Tesco’s (LSE: TSCO) share price has the reputation of a defensive stalwart — steady, predictable, even a little dull. But beneath the surface, Britain’s biggest grocer’s fundamentals tell a richer story than its valuation suggests.
So where should the stock be priced, based on its resilient margins, high cash generation and market share gains?
Solid recent results
Tesco’s latest results provide the clearest lens yet on that disconnect, featuring steady top-line growth, resilient margins, and cash generation.
The 2 October H1 fiscal-year 2025/26 numbers saw sales rise to £33.05bn, up 5.1% year on year. Adjusted operating profit edged up 1.5% to £1.67bn, fuelling a 6.8% uplift in earnings per share (EPS) to 15.43p. Free cash flow increased 2.9% to £1.3bn, supporting a 12.9% boost in the interim dividend to 4.8p.
The previous annual results for fiscal 2024/25, published on 8 May, showed sales up 3.5% to £63.6bn. Adjusted operating profit jumped 10.6% to £3.13bn, while EPS climbed 17% to 27.38p. UK market share edged up 0.68% to 28.3%, and the dividend was raised 13.2% to 13.7p.
Rises in any firm’s share price and dividends are ultimately powered by earnings growth. A risk to Tesco’s is the increased pressure from discounters Aldi and Lidl through aggressive pricing.
That said, consensus analysts’ forecasts are that Tesco’s earnings will grow 10% a year to end fiscal year 2027/28.
How does the valuation stack up?
A discounted cash flow (DCF) analysis shows the stock is 32% undervalued at its current £4.40 price. Therefore, its ‘fair value’ is £6.47.
This gap between a share’s current price and its true worth (fair value) is critical for making long-term profits. This is because all asset prices tend to trade to their fair value over time – up or down.
The DCF method also gives a ‘clean’ valuation – unaffected by over- or under-valuations across a sector. And it does so by using cash flow forecasts for the underlying business on a fundamental basis.
Rising dividends as well
Tesco’s steady double-digit earnings growth is important not just in pushing the share price higher. It should continue to drive dividends up too. In fiscal 2024/25, it paid a total dividend of 13.7p, generating a 3.1% yield on the current share price.
Consensus analysts’ projections are that the dividend will rise to 14.2p this year, 15.8p next year and 17.3p in 2027/28. This would give respective dividend yields of 3.2%, 3.5%, and 3.9%. By comparison, the FTSE 100‘s current average dividend yield is 3.1%.
My investment view
Tesco is not for me, as I am in the later part of my investment cycle. This means I want higher yields and higher share price growth, sort of now. I have my eyes on several such stocks in addition to those I already own.
However, for those with a longer investment horizon ahead of them, I think Tesco is well worth considering. Its reputation as a defensive stalwart masks a business delivering steady earnings growth, rising dividends, and robust cash generation.
For long-term investors, that disconnect is critical. Boring brilliance may not grab headlines, but it compounds quietly and is likely to drive its share price and dividends much higher over time.
