Last Updated September 5, 2013
I’ve seen a lot of investors bashing Tesco recently, so if we’re all Tesco bears now then who’s going to be the next supermarket champion?
When I’m looking at a new investment I look mostly for a quality company at a value price.
So let’s take quality first.
I’m a numbers guy with a background in computers, so I don’t measure quality by going into a store and checking to see if it’s dirty, the fruit is fresh or the staff are smiling. I look at the numbers.
In terms of quality, one way of defining quality is that the company is able to grow various key results on a consistent basis. Growth isn’t synonymous with quality, but because of inflation if a company isn’t growing over many years then it’s actually shrinking in real terms.
My favourite key metrics are sales, earnings and dividends and here they are for Sainsbury’s:
Hmmm, that looks like a company coming out of a hole to me, and indeed there were some big problems in the middle of the last decade. However, since the ‘hole’, Sainsbury’s have managed to grow revenues by something like 25% in 7 years, which still isn’t quite enough to set my pulse racing.
In terms of consistency, the company scores only 2 out of 10, which is based on the number of ‘new highs’ for sales, earnings and dividends. however, if I were only looking at the recovery period then it would be 9 out of 10. So a big question mark over whether that recovery can become sustainable above inflation growth in the future.
Moving on to value…
If quality is hard to pin down then value is next to impossible. However, it’s a task worth taking on so I use a mixture of PE10, growth rate and yield.
For Sainsbury’s, the PE10 is around 14, growth is zilch (over the last decade) and the yield is about 5.5%. Those numbers are average, below average and above average respectively. This means that out of the key value metrics of low price to earnings, good growth and good yield, Sainsbury’s only manages one above average score.
And finally, is this an investment or just speculation?
For me, an investment is something that may take years to show fruit. Speculation is something that you hope will give you big returns in a short time – think lottery or the casino.
In order for an investment in a company’s shares to be an investment it has to be reasonably certain that you will make a fair profit over a number of years, which means that the company has to at least exist in a few years time.
On that point I think Sainsbury’s is fine. They do have quite a lot of debt, with interest payments covered less than 10 times over by earnings, but they’re in a very steady business.
They are a large company in the dominant market group and I guess most investors would expect the company to exist a decade from now.
The question then is more about whether good returns can be made. I think that with a 5.5% yield which is reasonably (but not fantastically) covered by earnings, and a company that is likely to grow around the rate of inflation, Sainsbury’s has a good chance of producing adequate returns for shareholders.
If an investor was after outstanding returns from Sainsbury’s, then I think they may need a good dose of luck to sprinkle on those shares.