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Heavyweight Tesco debunks predictions and dumps rivals in the gutter

Analysts at Bernstein hailed the “material outperformance relative to peers” and the contradiction to indications from Kantar’s industry data that implied Sainsbury was ahead of Tesco

Tesco PLC -
Tesco is the Yokozuna of UK grocers

The post-Christmas update from Tesco PLC (LON:TSCO) at first glance showed pretty gloomy sales figures, but on reflection confirmed the giant grocer’s deserved top rank in the sector.

What’s more, it reinforced the views from others in the industry that despite hopes for a post-election bounce, the UK remains a tough retail environment.

READ: Tesco Xmas sales fall less than expected

Britain’s largest supermarket group revealed domestic sales in its supermarkets over the 19 weeks to 4 January of £13.7bn were 0.3% lower than the same period last year, down 0.2% on a like-for-like basis.

It was not just the UK, too, as sales in Central Europe tumbled 13.7% at constant exchange rates to £1.9bn, down 10.3% LFL, and Asia was flat at £1.9bn, with LFLs down 1.6%.

So far, so unimpressive, some might think.

Fantastic beats and where to find them

But Tesco’s 0.2% LFL decline not only beat analysts estimates but, like a top-ranked Yokozuna sumo wrestler, debunked industry data earlier in the week and dumped rivals over the ropes, easily besting the 0.7% slide at second-placed rival Sainsbury’s (LON:SBRY) and shooting the lights out compared to the 1.7% drop for Morrisons (LON:MRW).

Analysts at Bernstein hailed the “material outperformance relative to peers” and the contradiction to indications from Kantar’s industry data that implied Sainsbury was ahead of Tesco.

“Encouragingly, the Xmas trading performance was ahead of Q3, showing trend improvement, and over Xmas they outperformed peers on a volume and value basis,” Bernstein’s Bruno Montenyne said in a note.

When discounters Lidl and Aldi are adding around 10% space each year, for Tesco to remain “flattish in a very subdued market… is very strong”, he added.

Analyst James Grzinic at Jefferies said that at a time of flat UK market growth and before any real benefit has been seen from the anticipated revitalising of the domestic consumer, Tesco’s performance “should help reassure about the ongoing attractions of the offer”.

What’s behind Tesco’s outperformance?

Strong growth from wholesale arm Booker and the sheer vastness of its core UK grocery business was the key for Tesco, with sales rising 0.5%, as general merchandise (GM) slipped 0.4% to reflect Lewis’s moves to withdraw from highly competitive non-food markets or “refine the mix of our offer”.

This trend was also reflected at Sainsbury’s and others like Marks & Spencer and John Lewis, where food businesses all outperformed general merchandise.

At Sainsbury’s, which is only just starting to get involved with wholesaling, LFL grocery sales grew 0.4% and its Argos GM arm was down 3.9%; at M&S food was up 1.4% and GM down 1.7%; John Lewis’s Waitrose business grew 0.4% and its main John Lewis & Partners chain saw sales plunge 2.0%.

Booker in particular continues fully to vindicate Lewis’s 2018 acquisition, said Richard Hunter, head of markets at Interactive Investor, while strong online sales also made a meaningful contribution with nearly 15% growth in orders.

It seems like Tesco used “aggressive price control” to keep UK sales moving forwards over the Christmas period, and was “bailed out” by Booker, felt Nicholas Hyett at Hargreaves Lansdown.

“We can’t help but wonder what the focus on volume growth through a combination of price cuts and wholesale has done to margins,” he said.

For Clive Black at Shore Capital, it is more that Lewis’s team was “on top of a number of levers” around the product mix, which were “enabling technology and cost efficiency”.

Another lever is the ongoing restructuring of Polish operations and reshaping of the businesses in the Czech Republic, Hungary and Slovakia, with underlying sales down only 1% if excluding the impact from closures, re-sizes and range changes.

More to come?

Looking at Tesco’s six weeks of festive sales at the end of the period, UK LFLs were actually higher than the previous year.

Lewis hailed this as “our fifth consecutive Christmas of growth” and, while it might have come at the expense of margins, might it also give a taste of more to come, wondered Grzinic.

Returning to positive LFL growth “is an encouraging sign of sustainable progress in the UK, providing a solid foundation for margin expansion in a potentially supportive post-election consumer environment”, he said.

Taking confidence from signs of a bottom-up and top-down macroeconomic revival, he said Tesco’s current 2020 free cash yield of 7.6% and 14.1 times P/E ratio “shows the scale” of the shares potential for total shareholder return.

And that’s even before a potential disposal of Tesco’s last remaining Asian business, where recent media coverage suggests the disposal “seems to be progressing at pace”.

Bidding is reported to be underway with apparently interest from at least three domestic buyers.

A disposal could result in circa 10% earnings accretion if proceeds are fully returned to shareholders, Grzinic said.

With Lewis due to leave in the summer, with Boots boss Ken Murphy incoming, Black added that it was important to “understand the incoming CEO’s strategy, but for now we anticipate broad continuity”.

As such, Shore Capital joining Jefferies and Citigroup in reiterating a ‘buy’ stance on the shares following the update, with Bernstein at ‘outperform’ and Barclays likewise with Tesco it’s ‘top pick’ in the sector.  

Quick facts: Tesco PLC

Price: 212.5 GBX

Market: LSE
Market Cap: £20.81 billion

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