The share prices of UK-listed major supermarkets Tesco, Sainsbury’s and Morrisons had a torrid year in 2014, seeing huge falls with the largest of the three – Tesco – being the worst affected.
It lost more than 50 per cent of its value last year following profit and dividend cuts, an accounting scandal and a shake-up of its management team. Sainsbury’s and Morrisons have seen a similar performance from their share prices although neither fell as far or have bounced back as strongly as Tesco.
Performance of stocks vs index since Dec 2013
Source: FE Analytics
Investors fretted over the sector’s disruption stemming from a huge increase in the market share of discounters Aldi and Lidl as well as worries over the adoption of online shopping by the big three’s customers and stock-specific issues.
Buxton bought into Tesco for his £2bn Old Mutual UK Alpha fund for first time in January, having previously sold out in 2010 when heading up Schroder UK Alpha Plus. He says the stock is the only new name in the portfolio this year.
“We started buying back in January after meeting the chief executive and it is now about 2 per cent of the portfolio,” he said.
“It will be a long haul for Tesco but over the long term it will gradually improve and we may add more. It depends on how things progress and they may even choose to raise additional equity.”
Mundy, who manages the £1.4bn Investec UK Special Situations fund, bought into Tesco about a year ago and, while further downside was a pain and prompted an exit from the position, he bought back in as the stock approached its floor at the end of the year.
“We panicked out of some [of Tesco] when they had their accounting problems but their new chief executive has given the impression that, while he is focused on the UK, he has thought it was pretty badly run and there was a lot of potential in giving their customers better value and offers,” Mundy said.
“You’re starting to see that with their improving market share through reduced prices. Whether that comes through to the bottom line remains to be seen but the share price is looking strong. But has the market got a little a bit ahead of itself? Maybe.”
However, he adds that its upswing has made it less of a deep value play and more of a growth story and it is now a minor position in his fund.
FE Alpha Manager Stephen Anness, manager of the £170m Invesco Perpetual Global Opportunities fund, says Tesco was added to his portfolio in January.
“A lot has been written about the stock and we have been looking at the business as a possible ’special situation’ for the last six months. We are now in a position where we believe that there is a credible case for a Tesco recovery over the coming years,” he said.
“While there remains a clear problem with the industry as a whole – excess capacity – we see enough that Tesco can do to influence its own destiny even in a challenging industry backdrop.”
He adds the retailer has several attractive attributes, including its dominance and size in the UK market.
“Previous management has failed to harness that, in our view. The new management appears very credible and has a simple strategy. The idea is to focus on price, service and availability in an effort to drive customer satisfaction. There are no market share or margin targets. The focus is on getting back to profitable volume growth by focussing on the customer,” he explained.
“We believe that there is an opportunity now to simplify their product range, offer more attractive prices and allow Tesco to once again drive volume and potentially stymie the threat of the discounters.”
The manager says a recent meeting with Tesco’s chief financial officer saw the case put forward why the management team can deliver good cash generation through improvements in working capital and capex and that a series of assets could be sold off to boost cash further.
However, Anness believes margins will depressed for some time at Tesco.
Sheridan Admans, investment research manager at The Share Centre, says severe competition in the sector from the discounters has undermined pricing power for the big players such as Tesco with no sign that the trend may end.
“In turn [this] has kept a lid on the revenues generation. However, securing even meagre revenue growth in the sector has come at the expense of profit margins, with annual gross profits down by 12.2 per cent over the same period, a drop of £353m,” he said.
“Easing prices at the pumps may boost consumers’ spending power, but the ongoing growth of the likes of Aldi and Lidl will continue to cause disturbance in the sector for investors.”