margins have always been tight, and currently stand at just 4.2%. That is now forecast to shrink to a wafer-thin 2.9%. Tough times indeed.
What’s past is past. I dodged a bullet in 2021, the big question now is this. Should I buy Tesco shares today?
Food may be a consumer staple, which should theoretically underpin sales in hard times, but UK food retail is not a happy place right now. Credit Suisse has trimmed its target price for Tesco, from 292p to 238p. Today, the stock trades at 216p, which doesn’t leave much of an uplift.
Tesco has also been hit by the weak pound, which has driven up import costs. Sterling may strengthen with Rishi Sunak as PM, but there is still a long way to go.
Companies that operate in a competitive market cannot afford to stand still. Tesco needs to invest in its online operations, boost automation, and minimise delivery disruption. All this costs money, and will squeeze margins further.
It’s on my Christmas wish list
The peak Christmas period is coming, but so are peak electricity bills, and shoppers won’t feel any richer come the festive period. Tesco sees full-year profits “at the lower end of guidance”, with retail adjusted operating profit falling from last year’s £2.65bn to between £2.4bn and £2.5bn.
The result is that Tesco shares trade at 9.7 times earnings. So the entry valuation looks attractive, offsetting many of the risks. Its current yield is also covered twice, which gives me confidence that the dividend will be maintained, and increased, too.
That dividend should tide me over until the shares recover. I recently bought Persimmon and I’m lining up Rolls-Royce as my next buy, when I have the money. I’m now adding Tesco to my watchlist, and hope to buy it before Christmas.
Tesco shares may take some years to recover, but I will reinvest my dividends to pick up more stock while I wait.
