Tesco turnaround on track as profits rise 28%

Nyree Stewart
11 April 2018
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Supermarket giant Tesco has posted increased operating profits of £1.64 billion for the year to 24 February 2018 in a marked improvement to recent results.

The grocery sector has struggled in recent years, but Tesco’s turnaround plan that has seen it concentrate efforts to reduce operating costs and improve efficiencies across its store has helped increase profitability. 

Preliminary results for the year to 24 February 2018 recorded a 2.3% increase in group sales, while group operating profit before exceptional items increased 28.4% to £1.64 billion – up from £1.3 billion the previous year. 

Pre-tax profits, however, have soared from just £145 million this time in 2017 to £1.3 billion – an increase of 795.2%. 

Tesco has, therefore, announced a 2p final dividend, in addition to the 1p interim dividend announced in November, which brings the total dividend to 3p for shareholders to be paid on 22 June 2018. 

Laith Khalaf, senior analyst at Hargreaves Lansdown, says: “Tesco is enjoying a renaissance, and its turnaround plan is literally paying dividends to shareholders. The payment announced today puts the stock on a yield of around 1.5%, not a great deal to write home about, but after a three-year hiatus, investors will be pleased to see the dividend taps flowing again. 

“Looking forward, Tesco intends to pay out around half its earnings to shareholders, so improved business performance will mean the dividend has scope to grow too.”

Tesco notes in the UK and Republic of Ireland operating profit before exceptional items increased 31.1% to £1.1 billion, as “efforts to reduce operating costs and improve efficiencies across our store estate and head office have delivered a significant increase in profitability, particularly during the second half”.  

Richard Hunter, head of markets at Interactive Investor, says the results suggest Tesco has moved into strong recovery mode and shows increasing evidence of a return to its former glories.

He adds: “The headline metrics are particularly striking, albeit from a relatively low base, with a 22% increase in cash flow being accompanied by a 30% reduction in net debt, partially leading to a 28% hike in operating profit. 

“Meanwhile, this performance has enabled the return of dividend payments, cost savings remain firmly on track with previous targets and the narrowing gap between wage growth and inflation could play into the company’s hands by way of a more confident consumer.

“Tesco’s decision to discard lesser performing businesses and review its property leasing arrangements also add to the mix, while the integration of Booker should lead to cost synergies over the coming quarters and is subject to high hopes.”

Mr Khalaf points out the outlook is now looking more positive for the grocery sector after a pretty challenging year in 2017, noting Tesco has done well to increase its margins significantly despite the headwinds from a weaker pound. 

But he warns: “Competition in the grocery market is still fierce, with the discounters Aldi and Lidl piling on the pressure, alongside the likes of Morrison and Sainsbury’s. It’s also hard not to glance at the periphery of the market and see Amazon limbering up with the purchase of Whole Foods and online grocery trials in selected UK postcodes.

“Overall, Dave Lewis will be pleased his strategy is starting to gain traction, with sales and margins heading in the right direction, and the Booker acquisition in the bag. The share price has actually dropped by around 10% since he took over as chief executive, though when one of your first tasks is mopping up after an accounting scandal, that’s perhaps not too surprising.

"More recently, the stock has bounced by around 50% since its nadir in January 2016. If Tesco can maintain its momentum in an improving market, there could be more to come.”

Mr Hunter agrees and suggests that for the moment at least there “are not many clouds on the horizon”. 

He adds: “The shares have to some extent reflected this, with a 13% rise over the past six months. In the past year, Tesco’s 8.3% hike compares to a 1.3% decline for the wider FTSE100 and today’s numbers look likely to vindicate a market consensus which currently stands at a strong buy.”

Graham Spooner, investment research analyst at The Share Centre, says the figures resulted in a 6% surge in the share price in early morning trading as the "super tanker of the sector has demonstrated a turnaround with a pre-tax profit of £1.3 billion and a 2.3% rise in sales".

He adds: “An increasingly competitive retail environment has triggered a transformation programme for the group; chief executive Dave Lewis announced that the company was ‘firmly on track to deliver’ its medium-term ambitions. With plans to continue to cut costs and concentrate on improving operating margins, the recent acquisition of the UK's largest cash-and-carry operator Booker has improved expectations of Tesco’s profit portfolio with synergies of £60 million forecast within the first year of the merger, reaching £200 million in the third year."

Mr Spooner notes the outlook for Tesco is improving, but warns due to the uncertain nature of the retail market and competition "we maintain our view that shares are an increasingly solid ‘hold’ for medium risk investors with a balanced portfolio”.

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