Tesco (LSE: TSCO) shares have produced disappointing returns for investors in 2020. Year-to-date, Tesco’s share price has fallen around 15%. Is now a good time to buy its shares, given they’re well below their 52-week highs? Let’s take a look at the investment case.
Tesco’s sales have surged
Tesco’s latest trading statement, issued in late June, was definitely encouraging. For the 13-week period ending 30 May, total group sales were up 8% at constant rates, while sales in the UK and ROI were up 9.2%. Growth was most marked in the online channel, with sales leaping 48.5% for the quarter as a whole.
This level of sales growth is certainly impressive. However, unfortunately, I don’t think it’s sustainable. You see, while the UK was on lockdown, Britons spent record amounts at supermarkets, stockpiling their cupboards, fridges, and freezers full of food and drink. However, now the lockdown is easing, supermarket spending is easing off.
“Consumers are slowly resuming their pre-Covid routines and shopping habits,” said Fraser McKevitt, head of retail and consumer insight at Kantar, earlier this week. “This meant year-on-year supermarket sales growth decelerated in the most recent four weeks,” he added.
Lack of profit growth
It’s also worth pointing out that, while Tesco’s sales rose significantly over the first quarter, so did its costs. Not only did Tesco face extra payroll costs (it recruited an extra 47,000 temporary employees to meet increased demand associated with Covid-19), but it also incurred extra costs in areas such as distribution and the provision of safety equipment for staff. The company said it expects incremental costs for the UK for the full year will be around £840m.
The end result is that Tesco expects retail operating profit in the current year to be at a similar level to 2019/20 on a continuing operations basis (assuming a continued easing of lockdown restrictions in the UK). The lack of growth in operating profit is a little bit disappointing, in my view.
Competition is high
Looking beyond the recent news, one thing that still concerns me about Tesco shares is the level of competition within the UK supermarket industry. Not only does Tesco face a high level of competition from the larger players in the industry, such as Sainsbury’s, Morrisons, and Asda, but it also faces competition from smaller players, such as Aldi, Lidl, and now Ocado.
In my view, Tesco doesn’t have a strong competitive advantage anymore. As a result, it could continue to lose market share. This adds risk to the investment case.
Is Tesco’s share price a bargain?
Turning to the valuation, Tesco shares currently trade on a forward-looking P/E ratio of about 15.6. That’s not overly expensive. However, I don’t think it’s a bargain either, given the lack of growth and risks associated with the high level of competition.
So, are Tesco shares worth buying? Personally, I’d give them a miss. All things considered, I think there are better stocks to buy right now.
