First-half retail sales rose 1.6% to £33.8bn, ignoring exchange rates. This reflected growth across the UK & Ireland, which more than offset a small decline at Booker.
Adjusted operating profit rose 6.3% to £1.8bn, with margins expanding thanks to an improved sales mix and a tight grip on costs.
Free cash flow rose by 21% to £1.6bn, reflecting higher profits and favourable timing of payments and receipts. Net debt fell by £0.5bn to £10.0bn over the first half.
Management raised the bottom end of its full-year adjusted operating profit guidance, now expecting between £3.15-3.30bn (previously: £3.00-3.30bn). Free cash flow guidance of £1.5-2.0bn was reiterated.
An interim dividend of 5.05p per share was announced, up 5.2%. This year’s share buyback programme has been raised by £0.2bn to just under £1.0bn.
The shares rose 2.2% in early trading.
Our view
Tesco’s first-half sales growth was a touch lighter than expected, held back by lower inflation and a tough comparison with last year. But the business is running well, with an improved sales mix and efficiency gains helping profits grow faster than sales. That’s given management the confidence to raise its full-year profit outlook to the top end of prior guidance.
Market share dipped slightly in the first half, reflecting an exceptionally strong prior year, which benefitted from major disruption at competitors. Giving back some ground was to be expected as competitors returned to normal, so we’re not concerned. Industry data since the period end suggests market share is back in positive territory, and we think its growing store count and expanded rapid-delivery service should see that trend continue.
An expanded Tesco Finest range is also helping it poach customers from more premium supermarkets. Those who already shop at Tesco are also treating themselves at home rather than going out, boosting Finest volumes. We view both of these shifts as potentially long-term in nature, meaning there's more juice to be squeezed.
Its enormous scale and strong relationships with suppliers are key in keeping prices down for customers, giving them little reason to look elsewhere. The strategy relies on offering better all-around pricing than the competition, and it’s delivering remarkably well.
Tesco isn't just a retailer, though. It also owns the wholesaler Booker, which offers a different route to growth across the key business streams of catering and retail. Lately, declining tobacco sales here have weighed on businesses’ performance. We expect that trend to continue as the general population becomes more health-conscious. But at around 10% of the group’s underlying operating profit, we’re not too concerned.
Elevated oil prices are likely to feed through to higher inflation in the coming months, which we view as broadly positive for Tesco, as it passes price increases on to customers. Its breadth of price points means consumers can trade up and down as needed, rather than switching to competitors.
There’s plenty of free cash flow pumping around the business. That underpins the group's ability to invest in keeping prices competitive, as well as sustain the respectable 3.4% prospective dividend yield and upgraded share buyback programme. No dividend is ever guaranteed.
Tesco's reliable revenue streams, market-leading proposition, and income potential make it a best-in-class operator. We like Tesco’s long-term outlook, and the upgraded full-year profit guidance looks well within reach. However, the market has recognised these strengths, pushing the valuation above its long-run average, which may limit near-term upside and increase sensitivity to any missteps.
Environmental, social and governance (ESG) risk
The retail industry is low/medium in terms of ESG risk but varies by subsector. Online retailers are the most exposed, as are companies based in the Asia-Pacific region. The growing demand for transparency and accountability means human rights and environmental risks within supply chains have become a key risk driver. The quality and safety of products as well as their impact on society and the environment are also important considerations.
According to Sustainalytics, Tesco’s management of ESG risk is strong.
The group has a corporate responsibility committee overseeing the group’s social and environmental obligations. It also discloses a substantial amount of ESG-related information in its annual report. However, it has ongoing involvement in controversies related to human rights in supply chains.
Tesco key facts
All ratios are sourced from LSEG Datastream, based on previous day’s closing values. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn’t be looked at on their own – it’s important to understand the big picture.
This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. It was correct as at the date of publication, and our views may have changed since then. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by LSEG. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.
This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment.