I can understand why the Tesco (LSE: TSCO) share price is something plenty of share pickers want to get their teeth into. At current prices, Britain’s biggest supermarket retailer boasts a forward P/E ratio of 13.2 times, coming in below the FTSE 100 corresponding average of around 14.5 times. For a stock City brokers expect to grow earnings by double-digit percentages over the next couple of years at least, well, Tesco appears to be a bona-fide bargain right now.
I’m not tempted to buy into the firm, however, low valuation or not. The grocer’s share price has fallen 11% from its 2019 highs struck around 250p in late April and, judging from recent newsflow, there’s plenty of reason to expect it to keep falling.
Price hikes are coming
The sales renaissance which Tesco enjoyed up until fairly recently has well and truly run out of steam. Latest trading numbers showed sales growth more-or-less stagnate in the first fiscal quarter. That’s a reflection of expansion by its competitors and the mounting pressure on household budgets that’s exacerbating the rush to cheaper supermarkets such as Aldi and Lidl.
I expect recent news of price hikes will go down like a cup of cold sick for the customers that are still sticking by Tesco too, and worsen the current exodus. In the face of rising costs, it’s been forced to raise prices on some 1,000 goods across the store in the past couple of weeks, according to data seen by the Press Association, with prices going up by an average of 11% on a broad range of items.
The likes of Tesco find themselves in one of those dreaded Catch-22 situations: keep prices low and with them razor-thin margins; or increase them and lose even more loyal customers. The Footsie firm has opted for the latter, and it’s likely the price rises will keep coming given the probability that the pound will keep on sliding.
A better retail stock
So forget about those City predictions of handsome profit increases over the next couple of years, I say. It’s hard to see how Tesco will deliver on these estimates, and I expect them to be chopped back sooner rather than later and prompt a further slip in the share price.
I’d much rather use my hard-earned investment cash to buy Applegreen (LSE: APGN). The petrol forecourt retailer’s paper valuation, a forward P/E multiple of 16.9 times, might not be a million miles away from that of Tesco, but I believe their long-term profit outlooks are worlds apart.
Applegreen has made moving into overseas markets a critical part of its growth strategy in recent years. The Dublin-based business is spreading its tentacles into the UK and the US via a mix of organic expansion and game-changing acquisitions like that of Welcome Break in October.
Revenues are exploding as a consequence and, encouragingly, the AIM company has no plans to slow down on this front. Just last month, it acquired leasehold interests on 46 petrol stations in a move which marks its first major foray in the US Midwest.
City analysts expect Applegreen’s earnings to rise by double digits through the next couple of years too. But I reckon these forecasts are built on much safer foundations than those over at Tesco.
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Royston Wild has no position in any of the shares mentioned. The Motley Fool UK has recommended Applegreen and Tesco. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
Motley Fool UK 2019