Will Tesco PLC’s Shares Fall Below 300p?

Tesco (LSE: TSCO) (NASDAQOTH: TSCDY.US) was the contrarian plat du jour following its profit warning two years ago. After the price crashed from 390p to 320p, snapping up the shares was like buying a Tesco Finest steak that had inadvertently been tagged with a Value-range label — or so the contrarian argument went.

I wasn’t convinced — for three main reasons:

  • The contrarian view wasn’t so contrarian. Tesco was being tipped by every value investor under the sun, and only 16% of analysts rated the shares a sell. This wasn’t darkest-hour stuff. (A truly unloved share at the time was AstraZeneca, which 39% of analysts were advising dumping.)
  • Historically, big supermarkets — like supertankers — take an age to turn round when they go off course. After a profit warning in 2004/5 it took J Sainsbury six years to get earnings back above their pre-profit warning level. It’s currently six years and counting for French supermarket giant Carrefour after a profit warning in 2008.
  • It seemed to me that the fall in Tesco’s shares no more than reflected a new reality that included throwing £1bn at the UK stores to try to get the core business back on track, and management’s downward revision of its previous assumptions about the rate of long-term sustainable sales and earnings growth.

I wanted to see Tesco’s shares below 300p. Too greedy? I didn’t think so, given the risk of earnings getting worse before getting better, and history’s lesson of a likely protracted recovery.

Tesco’s shares are currently trading at around the 320p-330p level that eager contrarians snapped them up at on profit-warning day. Two years on, the share price may be the same, but earnings downgrades mean the forecast price-to-earnings (P/E) ratio is now around 10.5 compared with the 9 or so at which the early birds thought they were catching the worm.

I continue to have hopes of being able to buy Tesco’s shares at below 300p. The number of analysts rating the shares a sell has increased to 27% from 16% two years ago, and Tesco has been persistently managing-down market expectations for earnings, as reflected in the table of broker consensus forecasts below.

diluted EPS (p)
Forecast at
November 2011
Forecast at
November 2012
Forecast at
November 2013
2011/12 37.15
2012/13 41.07 33.42
2013/14 44.58 35.35 30.99
2014/15 38.48 32.71
2015/16 34.68

Expectations are continuing to be eased down. In Tesco’s Christmas Trading update just last week, the company said it expects 2013/14 full-year trading profit to be “within the range of current expectations … £3,157m to £3,416m, with a mean of £3,330m”. Those numbers are actually a bit below the estimates that were gracing Tesco’s website just before the update was issued: range — £3,321m to £3,462m; mean — £3,386m.

I think if the 2013/14 results come in at the lower end of expectations, and there are downgrades to 2014/15 EPS forecasts, we could see Tesco’s shares on offer below 300p during the course of this year. Given the recent history of falling EPS forecasts, it doesn’t require a huge leap of imagination to see forecasts for 2014/15 coming down to 30p and the company trading on a P/E of 10 — ie, the shares at 300p.

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G A Chester does not own any shares mentioned in this article. The Motley Fool owns shares in Tesco.