Putting eggs in different baskets

In light of soaring high inflation and lower consumer spending, Tesco reported a generally decent set of Q1 numbers. Overall, group retail sales were up 2% year-on-year (Y/Y), and total sales also saw an increase of 2.5% (Y/Y).

On face value, these figures were confusing to me as I was expecting a decline. However, upon further analysis, these numbers were boosted by the company’s other segments. UK and Republic of Ireland retail sales saw declines of -1.5% and -2.4% respectively. But healthy growth in fuel (44%), Tesco Bank (39%), Booker (19%), and central Europe (9%) helped push the overall top line up.

What caught my eye most was Tesco’s Booker business, which caters food for smaller grocery stores and restaurants. It is a market leader with strong pricing power, high margins, and a growing customer base.

The subsidiary saw 19.4% growth (Y/Y) and 19.6% growth on a three-year like-for-like basis. This is impressive given that CFO Imran Nawaz confirmed that catering inflation is running higher than retail inflation. Given its higher margins, I expect Booker’s performance to hedge against the lower margins from Tesco’s retail business.

Tesco is the way to go

Despite a decline in retail sales, Tesco still manages to outperform the bulk of its peers. In the most recent quarter, the grocer snatched up a further 0.37% of market share, further establishing itself as a market leader. CEO Ken Murphy attributed this growth to a number of factors. These include low prices, its Clubcard scheme, supply chain availability, and shopping experience.

This is evident as Tesco increased its line of Aldi price match and Low Everyday Price products by 19% (Y/Y). Additionally, the FTSE 100 firm had the largest improvement in quality and value perception since the pandemic, showing that shoppers do enjoy shopping at Britain’s number one supermarket.

Drop the Basket

Positives aside, there’s no doubt that Tesco faces strong economic headwinds. Its CEO even went on to say, “We are seeing some early indications of changing customer behaviour as a result of inflationary environment”. As a result of this, I expect Tesco’s shares to take a further dip in the near-term.

Nonetheless, management reaffirmed the company’s retail profit guidance, which remains unchanged at £2.4bn to £2.6bn. This is largely similar to its FY22 figure, although free cash flow is expected to come in shy at £1.4bn to £1.8bn.

That being said, its balance sheet is in a modest position. Tesco boasts a debt-to-equity ratio of 47.3% with decent levels of cash and equivalents. As it continues to establish further dominance in the groceries market, I’m confident that Tesco is in a firm position to brave a potential recession. Even so, its low growth potential doesn’t fit my personal investment strategy. So, I won’t be buying Tesco shares for the time being.

The post Is the Tesco share price great value at £2.50? appeared first on The Twelfth Magpie.

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• As Tesco shares dip on Q1 results, is this a brilliant time to buy?
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John Choong has no position in any of the shares mentioned at the time of writing. The Motley Fool UK has recommended Tesco. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

Last week, the Bank of England (BoE) hiked the UK’s interest rates to 1%. The central bank also forecast that the UK economy will contract later this year, as disposable income decreases. With uncertainty surrounding the future of the UK’s economy, here are two stocks I’m avoiding for my Stocks and Shares ISA, and one I’m planning on buying.

Losing interest

In theory, banks such as Lloyds (LSE: LLOY) usually stand to benefit from higher interest rates. This is because banks can charge more for loans. Moreover, the rapid increase in house prices has brought a healthy stream of revenue to Lloyds. Nonetheless, the Lloyds share price is down 10% this year.

I’m avoiding this stock as I’m worried the bank’s profit might take a considerable hit from lower borrowing numbers and a slew of potential bad debts. With the BoE set to continue increasing interest rates in the coming months, Lloyds’ best-case scenario seems unlikely to happen at this point. Why? Well, the bank rate could rise further, which would be a plus for the group. But the BoE predicts inflation to peak at 10% later this year, much higher than the 7.6% upper level Lloyds would like to see. And hoped-for house price growth of 5.3% is dubious, as Nationwide and Halifax predict a slowdown in the market.

