Tesco at 8-Month High Ahead of Earnings

Can the UK's largest grocer overcome the threat of budget rivals as UK consumers continue to be pummeled by the cost-of-living crisis? Tesco’s share price indicates it can.

Inflation Remains an Issue

Following Tesco's Christmas trading update, CEO Ken Murphy was quite optimistic, pointing to the biggest-ever sales day on December 23. But that didn't include inflation. According to Kantar, Tesco's sales have increased 6.9% over the last year, while its market share remained broadly steady despite the incursion of German budget chains Aldi and Lidl. The ONS reported that annual food inflation had reached 18.2% compared to the prior year, with around half of the adults buying less food when shopping. The CEO was a little more cautious about inflation and hoped it would start coming down by the middle of this year. Investors will see if that tone is maintained in guidance for the coming fiscal year.

The earnings release could be an opportunity to address press speculation that Tesco was looking to spin off its banking arm. Details were scant on the potential deal, but the rumour is that it could be sold for as much as £1.0B. Another thing that could come up is a further round of share buybacks. Last year, Tesco announced £750M of buybacks along with the earnings report, and investors could be disappointed if the figure isn't matched this time.

Focus on Guidance

According to estimates collected by Tesco, analysts expect the company to report earnings of 21.18p on sales of £65.7B. That would imply a 7.0% increase in revenue from the prior quarter. But, following the recent acquisitions and fluctuations in petrol prices, investors are likely to be more focused on the LFL number and profit margins. The expectation is that the largest retailer would be able to pass the increase in costs on to consumers and return to pre-pandemic profitability of around 4%.

With a general expectation that inflation will come down this year at some point, traders might be more willing to put the annual results in the rearview mirror and focus on guidance. In this respect, they will likely be keen on the free cash flow figure, supporting future stock price incentives, such as dividends and buybacks.

Tesco in Ascending Channel

Tesco share prices have been surging higher since last October when it slid under the £200 barrier intradaily. It has recovered around 25% since, with YTD gains totalling about 20%, as it managed to trade within the ascending channel boundaries. Earlier today, it was able to pull off an 8-month high at £268, which remains the short-term ceiling beneath £272.

If bulls can preserve the trend above the lower trendline, £289 is the following major resistance under the round £300 mark. Otherwise, breaking lower might expose £250, with the loss of £244 paving the way to £235. However, any declines might be simply pullbacks.

Key Takeaways

Tesco's CEO is optimistic about the company's sales despite inflation, but investors are keen to see if that tone will be reflected in guidance for the coming fiscal year. Share buybacks and the potential spin-off of its banking arm could also be addressed in the earnings release. Analysts expect earnings to increase by 7.0% from the previous quarter, with attention on LFL numbers and profit margins. Traders will seek free cash flow figures to support future incentives such as dividends and buybacks. Tesco's stock prices have surged since last October, and YTD gains total around 20%.