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How Much Higher Can Tesco PLC Go?

TescoRight now I’m looking at some of the most popular companies in the FTSE 100 and wider market to try and establish which direction their shares are likely to move.

Today I’m looking at Tesco (LSE: TSCO) to ascertain if its share price will continue to rise.

Market sentiment

It would be fair to say, that Tesco has fallen out of favour with the market during the past few years. However, investors have recently given the UK’s biggest retailer a second chance and during the past two months the company’s shares have outperformed the wider FTSE 100 by approximately 2%.

The question is, can this performance continue? Well, Tesco’s full-year results, released only a few weeks ago contained nothing to get excited about and do not suggest further outperformance.

Within its full-year results, the grocer reported that like-for-like sales fell 1.3% during 2013 and trading profit declined by 3.6% to £2.2bn. What’s more, the company reported that its share of the UK grocery market had fallen to 28.6%, the lowest level since 2004.

Tesco also came under pressure overseas. Within Europe Tesco reported a loss of £734m, while over in Asia, profits declined 5.6%.

But aside from poor trading results, there are other factors keeping Tesco’s management awake at night. For example, the company’s pension deficit jumped from £1.8bn to £2.6bn during 2013 as a result of falling corporate bond yields.

In addition, the grocer lost its well-respected finance director, Laurie McIlwee, earlier this year after 15 years at the company. Mr McIlwee was widely considered to be one of Tesco’s top executives, needed by the company during this period of turbulence.   

Possible catalysts

Still, Tesco is not ready to give up yet, and the company has embarked on yet another offensive to win back customers.

The company is now specifically targeting the hard discounters and pound stores, dedicating aisles in its stores to cut-price products. Tesco is turning aisles within some of its stores into ‘zones’, selling products priced at a pound or below.

This latest initiative could be what Tesco needs to attract customers, although it is unlikely that results will be seen for some time. That being said, it would appear that investors are already pleased with this scheme based on the company’s share price performance since it was announced. 

City expectations

Nevertheless the City is not convinced that this latest sales drive will translate into profits. Indeed, current City forecasts predict that Tesco’s pre-tax profit will slump a further 15% this year and earnings per share will drop to 26.7p, from 32.1p. This puts the company on a forward P/E of 11.4.

However, the City does expect the company to return to growth during 2016.

For those investors who are prepared to wait, Tesco’s dividend yield, which currently sits at 4.9%, is covered twice by earnings and the payout does not look to be under threat.

Foolish summary 

So overall, it seems as if Tesco’s share price is going to struggle to push higher. The company is still grappling with falling sales and current City forecasts indicate that Tesco is not going to be able to reverse falling profits any time soon. 

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In the meantime, please stay tuned for my next verdict.

Rupert owns shares in Tesco. The Motley Fool owns shares in Tesco.