Grocery wars

The other stock I’m avoiding is J Sainsbury (LSE: SBRY). Despite being the second largest supermarket in the UK, the orange grocer has been losing a substantial portion of its market share to Aldi and Lidl. Its most recent trading update provided a rather gloomy outlook as well. Management cited, “Significant external pressures and uncertainties, including higher operating cost inflation”. This sent its stock price lower to £2.27.

Prior to the current cost of living crisis, Sainsbury’s was already operating on slim profit margins (2.3%). Now with pressure to keep prices low in order to avoid losing more market share, the retailer could very well see its margins contracting. Ultimately, Sainsbury’s will have to perform a balancing act of maintaining margins and holding its market share. Having already such low margins, this is one stock I’m unwilling to gamble with.

An ETF to stock up on

But there’s a stock I believe can add value to my Stocks and Shares ISA. It’s an ETF — Vanguard’s S&P 500 UCITS ETF (LSE: VUSA). The ETF tracks the USA’s top 500 listed companies, and averages a return of approximately 10% per year. Research has shown that almost 80% of fund managers underperform Warren Buffett’s favourite index. Therefore, while I generally like to pick my own stocks, I’m unwilling to gamble on professional managers’ stock-picking to beat the market. Although the heavyweight index is almost 15% down this year, it has a solid record of recovering from crashes.

Even better, Vanguard’s fund has outperformed the S&P 500 by 10%. This is due to its ability to hedge against the British pound by using the strength of the US dollar. On that basis, I think this is the best stock I can invest in to generate meaningful returns over a long period.

The post 2 stocks to avoid and 1 to buy for my Stocks & Shares ISA in this bear market appeared first on The Twelfth Magpie.

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John Choong has no position in any of the shares mentioned at the time of writing. The Motley Fool UK has recommended Lloyds Banking Group and Sainsbury (J). Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

Inflation is currently sitting at 7%, and is expected to continue rising for the coming months. As a result, retail spending has seen a drop, as the cost of living crisis continues to hit consumers hard. The effects of this are already heavily impacting the largest supermarket in the UK, Tesco (LSE: TSCO). So, with all that in mind, the Tesco share price could dip further and present long-term shareholders like myself with a buying opportunity.

Slip and slide

The latest ONS inflation survey reported that 83% of respondents saw an increase in their cost of living. To make matters worse, almost a third of adults are finding it harder to pay their usual household bills. The consequence of this was evident in the latest retail sales numbers, which saw a 1.4% decline month on month (M/M). The ONS stated, “Food store sales volumes fell by 1.1% (M/M) and have fallen each month since November 2021”.

Where does Tesco stand in all of this, you may ask. Well, grocery retailers in the UK were already in a hot battle for customers. Grocery stores operate on high volume and low margins, so securing market share is a BIG deal. While Tesco continues to dominate more than a quarter of the supermarket industry, it has seen its market share slip from 31% to 27.3% today.

A Lidl worry

Kantar’s most recent grocery report showed that grocery price inflation reached an 11-year high of 5.9%. Overall supermarket sales fell by the same amount as a consequence. In fact, in the 12 weeks to 17 April, Tesco has seen a 4.8% decline in sales. Meanwhile, its budget competitors, Aldi and Lidl, together managed to increase sales by 8.2% in the same period. Tesco’s decline, though, put it in the best position among its high street peers. This is in large due to its market dominance and its latest Aldi price-match strategy.

Mixed bag of goods

The grocery retailer is already operating on a minuscule profit margin of 2.5%. The recent wage increases for its workers and lower prices to match Aldi’s aren’t going to help its bottom line. Recent guidance given by Sainsbury’s painted a gloomy picture too, citing, “Significant external pressures and uncertainties, including higher operating cost inflation”.

Nevertheless, there’s a silver lining among the gloomy clouds. Although Tesco expects its margins to take a hit, it still maintains the highest margins in the industry. Its excellent relationship with suppliers should help it keep prices low and maintain profitability. Moreover, its Clubcard scheme encourages customer volume through discounted offers.

