Source: Tesco

Tesco’s margins and profits were hit by shoppers cutting back, but the market reacted positively to its tightrope walk between protecting margins and market share.

While statutory profit before tax fell 51% from just over £2bn to £1bn in the year to 26 February, group adjusted operating profit, at £2.63bn, was down a more modest 6.9% exceeded consensus and previous guidance of £2.4bn-£2.6bn.

The group statutory operating profit reduced by 40.4% year on year due to a sharp increase in adjusting items. The key driver was a £982m non-cash impairment charge on non-current assets – primarily property – mainly due to an increase in interest rates.

Group sales were up 5.3% at constant rates at £57.7bn as volumes held up “relatively well”. But these significantly lagged inflation, given the impact of cost of living pressures and further post-pandemic normalisation.

Overall retail like-for-like sales were up 5.1%, UK Tesco retail up 3.3%, Ireland up 3.3% and Booker up 12% primarily due to higher catering sales, boosted by share gains.

However, that meant retail sales margin fell 56bps back to 3.8% as driven by lower sales volumes amid soaring food price inflation, as well as ongoing investment in its customer offer amid operating cost inflation. Overall adjusted group margin was down to 4% from 4.6%.

Despite this margin hit, Tesco said it would continue to prioritise investment in its customer offer while doing “everything we can” to offset the impact of ongoing elevated cost inflation. In this context, it expects to deliver a broadly flat level of retail adjusted operating profit in 2023/24 and retail free cash flow within its target range of £1.4bn to £1.8bn.

Tesco shares were up 2.1% to 273.1p in morning trading on Thursday.

Crucially Tesco’s core retail sales, earnings and free cash flow were all ahead of market expectations.

Shore Capital said Tesco was “toughing it out well” and had been “executing very effectively through 2023”. “The good all-round execution has meant Tesco has been robust in its relative value proposition, manifested in a corresponding stable market share position,” it said.

Barclays also noted the results “imply a strong end to the year”. “We think the company continues to execute its plan successfully and think the shares should re-rate as its track record of cash generation and cash returns extends further. Moreover, we expect sentiment to improve in the second half of 2023 if, as we assume, food inflation lowers and energy costs provide a tailwind.”

AJ Bell commented: “Holding on to customers in a cost-of-living crisis is no joke, even for a company with the scale and purchasing power of Tesco. The company is having to take a hit on profit and margins to keep the tills ringing and customers heading through its doors.

However, it cautioned: “What Tesco doesn’t want to be drawn into is a race to the bottom on prices which cuts margins right to the bone for a prolonged period.”

The shares are now at their highest level since May last year and up by almost 20% so far in 2023 after supermarkets enjoyed a stronger than expected festive sales period.