Image source: Getty Images
Tesco (LSE:TSCO) has been one of the FTSE 100‘s best-performing shares in the year to date. Up 21% since 1 January, Britain’s largest retailer has outpaced the UK’s broader blue-chip share index (up 17%).
Its focus on the defensive food retail segment helps to protect profits when consumers cut spending, as we’re seeing at the moment. But it’s not totally immume to pressures as the cost-of-living crisis drags on.
So Tesco’s strong trading numbers on Thursday (2 October) went a long way to soothing investor nerves, sending its share price higher. My question here is whether the Footsie supermarket can keep rising, and whether it’s a stock I should consider buying.
A quick recap
In a period typified by “strong market share gains,” Tesco said yesterday that sales rose 5.1% in the first half of its financial year, to £33.1bn.
Like-for-like sales growth topped forecasts by 30-40 basis points, at 4.3%. This was driven by a 4.8% year-on-year rise in its core UK and Republic of Ireland division, where its market share has risen for 28 consecutive four-week periods.
Adjusted pre-tax profit rose 2%, to £1.4bn, which also came in ahead of City estimates. Adjusted operating profit rose 1.5%, to £1.7bn.
Following it strong first half, Tesco said it now expects adjusted operating profit of £2.9bn-£3.1bn for the full year. This is up from a previous forecast of £2.7bn-£3bn.
Strong performance
Tesco clearly has the bit between its teeth in a challenging market. Volumes are holding up despite price increases, and demand for its premium Finest ranges is also rising sharply (up 16% in the first half).
The company’s also benefitting from its market-leading online grocery channel. Delivery sales increased 11% year on year, as it continues to tap the growing internet shopping market.
This is clearly a slick operator with experienced management and strong brand power. But is it a stock I want to buy? I’m not so sure.
Running out of road?
Looking past those headline numbers, there were some things in there that spooked me.
While Tesco is gaining share, this is coming at the cost of margins. Adjusted operating profit margins dropped 10 basis points over the first half as it invested in price to fight off its rivals.
Naturally, it’s wise to question how sustainable this price-cutting strategy is. Chief executive Ken Murphy commented that “competitive intensity remains high” and alluded to the “continued pressure on household budgets.” So Tesco is likely to need to keep slashing prices to support revenues.
Indeed, it’s a threat I expect to endure over the long haul. The likes of Aldi and Lidl continue to rapidly expand, and — along with the rest of the sector — continue slashing prices to get shoppers through their doors. With Tesco also fighting persistent cost challenges, things are looking gloomy for the grocer’s margins, in my book.
Following its strong rise in 2025, Tesco’s share price now commands a forward price-to-earnings (P/E) ratio of 16.4 times. This is far too high for my liking given these risks, so I’m happy to sit on the sidelines.
