Tesco plc’s Recovery Is Gaining Traction… But WM Morrison Supermarkets plc And J Sainsbury plc Continue To Struggle

It looks as if Tesco‘s (LSE: TSCO) efforts to take on the discounters are finally starting to bear fruit. 

According to data from research company Kantar Worldpanel, Tesco’s sales rose 0.3% in the 12 weeks to 29 March, following growth of 1.1% in the 12 weeks to March 1, Tesco’s strongest sales performance in 18 months.

These figures indicate that Tesco’s recovery is slowly gaining traction as the company’s new management team gets to work, slashing costs and restructuring the business. 

Unfortunately, Morrisons (LSE: MRW) and Sainsbury’s (LSE: SBRY) are still struggling.  Over the three-month period to 29 March, Sainsbury’s sales ticked higher by 0.2%, the retailer’s first growth since August 2014, while Morrisons’ sales continued to fall, declining 0.7% during the three-month period. 

Turnaround in progress

So, it looks as if Tesco’s turnaround is starting to gain traction but the company still has a long way to go.

When the group reports 2014-15 results on April 22 it is expected to post yet another fall in annual profit, marking the third year of falling income at the retailer. However, the group’s profit should return to growth this year as cost cutting measures start to take effect.

Tesco is in the process of closing its head office in Cheshunt, north of London, and shutting its existing pension scheme, which should shave around £250m a year off the company’s cost base.

In addition, the retailer is slashing annual capital spending to £1bn, down from £5bn, closing 43 unprofitable stores and scrapping 49 planned store developments. These actions, coupled with rising sales, should enable Tesco’s bottom line to start expanding again.

High valuation 

Still, while Tesco’s sales are starting to stabilise, the company’s turnaround is far from complete. The retailer has a long way to go before it can claim to have returned to growth.

However, the retailer’s premium valuation indicates that the market has already priced in a recovery, which doesn’t leave much room for error if Tesco’s recover falters.  

For example, at present Tesco is trading at a forward P/E of 23.3, compared to Morrisons and Sainsbury’s, which are trading at forward P/E’s of 16.6 and 10.2 respectively. I’m not sure Tesco deserves to trade at such a wide premium to its peers.

And after slashing its dividend payout last year, Tesco’s dividend yield is the lowest of the trio. The company’s shares are set to support a dividend yield of 0.5% this year. Morrisons and Sainsbury’s are set to yield 3.2% and 4.9% respectively. 

The bottom line

Overall, Tesco’s turnaround is starting to take shape but the company still has a long way to go.