Dave Lewis, the newly-instated chief executive of Tesco, has just 13 days left before he is due to update investors on the probe into how the retailer overstated its first half-year profit guidance by £250m.
The former Unilever executive has been given “carte blanche” to look at every aspect of Tesco, according to insiders, to rebuild trust with the City and customers after issuing three profit warnings in as many months.
Aside from selling the company’s five corporate jets, Mr Lewis could look to offload assets ranging from its family-friendly restaurant chain Giraffe or Tesco Bank. Alternatively, he could take the more radical route of tapping his own shareholders for cash.
So what are his options for shoring up Britain’s biggest supermarket?
Scrap the dividend
Tesco has said it will cut the interim dividend by 75 per cent, saving almost £300m compared with last year. But it has not yet given any guidance on the final dividend. Jaime Vázquez, analyst at JPMorgan Cazenove, estimates that scrapping the final dividend would save about another £800m.
Rights issue
Bankers say that Tesco could raise up to £3bn through a rights issue to strengthen its balance sheet and help create a war chest to fight its rivals on price wars. Shoring up its capital would also give Mr Lewis scope to top up Tesco’s pension fund, which had a deficit of £3bn at February 2014.
Investors are divided over whether they would support a rights issue. One institutional fund manager with a small holding in Tesco says that if the company deals with the issues behind the profit overstatement in a “transparent way and the chief executive sets out a definitive plan on how he is going to turn the business round, he will get the funds he needs”.
But another smaller shareholder says he would rather see Tesco sell assets that are not earning a sufficient return than raise equity. “Its unfathomable to do a rights issue while you are paying a dividend,” the shareholder says.
By making a cash call sooner or later, argues, Dave McCarthy, HSBC’s food retail analyst, Mr Lewis would limit the ability of its competitors to go down a similar route.
“Investors should only back one horse in this race and a financially reinforced Tesco would represent a more serious threat to its competitors,” says Mr McCarthy. He believes the move could choke off one of the options for J Sainsbury, potentially pushing it towards cutting its dividend. “It’s a game of thrones,” he says.
Bankers say that an early rights issue would give Tesco breathing space to decide if and when to sell off assets.
“It effectively says, ‘this is a pill that, as a shareholder, is worth swallowing, because it is going to put us on a much stronger footing. Therefore, we are going to be able to take the decisions we need to to take about assets, rather than being on the back foot’,” says one banker.
Tesco says it is not currently considering a rights issue.
The A list
Some bankers have drawn parallels between Mr Lewis’s position and that of Georges Plassat, when he became chief executive of Carrefour, two years ago.
One key difference was that Carrefour had some very valuable assets, which it was quickly able to sell. The most notable of these was Colombia, which it sold for an enterprise value of €2bn – 20 times historic earnings.
Tesco is in a slightly different position. Its most valuable assets would be its Asian operations, with South Korea the jewel in its crown. Analysts estimate that these assets could be worth between £8bn and £10bn.
Dave Lewis, a former Unilever executive, recently replaced Tesco chief executive Philip Clarke
But bankers say that letting Asia go would leave Mr Lewis’s growth options limited once he has turned round the UK. A full or partial listing would be another option.
Dunnhumby, the data analysis business that helped create Clubcard, is another valuable asset. Private equity and trade buyers are circling, with valuations up to £2bn mooted.
Asset sales
Tesco has other assets that it could offload. In central Europe, the group operates in Poland, Hungary, the Czech Republic and Slovakia. Mr Vázquez estimates that this collection of businesses could be worth about £3bn. However, he says there are few obvious buyers, and in some countries, there are restrictions on deals, making the process of putting a firm valuation on the assets tricky. “Its binary,” he says. “If you find a buyer, the countries are worth that amount. If you don’t they are not.”
Similarly, Tesco Bank could be sold, floated, or a partner brought in – a reverse of the deal it struck six years ago when Tesco bought out Royal Bank of Scotland for £950m. Mr Vázquez estimates that 100 per cent of the bank could be worth £1.5bn-£1.7bn. However, he points out that the link to Tesco is “integral to the bank’s relationship with its customers”.
Tesco could also jettison some its non-core assets including Blinkbox, the video streaming service as well as coffee chain Harris + Hoole and Giraffe restaurants, which the group only acquired last year for £50m.
Dobbies garden centre could be attractive to a mid-market private equity group, and analysts at Sanford Bernstein value it at £180m. The One Stop convenience chain – which sits in one of the few growth areas in food retail – could also fetch almost £500m, according to Bernstein.
Getting on with the day job
But bankers say that with Tesco’s own probe of the profit overstatement led by Deloitte, as well as the FCA investigation, it may be difficult to draw up the necessary documentation for a rights issue or for shareholders in the event of a significant asset sale.
With Christmas approaching, Mr Lewis will also need to spend time on trading. Insiders say that the effect of any decisions he makes will be felt by customers first. This will be necessary, because, according to one senior retailer, for the rest of the grocery sector, the crisis at Tesco, “is the best Christmas present they have ever got”.
