Tesco Worth £3 a Share Despite Troubles

Tesco has suspended four executives following an inquiry into £250 million accounting error, downgrading profits. But analysts say the shares retain their fair value estimate of £3

Ken Perkins 22 September, 2014 | 2:53PM
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There is no immediate change to our £3 fair value estimate or our Standard stewardship equity ratings for Tesco (TSCO) following the announcement that the company had identified a £250 million overstatement of its expected trading profit for the first half of the year, which it estimated as £1.1 billion on August 29.

Management attributed the overstatement to accelerated recognition of commercial income and delayed accrual of costs. CEO Dave Lewis has confirmed that four Tesco employees have been asked to step aside while tax advisor Deloitte, but not current auditor PwC, and Tesco's external legal advisors Freshfields review the issue. Management also noted that it is also working to establish the extent of these issues and the impact that they might have on full-year trading profits, which the company previously forecast at between £2.4 billion and £ 2.5 billion.

Until we have greater visibility as to whether the overstatement was isolated to the six-month period ended August 2014, we aren't planning to make material changes to our model. A GBP 250 million reduction to our current full-year trading profit assumptions would only have a minor impact on the long-term cash flow assumptions underpinning our fair value estimate. However, if the accounting issues prove to be more severe than management has disclosed or stem from a lack of corporate oversight, there could be more meaningful changes to our valuation assumptions or our stewardship ratings.

Although shares appear undervalued based on our long-term discounted cash flow model, which assumes a gradual return to low-single-digit revenue growth and normalized trading margins in the low to mid-4% range, we believe investors must have higher risk tolerances and longer investment horizons given the timeframe needed to better position this no-moat company to better compete with discounters Aldi and Lidl in the U.K., high-end grocer Waitrose, and ongoing customer migration to the convenience and online channels.


The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
Tesco PLC286.90 GBX-0.45Rating

About Author

Ken Perkins  is a Morningstar equity analyst covering consumer packaged goods firms.