What Does Tesco PLC’s Profit Warning Mean For Shareholders?

tesco2Tesco (LSE: TSCO) gave investors a rude awakening on Friday, when it issued an unscheduled trading update.

In one fell swoop, Tesco cut its full-year profit forecast by nearly 15%, cut the interim dividend by 75%, and cut off life support for its unfortunate chief executive, Philip Clarke.

Mr Clarke was given the boot a month earlier than planned to enable ex-Unilever new boy Dave Lewis to take control from September 1, allowing him to take stock of the situation and start making changes ahead of the firm’s interim results day on October 1.

What’s the damage?

Tesco’s previous guidance for full-year trading profit (adjusted operating profit) was £2.8bn. That’s now been cut to between £2.4bn and £2.5bn.

The second area was even more significant: after growing or maintaining its dividend for 30 consecutive years, Tesco has cut its payout.

The firm now says that the board expects to set the interim dividend at 1.16p per share, a 75% reduction on last year’s 4.63p payout.

The good news

Frankly, Mr Clarke’s premature departure can only be seen as good news. With only a month to go, he would have been marking time, unable to make any further changes.

By allowing Mr Lewis to get an early start, the board has brought forward the date at which investors will gain some insight into how the firm’s first ever outsider boss is planning to arrest Tesco’s decline. I reckon that’s good news for investors.

What else should you expect?

In a recent article, I outlined several reasons why I believe Tesco shares may yet hit a low of 200p.

Firstly, I suggested a dividend cut was likely — which has now been confirmed. I expect the final payout to be cut next year, too, and am targeting a total payout of around 9-10p.

Secondly, I believe Tesco’s profit margins will fall, as a result of further price cutting. The firm’s latest profit warning implies a full-year operating margin of around 3.8%, but the final figure could be slightly lower.

Buy, sell or wait?

I now rate Tesco as a long-term hold, as in my view, there is currently too much uncertainty about Tesco’s outlook to justify buying or selling the firm’s shares currently.

Until Mr Lewis unveils his plans to the market, investors can no longer really be sure what they are buying into — so now is a time for patience, in my view.

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Roland Head owns shares in Tesco. The Motley Fool UK owns shares of Tesco. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.