Tescos(LSE: TSCO) recovery appears to be getting off the ground. The number of transactions going through the companystillsis rising, debt is falling, and the effects of cost saving measures should start to filter through this year.
However, the companys revenue has continued to contract. Sales from UKstores that have been open at least a year fell 1.1% during the first half, and the groups net debt remains high, relative to peers. For example, Tescos net gearing net liabilities divided by stockholders equity currently stands at 333%, excluding intangibles. Morrisonsand Sainsburys net gearing, excluding intangibles, is 23% and 66% respectively.
So, whilst thereare signs that Tescos recovery is starting to take shape, with sales still falling and a mountain of debt to deal with, can the company ever stage a full recovery?
The right direction
Its clear that Tescos recovery will take time. It took larger peerCarrefourmore than 24 monthsto convince the market that it was finally on the road to recovery.
Nonetheless, even Tescos harshest critics cant deny that the group has made a gargantuan effort to improve trading over the past twelve months. The company is now playing to its strengths. CEO Dave Lewis knows that Tesco cant realistically compete with the discounters on price. And with this being the case, Mr. Lewis has placed an emphasis on customer service, as well as lower prices.
This strategy change has had some initial success with the number of transactions at Tescos stores rising 1.5% during the first half.Moreover, Tesco is looking to improve its supplier relationships to streamline operations.
Impressive figures
As Tesco tries to turn itself around, theres one area in which the company has already made impressive progress cash generation.
Many City analysts have been concerned for some time about Tescos poor cash generation. For the past two years, the group has struggled to generate any cash at all, relying on debt to fill the gap between cash generated from operations and capital spending.
During the first half of 2015, Tesco was able to reverse this trend. In the six months to August 29, Tesco generated free cash flow of 281m, compared with a 134m outflow in the sameperiod a year earlier. Many City analysts werent expecting Tesco to generate any cash at all.
With a positive free cash flow, Tesco will be able to start paying off its towering debt pile and reinvest in its operations. Whats more, it is rare for a company with a positive free cash flow to become insolvent.
Whats the truth?
Overall, its easy to conclude that Tescos recovery is taking shape, but investors need to be patient. Tesco is only a year into the most aggressive restructuring the company has ever seen and many changes to the business are only just starting to take hold.
Still, Tescos management seems to have a positive view of the companys prospects. At the beginning of last month, six of the companys directors spent 550k buying shares in the troubled retailer.
Up to you
This is just aroughappraisal of Tesco’s prospects. Before making a trading decision, you should conduct your own research to see if the company in question is suitable for your portfolio and financial goals.
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Rupert Hargreaves owns shares of Tesco. The Motley Fool UK has no position in any of the shares mentioned. We Fools don’t all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.
