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Why I’d Buy Tesco PLC And Conviviality Retail PLC, But Would Sell Greggs plc

2015 has been a very mixed year for the retail sector. That’s because, while the improving UK economy and increasing disposable incomes in real terms has caused investor sentiment towards some stocks to improve, for other shares their performance since the turn of the year has been rather less impressive.

For example, bakery chain Greggs (LSE: GRG) has been a major winner in 2015, with its shares rising by an incredible 64% since the turn of the year. In fact, its strategy of simply closing unprofitable stores and opening new ones has been hugely successful following a tough period for the company, with its bottom line soaring by 43% last year after two successive years of a fall in its bottom line.

Looking ahead, Greggs is set to continue to offer customers more, for less. It is refurbishing its existing stores and seeking to go back to what made the company successful in the first place: good value, decent quality food that is offered at prime locations benefitting from high footfall. As such, it is expected to deliver profit growth of 17% in the current year, followed by growth of 7% next year.

Despite this, Greggs appears to be worth selling at the present time. Certainly, its shares have performed very well in the past, but they are trading on a very rich valuation, with them having a price to earnings (P/E) ratio of 23.4 which, when combined with their forecast growth rate, equates to a price to earnings growth (PEG) ratio of 3. As a result, Greggs’ share price could come under pressure on valuation grounds – even if the company continues to perform well as a business.

Meanwhile, other retailers such as Tesco (LSE: TSCO) and Conviviality Retail (LSE: CVR) have not fared as well as Greggs in 2015, with their shares rising by 12% and 5% respectively. However, this indicates that they may have greater upside potential, with Tesco trading on a PEG ratio of 0.6 and Conviviality Retail having a PEG ratio of 1.2.

Certainly, Tesco has a long way to go before it returns to full health. However, with growth forecast for next year and a low valuation, it may benefit from improving sentiment among investors even if it is not yet turned around. In other words, an anticipated improvement in its outlook, followed by signs of progress (i.e. a rising bottom line) could provide the catalyst to push Tesco’s share price considerably higher. Furthermore, with Tesco having a strong balance sheet plus capital to invest from the proposed sale of its non-UK assets, it appears to have a very bright future.

And, while the sale of alcohol is perhaps unlikely to rise significantly as the economic outlook improves (since demand for alcohol tends to remain relatively stable no matter what the economic weather), Bargain Booze franchise owner, Conviviality Retail, appears to offer excellent income prospects. That’s because it currently yields 5.7% and only has a payout ratio of 67%. This means that its dividends are sustainable and have the potential to grow which, alongside the aforementioned PEG ratio of just 1.2, makes its shares hugely appealing at the present time.

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Peter Stephens owns shares of 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.