Tesco (LSE: TSCO) is probably one of the market’s most conversational stocks. You either love it or hate it. And depending on who you talk to, the company is either cheap or expensive.
But what’s the real story? After rising 23% year to date, is the company now overpriced or is it still undervalued?
Different metrics
With so many different opinions around, the best way to try and place a value on Tesco’s shares is to use a number of different metrics. And the three I’ve chosen are as follows:
- The enterprise value/earnings before interest, tax, depreciation, and amortization or EV/EBITDA figure;
- The PEG ratio;
- Sum-of-the parts valuation.
EV/EBITDA
Starting at number one. Tesco currently trades at a 2016 EV/EBITDA multiple of 8.9, around the same as its five-year average. But the company’s larger international peers, Wal-Mart and Carrefour in particular, currently trade at EV/EBITDA multiples of 8.2 and 8.3 respectively.
With this being the case, Tesco does look to be slightly overvalued on an EV/EBITDA basis.
PEG ratio
Tesco’s earnings are expected to expand by 5% this year, which puts the company on a PEG ratio of 5.3. Not exactly cheap.
However, the group’s earnings are set to grow by 26% during 2016. On that basis, Tesco is trading at a 2016 PEG ratio of 0.7 and looks cheap compared to its projected growth for 2016.
Sum of the parts
A sum of the parts valuation is probably the best way to value Tesco, as the company is an asset-rich business.
Indeed, Tesco Bank, Tesco Ireland, Tesco’s European business, Tesco Asia, data processor Dunnhumby, Dobbies garden centres, One-Stop Giraffe restaurants and Tesco’s stake in the Harris+Hoole coffee shop business are all part of the Tesco empire.
That said, it’s difficult to try and place an accurate value on all of these individual parts. Nevertheless, we know that an offer of £8bn to £10bn has been made for Tesco’s Asian arm, and it’s believed that Dunnhumby is worth around £2bn.
However, Tesco’s debt pile, including its pension deficit and lease commitments, stands at just under £22bn. Then there’s the value of Tesco’s property to add back in. Even after taking a £6.4bn property write-down last month, the value of the property on Tesco’s balance sheet still amounts to £20bn.
So, the sum of Tesco’s property, the group’s Asian business and Dunnhumby amounts to £32bn. Strip out debt and the figure falls to £10bn.
Tesco’s market capitalisation currently stands at £19bn, which means that the market is valuing Tesco’s UK business, Tesco Bank and all the other parts of the Tesco group at just £9bn. That’s just too cheap.
Foolish summary
All in all, Tesco still looks cheap on two out of my three metrics. However, one thing the company no longer offers is an attractive dividend yield.