Buffett increased his holding of Tesco in January 2012 from 3.6% of the company to 5.08%, for $774 million, bringing his total investment to over $2 billion. Neither he nor his partner, Charlie Munger, approved of the company’s decision to open stores in the U.S. At Berkshire Hathaway (NYSE:BRK.A)(NYSE:BRK.B)’s annual meeting, Munger said the strategy was “ill-advised,” saying, “I could have told [Tesco] if they had asked me, but they didn’t.” He cited competition from present stores such as Costco (NASDAQ:COST) and Trader Joe’s as primary reasons.
When asked whether they should give up the venture, he responded, “I don’t know. Maybe they are skillful enough so that they can make it work.”
Tesco opened its first U.S. stores in 2007, and eventually opened more than 200 locations in California, Arizona and Nevada.
The company has been limiting new capital investment in Fresh & Easy since October, trying to first reduce costs and improve profitability in its existing stores. It decided to make a strategic review of the business and remove the CEO after it became clear that it would not deliver acceptable shareholder returns in an acceptable time frame.
"Whilst the business has many positives, its journey to scale and acceptable returns will take too long relative to other opportunities. I have therefore decided to conduct a strategic review of Fresh & Easy, with all options under consideration,” CEO Philip Clarke said in a statement.
In the company’s interim results, it reported an overall group sales increase of 1.4% year over year, and a statutory profit before tax of 1.7 billion pounds, down 10.5%. U.S. losses declined to 72 million pounds at constant rates. Like-for-like sales growth in the U.S. was 5.2%, and the number of stores contributing positively continued to increase from 30 at the beginning of the year to 55 at the end of the first half, nearly 30% of stores.
Growth had slowed from the first half of 2011, when U.S. like-for-like growth increased 9.6% over the previous year.
The company still sounded positive about the business’ prospects in its 2012 interim report:
“We are focusing all of our efforts on driving forward the profitability of our existing stores and have taken further steps to reduce the new space opening programme going forward. As a result, we expect to end the year with just over 200 stores in total, rather than the 230 we had in the programme at the start of the year. This move, together with a number of other measures we have already put in place to reduce costs, will lead to a more significant reduction in losses in the second half. Notwithstanding these measures, further steps are being reviewed to accelerate the pace of improvement. In the meantime, new capital investment will be tightly constrained.”
Though Buffett’s disparaging remarks about Tesco proved accurate, he has explicitly stated that the company’s stock price was what affected his purchasing decisions. At the right price, he said at his shareholder meeting, he “would probably want to hold a lot more.”
Additionally, his most recently reported purchase of the company’s shares in January took place the day after its stock price dropped 16% due to a profit warning it issued explaining its poor financial results for the Christmas season.
Wednesday’s news about Fresh & Easy has thus far had no negative effect on Tesco’s stock price; shares are up 4.21% since trading opened this morning, making it unlikely that Buffett will purchase more.
The company on Wednesday has a P/E of 10.7, P/B of 0.9 and P/S of 0.8, all of which are historically low.
TESO data by GuruFocus.com
Warren Buffett has several other grocery retail stocks, including Walmart (NYSE:WMT) and Costco (NASDAQ:COST). He sold out of his two others in the U.S., Dollar General (NYSE:DG) and CVS Caremark (NYSE:CVS) in the third quarter. See his portfolio here. Also check out the undervalued stocks, top growth companies and high yield stocks of Warren Buffett.