Earnings season: Tesco shares look appealing after strong Christmas trading

Jon Smith reviews the Christmas trading report and outlines why he thinks Tesco shares could rally from here, despite inflation worries.

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This morning, Tesco (LSE:TSCO) released its Q3 and Christmas trading statement. The positive year-on-year growth figures and the hold on market share made for positive reading. Tesco shares haven’t moved much so far this morning, but have jumped 7.8% over the past month in the lead up to the release. Here’s why I think the stock could have further gains ahead this year.

Growth on many fronts

One of the main points that impressed me from the trading update was growth in sales despite tough comparisons with previous years. The business saw growth during the pandemic as it was a provider of essential goods and services. This makes it harder to show an improvement in sales the following year as it’s already set a high bar.

However, in the 19 weeks covered (Q3 + Christmas), group retail sales grew by 6.4% versus last year. It also had a market share of 27.5%. Regarding this, it said that it’s the “only full-line grocer to increase market share versus pre-pandemic.”

As a result, guidance for the full-year was reconfirmed, with operating profit expected to be in the £2.4-5bn range. This would be similar to the figure last year, but up on the previous two years’ results.

Concern around inflation remains

If you’d asked me last autumn if I thought Tesco would outperform over the Christmas period, I’d have been very sceptical. After all, the half-year results showed that operating profit dropped by 43.6%. High inflation and the cost of goods sold squeezed margins for the supermarket.

Inflation still hasn’t peaked in the UK, and although analysts are forecasting that it will soon start to moderate, we’re by no means out of the woods. Interestingly, the word inflation wasn’t used at all in the report, with only one casual mention of the “inflationary environment”.

I feel that rising prices continues to be the largest risk to Tesco shares gaining in value this year. Even if inflation starts to fall, it’s still way above the Bank of England’s 2% target level. Even if it falls to 5%, people are still going to feel the pinch when out shopping. This could negatively impact revenue for Tesco in 2023.

Thinking about the shares

It’s true that Tesco shares haven’t moved much this morning, with the stock up only 0.32% as I write. I feel that some of the good news was already factored in to the share price, before results were released. The stock is up in the past month, reflecting investors’ optimism around the Christmas period.

We already had some evidence that this could be a strong report following Next beating expectations last week.

Tesco shares are still down 16% over the past year. This reflects the concerns around the impact of high inflation. Even though this is still a worry for me, I do think that Tesco could outperform this year and beyond. With a robust market share and clear demand from customers, I’m considering buying the stock now.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Jon Smith has no position in any of the shares mentioned. The Motley Fool UK has recommended Tesco Plc. 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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