Tuesday, 8.22am in London. Tesco shares are trading at 156.7p. They are down 16 per cent on Monday’s close, and 53 per cent on the year. This, perhaps, was the moment. The bottom. After that the shares recovered to close at 174.9p. Somebody, somewhere could be sitting on a 12 per cent profit on Tesco shares on the day, despite the company issuing its fourth profit warning in a year. How tempting it is to join them. Imagine the day next summer when you brag that, unlike Warren Buffett, you bought at the bottom and enjoyed the ride up.
And you could build yourself a case for buying into Tesco shares now. Five years ago Tesco made a trading margin (the company’s preferred form of operating margin) of just under 6 per cent. This year it will be around 2 per cent. Part of that is a one-off drop relating to the timing of payments from suppliers. But it is also because of the woeful state of the UK grocery market. Assume the 6 per cent margins are not coming back and that Tesco can only recover to a margin of 3 per cent on sales of £62bn (a touch below last year’s). That is a trading profit of £1.9bn. Take off £400m of interest costs and tax at 20 per cent, and there is a net profit of £1.2bn. That is 15p per share, and a price-to-earnings ratio of 12. Not outrageous, and it is possible that chief executive Dave Lewis can coax out better margins or revenues.
But this is all reckoning without January 8. That is when Mr Lewis, by then four months into his job, will sketch out his plans. The balance sheet, the peripheral UK businesses (Hudl, Giraffe, Blinkbox) and the overseas operations all have to be addressed. Most of all though, he needs to explain where the UK business is going and how long it will take to get there. There are too many variables at the moment to have any confidence in a 15p EPS figure. Even if Tesco can reach that (for comparison it made over 37p in 2012; Shore Capital estimates it will make about 11p this year), it could take years to get there.
Tesco’s shareholders may feel as if they have been living their own nightmarish version of Groundhog Day, in which the company keeps putting out profit warnings, for the past three years. The good news from the film is that Bill Murray’s grouchy weatherman finally broke out of the cycle. The bad news is that film buffs reckon it took him over 10 years. Don’t assume that Tuesday’s 156.7p was the worst of it.
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