When will Tesco investors give its Irish boss credit?

Tesco's Cork-born chief, Ken Murphy, has spotted a surge in activity in the supermarket giant's frozen aisles of late, with customers snapping up turkeys well ahead of Christmas – rattled by scenes of empty shelves across the UK in recent times.

Sales of large, frozen fowl are currently running 10 per cent ahead of last year, Murphy told reporters this week, as he cautioned against panic buying the festive table staple. “We have a resilient supply chain and really good availability levels,” he said.

The chief executive of one year has also seen even more unusual stirrings elsewhere in recent days: in Tesco’s shares.

In a sector that has been generally unloved by the stock market for more than a decade, Tesco has been particularly friendless among UK-listed food retailers, as German discounters Aldi and Lidl nibble away at shares of a fiercely competitive market. Even painful restructuring undertaken by the group in the wake of an accounting scandal in 2014 has secured little credit from investors.

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But there has been more than a thawing in sentiment in recent days. Shares in Tesco surged as much as 11.8 per cent this week, as it reported a better-than-expected 16.6 per cent jump in core-retail operating profits for the six months to August, to £1.39 billion (€1.64 billion), and raised its full-year earnings forecast.

While the wider sector has been grappling with severe supply chain disruptions and labour shortages, not to mention tough comparisons against record food sales a year earlier during Covid-19 lockdowns, Tesco actually managed to increase sales by 3 per cent. (The Republic stood out as a weak spot, with sales dipping 2 per cent to €1.45 billion).

Murphy said that the group’s supply chain has remained resilient because of “the depth of our supplier partnerships” and it increased its reliance on trains to transport products during the UK’s lorry-driver crisis.

Debt reduction

The group had also cut its net debt by £2.3 billion to £10.2 billion on the year, aided by some of the proceeds from the £8 billion sale of its Thai and Malaysian business last December. The deal marked a continuation of a roll-back from its international expansion, following an overall costly shedding of its interests in the US, Japan, South Korea, Turkey and China in the past decade.

But the real driver of the debt reduction has been the fact that Tesco has become something of a cash cow again. Its free cashflow – essentially the money left over after paying for everything it needs to carry out its business – almost doubled on the year to £1.54 billion for the first half. And it underpinned the group’s announcement this week that it plans to buy back £500 million of its own shares.

Tesco is the only one of the big four UK retailers to hold on to its market share since the start of 2020, at 27 per cent, helped by its online offering during the Covid-19 pandemic – something the German discounters have lacked.

Christian Brothers-educated Murphy, who went on to train as an accountant at Coopers & Lybrand, has pledged to drive revenue growth by expanding, or at least maintaining market share, by relying on “increasing customer satisfaction”.

"This is an important commitment, given Tesco has not seen [year on year] share gains on an annual basis since 2010," said Goldman Sachs analyst Rob Joyce. Murphy is also targeting £1 billion of cost savings over the next three years in an effort to at least offset general inflation in operating expenses.

Bank of America analysts are more cautious. "Tesco's confidence is based on the recent six months outperformance in the UK," they said in a note to clients this week. "Consistency will, however, be key while the UK market may face cost pressures and disruption as recently seen with fuel sales."

Tesco is the largest fuel retailer in the UK.

M&A activity

The UK food retailing sector has been a hive of mergers and acquisitions activity and speculation of late.

Earlier this year, petrol filling station tycoons, Mohsin and Zuber Issa, and private equity group TDR Capital acquired a majority stake in Asda from US retail giant Walmart, in a deal that valued the third-largest British grocer at £6.8 billion.

Last weekend, a protracted takeover battle for Wm Morrison ended with New York private equity firm Clayton, Dubilier & Rice's (CD&R) sealed-auction bid of £9.97 billion for the UK's fourth-largest supermarket. (Followers of Irish publicly quoted companies will remember that DC&R bought out UDG Healthcare over the summer).

The second biggest UK retailer, J Sainsbury, has also gained 30 per cent so far this year amid perennial rumours it could be next.

Tesco’s shares have not benefited from the same extent, due to its sheer size. Its market value currently stands at £21.3 billion.

However, some observers are beginning to see the possibility of an approach from private equity – an industry that is sitting on a record of $3.3 trillion of unspent cash, and $1 trillion alone in buyout funds.

Murphy set out his stall this week with a target of generating £1.4 billion to £1.8 billion of free cash flow a year – something that HSBC analyst Andrew Porteous says that stock market investors are not even beginning to appreciate. If they won't, will others?