JAMES PENN, in his fortnightly column for Business News, is encouraged by further signs of improvement at supermarket giant Tesco.

Tesco’s full year figures showed further improvement – admittedly from a low base.

Operating profits at the giant supermarket group were up 30 per cent to £1.28bn, driven by a 60 per cent rise in UK profits to £800m.

But while an improvement from the depressed levels of two years ago, profits are still well short of peak profits of £4.5bn, with UK profitability in particular still massively down on the levels of 2012.

Group like for like sales rose for the first time since 2009/10 and were up 1 per cent, with UK like for like sales up 0.9 per cent, though over the last quarter there was a slight dip in UK LFL sales to 0.6 percent. After outperforming the sector for several quarters, Tesco is dropping back to the same growth rates as Sainsbury, Asda and Morrison.

The positive sales performance also masks problems in some international markets. There is intense competition in Eastern Europe, particularly Poland, and a slowdown in Malaysia, a significant Asian market.

Margin improvements were in line with expectations. The UK margin rose from 1.2 per cent to 1.8 percent , and the group margin improved from 1.8 per cent to 2.3 per cent.

The company still seems to be on track for its 2020 margin target of 3.5-4 percent, which is the crux for any investment case.

So far the recovery story is following the script. Staff are happier (the beneficiaries of a £300m cash ‘Turnaround bonus’), relations with suppliers are better, and customers also seem happier.

Transactions and volumes were up by between 1.6 percent and 1.7 per cent over the year.

Fortuitously, food deflation has ended, and food prices should increase by 2 per cent or more over the coming year, boosting turnover further.

Net debt declined by £1.8bn to £3.7bn, despite an increase in capital expenditure of £200m to £1.2bn, as Tesco spent £200m on a UK store refresh programme, and invested in a further 114 stores in Thailand, still a growth market. It also bought back a further 16 freeholds, on top of the 49 stores and two distribution centres it repurchased the previous year, in order to control the rent bill better. The company now owns 51 per cent of its UK stores, up 10 per cent in two years, making it a less leveraged entity than it was. Lease payments fell 9 per cent over the year. An improvement in working capital (as sales volumes rose, and Tesco pruned the number of stock holdings it offers), and better operating profits fed through to better cashflow, which rose to £2.3bn.

The cost saving programme realised £226m in the year, but the company is targeting further improvements here, with an eventual target of £1.5bn. A further £1.25bn of savings should flow straight through to increased profits in the next three years, assuming Tesco’s offer remains competitive and it doesn’t have to pass them on to customers.

Statutory profits were marred by exceptionals, including further PPI provisions at Tesco Bank and the £235m fine for the misstatement of the accounts in 2014/15, but this issue can now be consigned to the past.

Not much was said about the proposed acquisition of Booker, the wholesale foodseller, announced in January.

This is controversial, and has incurred the opposition of some major shareholders like Schroders.

But management are still committed to it and have clearly thought hard about the opportunities in what they see as the faster growing ‘out of home’ market.

Tesco did not declare a dividend to investors but there should be one in store next year.

Management talks about paying out half of earnings in 2017/18, which on current consensus expectations of 9.7p of EPS could equate to a dividend per share of 4.85p.

The mantra at Tesco for 40 years or so was ‘growth’. Now the company is focused on the more realisable target of ‘efficiency’.

The jury is still out the long term future of supermarkets in an age of convenience stores and online retailing, but this represents some clear signs of progress at Tesco after a very troubled period in its history.

The opinions stated are those of the author and should not be taken as investment advice. Any recommendations may not sbe suitable for all, so please contact your financial adviser for further guidance. The value of investments can go down as well as up.