What the analysts say: City reacts to Tesco's profit error
Tesco has "uncovered a serious issue", recently-appointed CEO Dave Lewis said
Tesco seems to be lurching from one bad news story to another. The UK retailer today (22 September) admitted it had over-stated half-year profits by GBP250m. The timing of the accounting of payments between Tesco and suppliers is said to be a central factor. Four executives have been asked to go on leave while the retailer investigates. Tesco's shares, unsurprisingly, tumbled this morning.
Bruno Monteyne, Sanford Bernstein
"This is effectively timing issues, bringing income forward from future periods and delaying costs to those future periods. One example in which this could happen is: Tesco commercial director of department X is short his profit target; he/she discusses with supplier bringing forward a big promotion, funded by supplier; in return Tesco commits to doing three more new product launches in the next reporting period. If this is the kind of manipulation that happens, then Dave Lewis as a past supplier may have had good prior insight into it. Eventually these would have to catch up with them, but the poor trading results will have made it harder to hide these issues. Tesco have also brought in Freshfields, their legal advisors. The fact that this has a legal angle, and not just an accountancy one, implies there is potential foul play, beyond simple account stretching.
"The scary thing is that they have announced without knowing the 'extent of these issues'. Tesco have estimated GBP250m for H1, but state they do not know the effect on the full year. If this is purely timing issues, there is no reason the suspect the number will be any bigger, however if the GBP250m is purely a large enough number to show the scale of the issues, then we can have no feel at present how big this issue could be."
Mike Dennis, MD, food and general retail at Cantor Fitzgerald
"In November and October 2013 we questioned how Tesco was supporting 5.2% UK trading margins with falling sales and rising costs. We believed Tesco had been over stating its UK commercial gross profit by GBP200m+ p.a. via deducting monies from suppliers' trading accounts or extending payment dates without notice."
[just-food editorial team: When contacted in November for a reaction to Dennis' note, Tesco said: "The analyst is clear it is his opinion, based only on speculation, but he doesn’t seem to have taken our previous guidance into account. In our interim results presentation last month, we set out how the general merchandise transformation programme will be a drag on our sales growth but beneficial to the overall UK margin, helping to offset some of the other investments we are making for customers."]
"Tesco's commercial profit over statement and deferral of costs seems to have led to the new management declaring a GBP250m short fall in H1 UK trading profits. We suspect Dave Lewis was aware of Tesco's actions while at Unilever and from comments across the UK/Global supplier base so we expect he already had several questions for Tesco's commercial team when he joined.
"We now expect H1/15E group trading profit to be GBP800m (previously c.GBP1.1bn due on 1st Oct) and the interims will be reported later on 23rd October. This implies the UK Tesco H1 trading profit could be down 55% to £500m on sales ex. vat and inc. petrol of GBP21bn, down 2.7%. This gives a UK trading margin of 2.3% down 280bps Y/Y.
"The read across is that Tesco may now have to sell assets across its UK and International portfolio to pay for this behaviour."
Clive Black, director and head of research, Shore Capital
"Such an announcement is not the stuff of a well operated FTSE 100 organisation. Clearly there can be no suggestion of impropriety on behalf of the new CEO to our minds, who has been in the job less than a month. However, this development may raise, indeed must raise, much more fundamental questions over the chairman's position and the nature, composition and extent of the board, which to our minds has been lop-sided between executives and non-executive directors for far too long; such matters, of course, are for shareholders to decide.
"These are serious times for Tesco and its shareholders. We are flabbergasted by this development and have no choice but to put our 'hold' stance, which we only went up to through Mr. Lewis' appointment, 'under review'. We expect the market to respond in a penal manner on the Tesco’s shares upon opening."
Richard Hunter, head of equities at Hargreaves Lansdown
"The new chief executive's baptism of fire continues as Tesco adds a profit warning to a profit warning. A combination of an overstatement of income and an understatement of costs has led to a material shortfall to the previously announced profit figure. Whilst this does not come close to jeopardising overall profitability, it follows last month's announcement when the market had assumed that, at least, the bad news was out in the open and being dealt with. Prior to today's precipitous drop, the shares had fallen 39% over the last year, and 21% in the last three months alone. The market consensus of the shares as a 'sell' will no doubt be consolidated following this announcement."
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