Is Tesco The Ultimate Retirement Share?

Published in Company Comment on 24 July 2012

Will shares in Tesco help you build a FTSE-beating retirement fund?

The last five years have been tough for those in retirement. Portfolio valuations have been hammered and annuity rates have plunged. There's no sign of things improving anytime soon, either, as the eurozone and the UK economy look set to muddle through at best for some years to come.

A great way of protecting yourself from the downturn, however, is by building your retirement fund with shares of large, well-run companies that should grow their earnings steadily over the coming decades. Over time, such investments ought to result in rising dividends and inflation-beating capital growth.

In this series, I'm tracking down the UK large-caps that have the potential to beat the FTSE 100 (UKX) over the long term and support a lower-risk income-generating retirement fund (you can see the companies I've covered so far on this page).

Today, I'm going to take a look at Tesco (LSE: TSCO), the UK's largest supermarket chain and a company that divides many professional investors and Fools, some of whom prefer J Sainsbury (LSE: SBRY) and Wm Morrison Supermarkets (LSE: MRW).

Is Tesco best?

Tesco has had a well-publicised downturn this year, but over the last 10 years it has beaten the FTSE 100 fairly consistently on a total returns basis:

Total Return20072008200920102011Trailing 10 yr avg.
Tesco20.5%-22.2%22.3%2.5%-1.6%7.9%
FTSE 1007.4%-28.3%27.3%12.6%-2.2%7.5%

Source: Morningstar

(Total return includes both changes to the share price and reinvested dividends. These two ingredients combined are what make it possible for equity portfolios to regularly outperform cash and bonds over the long term.)

Tesco's returns have been more stable and resilient than the FTSE 100 as a whole in recent years, demonstrating its defensive qualities: people don't stop buying groceries in a recession, and supermarkets are the cheapest places to buy alcohol.

What's The Score?

To help me pinpoint suitable investments, I like to score companies on key financial metrics that highlight the characteristics I look for in a retirement share. Let's see how Tesco shapes up:

ItemValue
Year founded1919
Market cap£25bn
Net debt£9.4bn
Dividend Yield4.6%
5 year average financials
Operating margin5.02%
Interest cover6.8x
EPS growth9.6%
Dividend growth10.6%
Dividend cover2.22x

Source: Morningstar, Digital Look, Tesco PLC

Here's how I've scored Tesco on each of these criteria:

CriteriaCommentScore
LongevityNo complaints -- approaching 100 years of continuous operation.5/5
Performance vs. FTSEHas a history of outperforming the FTSE 100.4/5
Financial strengthGenerally a stable, cash-generative business, but overspending on new stores has resulted in negative cashflow.3/5
EPS growthSolid growth, with high margins from growing Tesco Bank business.4/5
Dividend growthVery consistent and closely aligned to average earnings growth -- what's not to like?5/5

Total: 21/25

A score of 21/25 is the best yet and suggests that Tesco would make an excellent candidate for a retirement fund portfolio. The company is focused on getting its UK business back on track and its current share price weakness could be seen as an excellent buying opportunity for a long-term hold.

Expert selections

One way of identifying great dividend-paying shares is to study the choices of successful professional investors. One of the most successful income investors currently working in the City is fund manager Neil Woodford, who manages more money for private investors than any other City manager. Neil Woodford's dividend stock picks have outperformed the wider index by a staggering 305% over the last 15 years.

You can learn about Neil Woodford's top holdings and how he generates such fantastic profits in this free Motley Fool report. Many of Mr Woodford's choices look like excellent retirement shares to me and the report explains how he chose some of his biggest holdings.

This report is completely free and I strongly recommend you download"8 Shares Held By Britain's Super Investor" today, as it is available for a limited time only.

Warren Buffett buys British! The legendary investor has recently topped up on his favourite UK blue chip. Discover what he bought -- and the price he paid -- within our latest free report!

Further investment opportunities:

> Roland owns shares in Tesco but does not own any of the other shares mentioned in this article.

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