The Tesco share price is also trading at a price-to-earnings (P/E) ratio of 14, making it the cheapest British grocery stock. Additionally, its track record of maintaining market dominance makes this a valuable blue-chip stock that pays a decent 4% dividend.

With its share price expected to continue dipping from lower sales, it could be seen as a buying opportunity. However, due to its slim profit margins in an already saturated market, I don’t see shares in the grocery giant bringing me a meaningful return over the long term. As such, I won’t be investing in Tesco shares.

The post What comes next for the Tesco share price? appeared first on The Twelfth Magpie.

More reading

• Here’s what a surging Tesco share price has done to £10,000 invested 5 years ago
• Are Tesco shares losing their momentum?
• Tesco’s share price drops 2% on Q1 trading miss. What’s gone wrong?
• As Tesco shares dip on Q1 results, is this a brilliant time to buy?
• How much might £19,999 in a Cash ISA be worth in 2036?

John Choong has no position in any of the shares mentioned at the time of writing. The Motley Fool UK has recommended Ocado Group, Sainsbury (J), and Tesco. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

A Lidl worried about Aldi’s prices

In its earnings statement, Tesco cited a cautious outlook as March’s CPI figure came in higher. With increasing food costs, many consumers have been flocking to budget competitors, Lidl and Aldi. This is evident in Kantar’s latest supermarket report as the two German retailers have seen an increase in their market shares. Nonetheless, Tesco reiterated its commitment to maintain its current prices. Unfortunately, this will also mean that its profit margins will most probably take a hit in the short-to-medium term. The firm also cited “significant uncertainties in the external environment”, giving a £2.5bn forecast for its operating profits in FY23. This is lower than the average £2.8bn analysts were expecting, and is the main reason why the Tesco share price is down 5% at the time of writing.

Squeezing every drop of juice

A consequence of inflation is that it sometimes leads to a wage-price spiral. This is when prices increase as a result of higher wages, and vice versa. As a result of this, Tesco decided to increase the wages of its workers by up to 6%. This could affect Tesco’s already narrow margins even further. This is worrying investors and several analysts who’ve dropped Tesco’s rating from buy to hold.

Nevertheless, CEO Ken Murphy mentioned on the company’s earnings call that Tesco will be using its new-found cash to invest in its supply chains. This should ease the margin pressure, and provides a silver lining in all the uncertainty as Tesco aims to work in close partnership with its suppliers to keep costs under control.

SUPERmarket

There were a couple of excellent points from Tesco’s FY22 results, however. For one, it reported stellar numbers across the board. There were healthy increases in revenue, earnings per share, free cash flow, operating profit, and a decrease in net debt. In addition to that, a £750m stock buyback was announced. This means that shareholders will be getting a bigger slice of ownership in the company, driving earnings per share higher. Normally, this would send the Tesco share price soaring. However, because the stock market often trades on speculation, Tesco’s amazing performance has been overshadowed by supply chain disruptions and inflation.

Yet I’m bullish about its long-term prospects and its ability to overcome the impending storm. I believe that Tesco’s quality and massive market share in the sector is a unique selling point. As such, it should be well positioned to maintain its position in the industry for the foreseeable future. The company’s customer loyalty plan and scale still makes it by far the best supermarket stock to buy, in my opinion. Tesco’s plan to price-match Aldi on 650 items also shows its negotiating power with suppliers. As such, with a low price-to-earnings ratio and reasonable dividend, Tesco is a lucrative buy for me if I was looking to earn some passive income from a decent dividend-paying company.

The post Here’s why the Tesco share price is down 5% after earnings appeared first on The Twelfth Magpie.

More reading

• Here’s what a surging Tesco share price has done to £10,000 invested 5 years ago
• Are Tesco shares losing their momentum?
• Tesco’s share price drops 2% on Q1 trading miss. What’s gone wrong?
• As Tesco shares dip on Q1 results, is this a brilliant time to buy?
• How much might £19,999 in a Cash ISA be worth in 2036?

John Choong has no position in any of the shares mentioned at the time of writing. The Motley Fool UK has recommended Tesco. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.