Tesco plc's (TSCDY) stronger-than-expected first-quarter sales has seen it defy Britain's retail woes, but how long can it fend off rising inflation?
Tesco, the U.K.'s No.1 supermarket, posted its strongest sales growth in the U.K. in seven years as shoppers snapped up more fresh food and healthier options. Sales in the first quarter were up 2.3%, beating analysts' estimates, due in large part to the retailer's downward pressure on prices.
The trading update came at a worrying time for U.K. retail, after figures out Thursday showed consumer spending in the country fell at the fastest pace in four years in May, down 1.2% from April. With the U.K. highly dependent on consumer spending, cracks are beginning to show in the economy.
Sofa retailer DFS on Thursday warned of a substantial weakening in trading. "The trading environment has however recently weakened beyond our expectation, with significant declines in store footfall leading to a material reduction in customer orders," DFS said.
"We believe these demand effects are market-wide, in line with industry indicators, and are linked to customer uncertainty regarding the general election and the uncertain macroeconomic environment," it added.
The update led to a 25% drop in DFS stock in London on Thursday. DFS shares were up 0.88% on Friday at 10:39 BST to change hands at 201.75 pence.
To be sure, consumers are more likely to buy food than a sofa in times of uncertainty, but Tesco is facing stiff competition within the grocery store market from low-cost competitors.
Tesco said it is working with suppliers to protect customers from inflationary pressures. This includes, the retailer said, further price reductions, focused on fresh food and healthy products and attempting to keep prices down relative to the competition.
However, the question remains on how long Tesco can keep pressure on suppliers as inflation spikes. With inflation hitting 2.9% in May, up from 2.7% in April.
The retailer has already had high profile spats with Unilever (UL) and Heineken (HEINY) over proposed price increases, at some point Tesco may have to give in but given its size that may be later rather than sooner.
"Recovery is continuing at Tesco, despite the squeeze on consumer incomes from weak wage growth and rising inflation," Hargreaves Lansdown Senior Analyst Laith Khalaf said in a Friday note. "The going is still tough though, as the sector is highly competitive and a rising pound will put pressure on supermarket margins, so it remains to be seen just how much those higher sales will feed through into profits."
Tesco shares were down 0.5% at 179.10 pence, after jumping more than 3% when the market opened.
There is no doubt why the retail market is beginning to falter after staying surprisingly resilient in the year following the Brexit vote.
A miscalculated move by Prime Minister Theresa May to call a snap election that lost her Conservative Party its majority has called into question the U.K.'s Brexit negotiation stance and has also put a target on her head.
A string of terrorist attacks in the U.K. since March, have also added to consumer uncertainty.
Tourist attraction operator Merlin Entertainment has warned that the attacks in London and Manchester, which have killed more than 30 people and injured dozens, have resulted in deterioration in demand, and warned that this will likely continue.
Tourism could fall significantly experts have warned. "Paris tourism was down 30% and I'm expecting the something similar in London," an unnamed leisure sector chief told The Times.
This will surely lead to another drag on retail spending to come, adding more woe to the retail sector.
The Europe Stoxx 600 Retail Index on Thursday fell by as much as 2.5%, its steepest drop since Nov. 9, 2016.
The decline was led by U.K. retailers led the declines, as the market absorbed the pinch on the retail sector.
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