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Questor share tip: The retailer has made a decent fist of navigating the cost of living crisis

Running a business is not particularly complicated. Even the greenest of management teams understands that they must keep costs to a minimum and generate rising revenues through offering superior products, better customer service or lower prices than their rivals.

The difficulty, of course, lies in the execution of the above. Fortunately, Sainsbury’s is doing a solid job of implementing its current strategy.

The FTSE 100 company’s shares have risen by 22pc since Questor advised readers to buy them in March 2021, while the blue-chip index has gained 10pc over the same period.

Its recently released half-year results showed that like-for-like retail sales (excluding fuel) rose by 8.4pc even amid a tough environment for retailers.

The company’s focus on offering better products at more competitive prices is paying off and it now expects full-year pre-tax profits to be within the upper half of its previous guidance range.

It also raised forecasts for retail free cash flow by 20pc for the full year. Encouragingly, its market share increased during the period.

This positions it for future growth as trading conditions improve, while its increasing use of “Nectar prices”, which offer discounts to the scheme’s members, helps to boost customer loyalty.

This follows the successful use of “Clubcard prices” by its arch-rival Tesco; the tactic has resonated with cash-strapped consumers during the cost of living crisis.

Sainsbury’s price reductions amounted to £118m during the half year and were partially funded by an ongoing efficiency drive.

In the past two and a half years, it has generated savings of £1.1bn and is on track to meet its three-year goal of £1.3bn in savings by March 2024.

Although its retail operating profit margin edged lower relative to the same period of the previous year, it was nevertheless a solid result given the degree to which consumers have become price conscious. 

Declining inflation, of course, means the outlook for consumers, and the retailers that serve them, should improve. While the annual rate of price growth is still more than twice the Bank of England’s 2pc target after its fall to 4.6pc in October, time lags mean the full impact of Bank Rate rises has yet to be felt.

It therefore seems likely that interest rates will gradually be cut.

This could boost retail sales, which have been volatile and declined by 0.3pc last month, as the pressure on disposable incomes eases. Consumer confidence may also improve further after returning to its upward trend in November.

This would allow Sainsbury’s to ease up on discounting, thereby aiding profit margins, while enabling it to market itself on the basis of things other than price. This should provide it with a clear competitive advantage over no-frills budget chains that offer little more than low prices.

For example, the trend towards online retailing has picked up over recent months following a sharp decline in the immediate aftermath of the pandemic.

The company’s strong ecommerce position makes it well placed for growth in this area.

And with Britain’s economic growth expected to improve next year as below-target inflation and interest rate cuts move closer, the outlook for the retail sector, and investor sentiment towards it, is likely to improve.

Sainsbury’s financial position, meanwhile, continues to provide a solid foundation for long-term growth.

Net debt declined by 11pc in the first half of the year, which means the company now has a very manageable net “gearing” (debt to assets) ratio of 78pc, while net interest payments were covered a comfortable three times by operating profits in the same period. 

In terms of valuation, the company’s shares trade at a modest 12.2 times earnings despite their rise since our tip.

This suggests that they offer the potential for further capital gains as the environment for retailers gradually improves and growth becomes easier to generate.

Sainsbury’s management team has performed well despite an uphill battle against a weak economy, downbeat consumer sentiment and rampant inflation. 

The retailer is now poised to enjoy a more buoyant economic backdrop that should allow its strategy to come to fruition. 

The stock therefore remains a worthwhile holding, or purchase for those who do not already own it, as it has the potential to outperform its rivals, as well as the wider index, over the coming years. 

Questor says: buy

Ticker: SBRY

Share price at close: 281.3p


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