Here’s why the Tesco share price dropped 10% in February

Here’s why the Tesco share price dropped 10% in February

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The Tesco (LSE:TSCO) share price has taken a bit of a tumble over the past few weeks. But is this an opportunity to buy the stock at a discount? Let’s take a look at what’s going on and see whether I should consider adding Tesco to my income portfolio.

Why did the Tesco share price fall?

In December last year, Tesco announced that it had successfully completed the sale of its business in Malaysia and Thailand for $10.6bn (£7.6bn). Following shareholders’ approval at the annual meeting last month, £5bn of the proceeds were paid out via a special dividend. And the rest has been used to bolster the firm’s employee pension fund.

The ex-dividend date was set for February 15, with the actual pay date a week or so later. Following this, the Tesco share price fell. Why? Well, if £5bn is removed from a business, then obviously that business is worth £5bn less. Fortunately, this also means that the price drop was not due to any underlying problems with the company.

An opportunity to buy Tesco shares cheaply?

The Tesco share price is still trading firmly below its pre-pandemic levels. However, whether it will return to a higher price any time soon seems doubtful to me. After all, it was a much larger business back then.

But encouragingly, earnings are currently forecast to almost double from 13.8p a share to 23.1p. Combining that with a 5.5% dividend yield and the fact that people will always need groceries certainly makes Tesco look like an attractive long-term income stock to me. At least that’s what I think. But I do have some reservations.

What to do with the Tesco share price

A changing grocery landscape

According to 2020 forecasts by IGD, the UK food and grocery market will grow by a further 10% this year. While this is not an incredibly high growth rate, it’s still respectable in my eyes.

However, a closer inspection of IGD’s analysis makes me question whether Tesco is the right stock to capture this opportunity. It seems that most of this growth is going to be driven by online grocery stores like Ocado and discount shops like Aldi. The growth contribution from supermarkets is only forecast to be around 0.8% — not a particularly exciting figure.

Tesco has an online retail solution that proved essential to many individuals throughout the last 12 months. But unlike Ocado, which is the world’s largest dedicated online supermarket, the company has to cover the operating costs of all its physical stores. Needless to say, with nearly 4,000 locations in the UK, that quite a considerable expense.

The Tesco share price: buy or not?

Assuming that Tesco can deliver an EPS of 23.1p, the P/E ratio of the stock based on today’s price is around 9.5. That seems relatively low to me, suggesting that investors may have over-sold after the special dividend was paid.

Therefore at the current share price, despite the rising competition, Tesco is still a company I would consider adding to my income portfolio.

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Zaven Boyrazian does not own shares in Tesco or Ocado. The Motley Fool UK has recommended 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.



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