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October 2, 2007

Analysis – Tesco weathers summer blues

Analysts and investors had been fearing disappointing first-half figures from Tesco, but the UK retail giant's steady but unspectacular interim results were in the end greeted by a rise in the company's share price. Dean Best reports.

By Dean Best

Analysts and investors had been fearing disappointing first-half figures from Tesco, but the UK retail giant’s steady but unspectacular interim results were in the end greeted by a rise in the company’s share price. Dean Best reports.


Clouds have gathered over Tesco both in a literal and metaphorical sense in recent months.


In June, the UK’s largest retailer warned that sales growth had slowed domestically as severe wet weather hit parts of the country. Furthermore, there was anxiety among UK retailers that consumers would start to tighten their belts amid interest rate hikes and mounting food bills.


Add to that nerves over the imminent publication of the UK government’s probe into the country’s grocery sector and uncertainty (despite Tesco’s confident rhetoric) over how the company’s ambitious US venture will perform, and the trade was awaiting Tesco’s interim results with interest this morning (2 October).


As it was, when the numbers were published, Tesco demonstrated the underlying resilience of its business. Profits jumped almost 19% with sales up 9% as Tesco enjoyed the fruits of its international expansion, and perhaps more tellingly, shrugged off its domestic problems.


CEO Sir Terry Leahy said Tesco’s underlying business in the UK was “pretty strong”, pointing to sales growth of a healthy 5% when the country dried out during August. “Once you took out the weather effect, the underlying sales were strong by long-range standards,” he said.


Local competitors Asda and Sainsbury have been revitalised in recent years, and are providing stiffer competition to Tesco, something which the company acknowledged in its results statement today. However, Sir Terry insists he is confident about Tesco’s position in the UK, as well as being upbeat about consumer spending in the country.


“In the UK, we go into the autumn in good shape. Our relative performance is improving, relative to the rest of the industry. Consumers are still spending, or they’re certainly spending in Tesco stores. It looks as if interest rates have peaked – the next move is likely to be down – and I think that will be a welcome fillip for consumers.”


The market seemed to echo Sir Terry’s confidence with shares in Tesco rising this morning by almost 4%. Industry analyst Keith Bowman, from brokers Hargreaves Lansdown, said the UK food retail sector as a whole is operating in “challenging times”, but added that Tesco, as market leader, remains well-positioned.


“The results were relatively solid; times are maybe more challenging than they have been in recent years but you can bet that if times are difficult for Tesco, then times will be even more difficult for their rivals,” he told just-food.


Internationally, Tesco seems in good shape. Sales were robust, rising by 22%, figures that were buoyed by new stores and a first full contribution from its business in China. On a like-for-like basis, store sales inched up a mere 1.2%, but there is the growing view that Tesco’s international expansion will bear more juicy fruit in the years ahead. Sir Terry is quietly confident on the prospects for Tesco’s overseas operations. “The international business overall has a gathering momentum. And those economies, in the round, are going strongly,” he said.


The Tesco chief executive is far more effusive about the company’s long-awaited and well-publicised venture into the US. Tesco will open its first stores under the Fresh & Easy banner in California next month and Leahy believes the venture will add something new to retailing in the US.


“I’m very much looking forward to the business opening up in the United States. It’s been many years in planning, so I can’t wait. I think we’ll make it a good, an original and new contribution to retailing in the United States,” he said. “Clearly it’s a loss-making business to begin with, but the positioning of the business and all of the plans are right on, bang on target.”


However, while some retail analysts agree with Sir Terry’s optimistic outlook, Bowman is a little more circumspect. “Moving to the US will add some additional nerves and it’s not a foregone conclusion that [Tesco] will make a success of it. The US is a tough one. The UK retailers that have ventured in that direction have come away battered and bruised but if anyone can make a success of it, it’s Tesco.”


Of course, to an extent, perhaps we need to delay passing judgment on the strength of the Tesco business. The UK government’s probe into the grocery sector could affect Tesco’s relationship with suppliers; the outlook for the UK economy is still very much a live debate; and it will be months before we can begin to draw even early conclusions from Tesco’s venture into the US.


Nevertheless, the fundamentals of Tesco’s business remain sound and the company’s first-half performance may just have left its management and shareholders basking in sunnier skies this morning.

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