Sometimes foresight may not help. If someone had said on 28 August last year (just before Tesco announced its second profit warning of 2014 and a 75% cut in its interim dividend) that over the next few months the company would issue three profit warnings (halving expected profits for the year), stop paying its dividend and admit to a major accounting misstatement, which company would you have expected to perform better: Tesco or Sainsbury? If you’d guessed Sainsbury, you would have been wrong. The chart below shows the performance of both since then: Tesco has fallen by “only” 15%, while Sainsbury has declined 17%. The market may, of course, be supremely efficient, having already discounted Tesco’s problems (Tesco has fallen more over the last 12 months), just as it is now starting to anticipate a recovery. Perhaps.
Figure 1: Tesco vs. Sainsbury share price performance (rebased to Tesco)
It is difficult to see what yesterday’s trading update contained that justified the 15% bounce in the share price: were expectations really that low? Unlikely: the share price had already increased significantly from its low point after the last of the profit warnings. However, one thing is clear: despite its problems, Tesco has never really been a contrarian call; some investors have always been willing to believe reversion back to the mean will eventually happen.
The main reason for the share price rally, as far as I can tell, is the improvement in UK sales over the Christmas period (six weeks up to 3 January): like-for-like sales only declined 0.3% (including VAT, but excluding fuel, although the IFRIC compliant figure, which is consistent with GAAP revenue, declined 1.2%). Perhaps I’m being cynical, but having in December dispensed with the need for the UK business to be profitable in the second half of the year, and clearly wanting to deliver some good news, it would be relatively easy to boost sales by a few percentage points. An indication of this was the jump in non-food sales over Christmas, up 5% on a like-for-like basis. Buying in large quantities of goods specifically for Black Friday promotions (which fell in the Christmas period) could explain part of this. It is also worth noting that the prior year comps are now starting to get easier (see Figure 2); the third and fourth quarters of last year were when Tesco’s like-for-like sales started to slide, so a reduction in the rate of decline was not surprising.
Figure 2: Tesco LFL sales growth
It remains to be seen how the rest of the quarter turns out, as well as subsequent periods. This improvement provides one positive data point over a relatively short period, which is not necessarily indicative of conditions during the rest of the year. In any event, while staunching the revenue decline is a necessary first step, a lot more needs to be achieved before the turnaround can be deemed a success.