Inflation remains one of the key issues for investors at the moment. Indeed, in the UK, core inflation measures reached 9.4% in June, a 40-year high. There are also fears among economists that inflation could peak at 13%+. This has led to a major cost-of-living crisis, whereby consumers have had significantly less discretionary income to spend. This has seen many UK shares fall significantly.
However, supermarkets are often seen as more resilient against inflation, and I believe Tesco (LSE: TSCO) could offer a great option.
Why Tesco?
Although supermarkets are not entirely immune to the impacts of inflation, the demand for food and drink is fairly inelastic. This means that even in periods of extreme inflation, or a recession, demand remains constant. As such, supermarkets can pass on costs to the consumer far easier than other companies.
Tesco is a great example of this. Indeed, in the first quarter of the year, group sales were able to reach £13.57bn, up 2% year-on-year. This resilient performance has been driven by the company’s 0.2% growth in market share, cementing it as the largest supermarket in the UK.
With inflation soaring, Tesco has also incredible growth in its Aldi Price Match and Low Everyday Prices products, where overall distribution has increased 19% year-on-year. Although the profit margins on these products are low, they still entice consumers into the shop and have boosted the reputation of the supermarket.
Strong shareholder returns
Thanks to the company’s strong performance, at the end of the last financial year it announced it was undertaking a £750m share buyback, scheduled to finish in April 2023. The first stage of this scheme has now commenced. As this will reduce the number of outstanding shares, metrics such as earnings per share may also increase. This could help boost the UK share.
Shareholder returns overall are equally strong. In fact, last year, after reporting adjusted profits of £2.8bn, the dividend per share climbed to 10.9p, a 19.1% increase year-on-year. At the current Tesco share price, this equates to a yield of 4.1%. It is also extremely well-covered by profits.
The risks
There are some risks with Tesco however. For example, although demand for staple food and drink is steady, the group has seen demand for some higher-margin products, such as clothing, reduce. This may impact the firm’s profitability.
Further, the competition in the supermarket industry is extremely strong, meaning that price wars are commonplace. Most recently this has included many of the supermarkets starting to reduce fuel prices to attract more customers. This may have a further negative impact on margins.
Why would I buy this UK share?
Despite the risks for the company, Tesco remains far better suited to deal with inflation than most other UK shares, I feel. With a price-to-earnings ratio of around 12, the Tesco share price also seems very reasonably priced. For these reasons, I am very tempted to buy some Tesco shares for my portfolio.
