Tesco’s (LSE: TSCO) plan to refocus its business on the UK and strengthen its balance sheet has taken a major step forward today. The company has agreed to the sale of its Korean operation, Homeplus, to a group of investors for an enterprise value of £4.2bn. The deal will provide £4bn in cash for Tesco and, the company believes, equates to a good deal for shareholders as it seeks to become a more focused and efficient business.
The deal is expected to be completed in the final quarter of the current calendar year and, with Homeplus representing Tesco’s largest overseas investment, highlights just how much the business has changed in the last handful of years. In fact, with the disposals of the Korean and US ventures, Tesco’s ambitions to diversify its offering on a geographical basis appear to have gone backwards, with it now being much more reliant upon the UK for its revenues.
Clearly, the UK economy is performing extremely well but, for grocers operating domestically, trading conditions remain extremely challenging. For example, Tesco is expected to post a fall in its bottom line of 14% in the current year, which means that in the short run at least, its shares could come under pressure.
Also struggling within the food and retail space is ABF (LSE: ABF). Unlike Tesco, its geographic diversification remains hugely appealing, with it operating in a wide range of territories across the globe. Furthermore, ABF owns a number of well-known food brands (such as Ovaltine and Twinings), has a clothing retail operation via Primark, as well as agriculture, ingredients and sugar businesses.
However, it is the latter of these (sugar) that is causing the company’s overall performance to be somewhat disappointing. In fact, a trading update released today stated that revenues and profitability for the company’s sugar division will be down as a result of continued falls in European sugar prices. And, while various improvements and efficiencies are helping to offset a weak sugar price, this (plus negative currency effects from a strengthening US dollar and sterling) mean that ABF’s bottom line is forecast to fall by 6% in the current year.
That is clearly disappointing and, while ABF is due to post a rise in earnings of 6% next year, its price to earnings (P/E) ratio of 31.3 indicates that its share price could come under pressure – especially since it equates to a price to earnings growth (PEG) ratio of 5.1. That’s despite European sugar prices being set to stabilise in the coming year and the company’s Primark clothing division posting a 13% rise in like-for-like sales this year.
While ABF’s projected fall in profit is less than Tesco’s for the current year, the latter is expected to deliver a rise in earnings of 39% next year. And, while it is a business enduring a period of significant challenges and major change, its PEG ratio of 0.4 indicates that now is a good time to buy a slice of it. Certainly, it may be less stable, less diversified (both geographically and in terms of the products it offers), but with clear turnaround potential that is evidenced by today’s sale of Homeplus, Tesco appears to be by far the better buy of the two food-focused businesses.