October 3, 2018 / 11:31 AM / in 15 days

Breakingview - Tesco gives investors reason to shop elsewhere

LONDON (Reuters Breakingviews) - Tesco is sending investors into the arms of smaller grocers. Britain’s biggest supermarket by sales is charging lower prices in its home market to fend off discounters, making it harder to hit operating margin targets. Plans to double down with the launch of a new chain of bargain grocery stores will make the challenge even harder.

Products are displayed at Tesco's new discount supermarket Jack's, in Chatteris, Britain, September 19, 2018. REUTERS/Chris Radburn - RC187F8EE840

The 21 billion pound supermarket led by Chief Executive Dave Lewis said on Wednesday that it made operating profit of 933 million pounds in the 26 weeks ending August 25. That was below the 1 billion pounds expected by analysts, according to Refinitiv data. More competition in Thailand and changes to Sunday trading rules in Poland made life difficult for Tesco overseas. But the bigger problem is that the operating margins in the main UK supermarket business declined in the first half of the year compared with the previous six months.

Tesco offers a range of bargain products to stop shoppers heading over to German discounters Lidl and Aldi. And Lewis in September launched a chain of discount stores, called Jack’s - a move that Aldi’s UK boss Giles Hurley called “the sincerest form of flattery”. But chasing bargain hunters will make it harder for Tesco to reach an operating margin target of 3.5 to 4 percent by 2020.

Investors’ concern about the prospect of more price cuts looks justified. Tesco is now the highest-priced grocer of the four biggest supermarkets in Britain, and a recent recovery in profit has been driven by savings on operating costs rather than market share gains, Credit Suisse analysis shows. The performance of UK-listed supermarket shares certainly suggests that shareholders view J Sainsbury and WM Morrison as safer bets. These two companies have seen their stock price rise by a third and a fifth respectively since the beginning of the year compared with Tesco’s 4 percent. Lewis is trying to offer consumers good value but investors will prefer to shop elsewhere. 

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