Trading at Tesco (LSE: TSCO) has been relatively resilient throughout the last year and it isn’t hard to fathom out why. In contrast to other members of the FTSE 100, the business was perfectly placed for multiple UK lockdowns. Regardless of a pandemic, everyone needs to eat.
Unfortunately, this hasn’t been reflected in the performance of the Tesco share price to date. I think this is set to change over the rest of 2021.
Tesco share price: opportunity knocks
Based on current analyst projections, Tesco trades on 11 times forecast FY22 earnings. This makes it the cheapest of the listed supermarkets to acquire. I think that’s very attractive considering Tesco remains the clear market leader in the UK. Despite the huge growth achieved by German discounters Aldi and Lidl over the last few years, Tesco still commands 27% of the market. Sainsbury, in second place, has just over 15%.
The reason for this low valuation relates to the huge jump in profits expected once the coronavirus storm has passed. These have been held back as a result of the additional costs the retailer has faced from needing to adapt its stores and delivery service in response to Covid-19. This helps to explain why the FTSE 100 index is up almost 30% since last March’s market crash but the Tesco share price is down almost 20%.
Even if a recovery takes time, Tesco looks like a great stock for income seekers. Analysts have the company returning 10.7p per share in the current financial year. That becomes a yield of 4.7%, based on the Tesco share price as I type. This goes some way to compensating for the fact that holding individual company stocks involves more risk than buying a fund tracking an index. For comparison, The FTSE 100 currently yields a little under 3.2%.
In addition to the bigger payout, Tesco’s dividends look set to be covered almost twice by profits. In other words, it’s very unlikely to be cut, or not paid, at least as things stand.
As bullish as I am on Tesco, this doesn’t mean there won’t be some turbulence ahead. For one, the coronavirus pandemic could conceivably continue to hold back profits if (and that’s a big ‘if’) the UK experiences a third wave like some European countries.
Another potentially more long-lasting threat is the possibility that e-commerce giant Amazon may acquire one of Tesco’s rivals (Morrisons seems the most likely candidate) and/or dramatically grow its presence on UK high streets.
As things stand, the latter looks more probable. In the last month, the US company has opened two Amazon Fresh branded stores in London. Instead of using self-service tills or queuing up, customers open an app on their phones on arrival. The app then records what they take out of the store and bills the person accordingly.
Now, whether this innovation is sufficient to worry Tesco is hard to say. In time, the company could end up introducing similar technology to its own stores. Nonetheless, I do think it’s worth bearing in mind before clicking the ‘buy’ button.
Tesco remains the go-to option in this sector, in my opinion. It may not boast the pulse-quickening excitement of a stock like Ocado but I think it’s a far better pick for more defensive-minded, get-rich-slowly investors like me.
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Paul Summers has no position in any of the shares mentioned. The Motley Fool UK has recommended Ocado Group and Tesco. 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.