The Tesco (LSE: TSCO) share price is down. But does the company now make a good stock investment? The directors seem to think so. Some of them have been buying the shares for themselves in October. And I don’t blame them.
Cash flow holding up
A year ago, Tesco made a big statement about the value it sees in its own business by starting a £750m share buyback programme. I reckon the move demonstrates that a healthy flow of cash is still coming into the business. And strong cash flow is one of the main reasons I’d consider buying some Tesco shares. It takes cash to pay shareholder dividends. And, to me, an investment in the company is all about dividend income.
But previously, the biggest requirement for me to get interested in the stock was a dividend yielding at least 5%. I’ve always wanted a big shareholder payment to compensate me for some of the risks of holding the shares. But for a long time, the valuation looked too high for my tastes and the yield too low.
However, the situation changed between mid-August and now when the share price plunged by around 25%. And the current level near 205p puts the company back on my watchlist. To put the move in perspective, the 25% decline is also how much lower the stock is over the past year.
Lower earnings
My guess is the slide occurred because of lower earnings. The company issued its half-year results report in early October and the figures revealed how tough trading has been for the supermarket chain. Profits, earnings per share and cash inflow were all down year on year. But, crucially, the directors raised the interim dividend by just over 20%.
I reckon that move underlines the directors’ confidence in the outlook. And seeing some of them put their own money on the line with personal share purchases reassures me even more.
However, positive long-term outcomes are never certain with stocks and shares. The signs look good to me with Tesco, but any business can suffer operational setbacks at any time. And I’m not forgetting the business got itself into trouble a few years back and had to turn itself around. I’m also mindful that the supermarket sector is competitive and the business is low-margin in nature and carrying a lot of debt.
Uncertainties ahead
In the interim report, chief executive Ken Murphy guided the market to expect full-year operating profit at the “lower end” of previous expectations. He said: “Significant uncertainties in the external environment still exist, most notably how consumer behaviour continues to evolve.”
I’m not expecting the Tesco share price to shoot the lights out in the years ahead. But I am hoping for the business to keep defending its position in the market against its many competitors.
Times are tough. But even now the firm is turning a profit. And earnings cover the dividend payment around twice. My assumption is the company will keep on paying dividends and grow them a little each year. And, as such, I reckon the stock is a candidate for my diversified income-focused portfolio when I next get some spare cash.
