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The Stocks Of Warren Buffett - Tesco Part 2

January 13, 2012 | About:
Josh Zachariah

Josh Zachariah

36 followers
The British grocer Tesco (TESO) has gained a lot of press of late, but not enough for its attractive stock price. The company reported declining UK sales as like-for-like store growth (less petrol sales) dropped 1.3%. Analysts apparently saw Armageddon in this as the stock shed some 20%. Tesco had reduced prices over the Christmas holiday to stimulate sales, but this maneuver was to little avail. However, the big picture was much brighter as the company's global sales grew 4% for the six weeks to January 6.

These trends couldn’t be more similar to what Wal-Mart (WMT) experienced in the previous year or so. The American retailer was showing several quarterly sales declines in its US operations despite growing international (and total) sales and getting hammered in their stock price. Sure enough US sales would turn a corner as the company made adjustments and so did the share price.

Tesco now sells at a price to earnings of 9.8 with a dividend rate of 4.82% (when TSCDY stock was at $14.5). This is considerably less than what Buffett paid in 2011 as the stock sold no lower than $16.36 during the year. The company is the largest grocer in the UK, the second largest in South Korea and a leading retailer in many other Asian countries where it is seeing much of its growth. The company also has a blossoming operation in the US under the Fresh & Easy name. The Fresh & Easy business had seen a 19% like-for-like increase in growth, but some underperformating stores had recently been closed.

Tesco, unlike Wal-Mart, has had tremendous success in online retailing. The company has been selling online groceries in its UK market since 2000. Tesco and the other grocers have had the edge over Amazon which only recently entered the UK market. Tesco and fellow British grocers Sainsbury and Asda leverage their stores as the supplier to their online operation. Realizing the edge of the incumbent grocers Amazon is instead carving out its niche by selling bulk goods and hard to find products. Despite the crowded online grocery market, Tesco was still able to notch a gain of 15% in online grocery for the 6 weeks to January 6.

The book "The Grocers" by Andrew Seth and Geoffrey Randall offers some elucidating points on how the UK and US grocery markets have evolved. A revealing quote was how little the UK grocery market has changed over the last 60 years. The author writes, “In 1990 the market share of the top 20 firms [grocery in UK] was roughly the same as that of the top 20 in 1950” (it hasn’t changed much since 1990 either). Surely that could not be said of the US. A&P, for example, which once held some 13% of the national US market (entirely in the northeast) is recently bankrupt. The US, until recently, had been a highly fragmented market compared to the UK with many regional grocers and this was not just out of chance.

A law was passed in 1936 called the Robinson Patman Act and this law effectively prohibited price discrimination, in particular that of suppliers whom offered discounts to large customers who could purchase in bulk. This law effectively favored the “mom and pop” type shops as they were able to procure goods at similar prices to much larger competitors.

The UK was constrained by no such law. Grocers enjoyed the economies of scale by consolidating and having national chains. This type of market power necessarily lent itself to a very difficult market for smaller grocers hence the relatively unchanged market shares. Not surprisingly this is probably why Buffett was concerned about Tesco’s incursion into the US. Tesco’s small subsidiary would be going to war with the Wal-Mart’s and Costco’s which have the scale and turnover to price at low levels.

Tesco’s recent slide in UK sales may be a concern in the short-run. For long-term investors like Buffett, there is probably little concern. The UK economy will improve in time and Tesco will still be selling groceries many more decades into the future.

Disclosure: Long TSCDY

For the first article on Tesco

About the author:

Josh Zachariah
I credit my father and Warren Buffett for molding me into the investor I am today.

Rating: 3.6/5 (8 votes)

Comments

softdude2000
Softdude2000 - 2 years ago
I am little confused with your conclusions. If the law was in effect in US, small stores of Tesco in US should be better able to compete with WMT in US because law protects mom-and-pop stores.
Josh Zachariah
Josh Zachariah - 2 years ago
Yes, the book was a little vague on the change also, I'll do some research and post an edit when I find the answer. But Wal-Mart and Costco have managed other costs that could be minimized. In the case of the Wal-Mart, the company locating in the outskirts of town where real estate was cheap and employed a thoroughly frugal philosophy that pervaded the whole company and brought down costs.

As the wikipedia listing shows, Barnes and Noble and Borders lost a battle in 1994 against the independent book stores on obtaining price advantages. But it wouldn't stop Amazon with a more superior business model to put them all out of business. The law was/is a hindrance for the large enterprises, but still not an outright barrier

Josh Zachariah
alleygator
Alleygator - 2 years ago
Where do you find the information of a 4.82% dividend? When I check on yahoo finance, they show dividend as N/A. When I check TSCDY on fidelity, they say 2.99% yield.

Also, which is the proper ticker symbol for North American purchasers - Tesco seems to sell under many symbols, TESO, TSCO.L, TSCDY?

Thanks.
Alex Garcia
Alex Garcia premium member - 2 years ago
TSCO.L, TSCDY , are the correct ones. The "L" in the ticker referrs to Yahoo identifying the exchange. TSCDY is the ADR.

TESO is NOT Tesco PLC. Completely different company that focuses on manufacturing and service delivery of technology-based solutions for the upstream energy industry.

-Alexg

http://www.valueinvestinghq.com

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