When any business reaches a certain size, inefficiencies are bound to creep in. Thats been the story of Tesco (LSE: TSCO) (NASDAQOTH: TSCDY.US) in recent years, with the UKs biggest supermarket expanding into all sorts of other businesses, includingtablets, on-demand films, mobile phone networks and data collection. As a result, Tesco has become bloated and, to be blunt, has lost its direction and purpose.
However, new CEO, Dave Lewis, is an external appointment and so arguably has more scope to change the company than his predecessor, Philip Clarke, did. Thats because he has no association with previous policies and, therefore, can put in place a revolution rather than an evolution. Because of this, Tesco could be a stunning turnaround story.
One of the first things that Dave Lewis did was to begin the process of rationalising Tescos business. This has included the sale of blinkbox (the on-demand film service) and broadband customers to TalkTalk, the planned sale of data company Dunnhumby, as well as a renewed focus on what Tesco has historically been successful at. In other words offering multiple price points in one place, so that it becomes a destination for price-conscious shoppers as well as consumers seeking higher quality goods and who are willing to pay more.
Certainly, there is much more to come in terms of exiting businesses that are either unprofitable or distract Tesco from its main operation as a supermarket. However, Tesco seems to now have the backing of investors, with its shares responding very positively to the companys plans and rising by 29% since the turn of the year. And, with a significant amount of change to come, this investor backing could prove to be crucial and may offer substantial support to the companys future valuation.
With Tesco being the biggest UK supermarket and arguably having the most efficient supply chain, logic says that it can survive a prolonged period of depressed prices better than its competitors. Certainly, it will be painful in the short run, as margins will be squeezed, but it could put Tesco in a much stronger position in the long run, relative to its peers.
And, with the companys new management team cutting the prices of hundreds of its bestsellers, it appears as though Tesco is readying itself for a renewed price war. This could help it to turn the tide of falling sales and post much more positive results in future quarters. Should this happen, its share price is likely to continue its recent push northwards.
Although Tesco has endured a highly challenging period in recent years, the new strategy adopted by the business appears to be capable of turning its fortunes around. So, while it does trade on a price to earnings (P/E) ratio of 22, impressive growth prospects over the next couple of years make such a high rating seem justified.
As such, and with a leaner, more efficient and more aggressive business that is backed by investors, Tesco could prove to be the best turnaround stock in the FTSE 100. As a result, now could be a great time to buy a slice of it.
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