Tesco rallies on Barclays upgrade

It said recent share price underperformance has left Tesco’s valuation at attractive levels, although the bank remains conscious of the headwinds facing the UK food retail market.

“In particular, it now offers a reasonably visible double-digit free cash flow yield and is trading in-line with Sainsbury’s on an EV/sales basis for the first time in many years,” Barclays said.

In addition, it reckons there are a number of likely helpful catalysts in the coming months.

Barclays expects the full year results in April will shed more light on the cost saving opportunity, together with some clarity on guidance.

The resetting of the management remuneration targets to adjust for the Korean disposal should also give more insight into the potential margin upside, it said.

Still, Barclays noted the threat of the discounters to the UK supermarket sector

“Although we believe recent market share data provides a little room for encouragement. The potential upwards pressure from the Living Wage remains, although we do not expect a visible impact in the near future.”

Other factors could turn in Tesco’s favour, Barclays added. UK food deflation may start to ease off this year, supermarket spending could show more benefit from falling fuel prices and discount rates may help erode the company’s pension deficit.

“There are no guarantees on any of these points but we tend to think the risk profile is tilted in Tesco’s favour.”

The bank cut its price target on Tesco to 190p from 225p.

At 0910 GMT, Tesco shares were up 5.5% to 146.85p.