Clive Black at Shore Capital, probably the best-known analyst in the supermarket sector, downgraded his forecasts this week and now expects Tesco to report just 4.6p in adjusted earnings per share for the year to February 2016. The shares have lost more half their value over the past two years, but they still change hands at 173p, giving a multiple of nearly 38 times earnings. The only explanation for such a steep price is that investors are betting on a recovery in profits.
But the most recent sales data do not paint a picture of recovery. Consumer watcher Nielsen estimates that Tesco's sales fell 1.2 per cent over the 12 weeks to 10 October, compared with the same period of 2014. As is well documented, the big four grocers have been losing market share to Marks & Spencer (MKS: 3 per cent sales growth for the most recent 12-week period) and Waitrose (2.1 per cent) at the upper end of the socio-economic spectrum, and - more dramatically - to Aldi (27.6 per cent) and Lidl (23.3 per cent) at the bottom end.
The headlong expansion of the German discounters showed signs of losing steam earlier this year, but the latest data point to a re-acceleration. These were the strongest figures in nearly 18 months for Aldi and in nearly a year for Lidl. Last week's third-quarter trading statement from Wm Morrison (MRW) seemed to confirm the trend. Like-for-like sales for the 13 weeks to 1 November were 2.6 per cent lower than in the comparable period last year (excluding fuel) - disappointing after the 2.4 per cent decline clocked in the second quarter. Mr Black says he expects Tesco's figures to be "in the same ball park".
These like-for-like figures are crucial, as Tesco can no longer rely on store expansion. On the contrary: the Tesco store estate is expected to shrink by about 2 per cent in the current financial year. That means the health of the company hinges on whether it can improve the cash flows from its existing store base, particularly in the UK, which accounts for about three-quarters of sales.
Cash flows will be boosted this year by much reduced investment and the absence of last year's massive restructuring costs. Capital expenditure is on track to finish the financial year below £1bn, down from £2bn in 2014-15. This will help the £15bn company reduce the £17.7bn mixture of debts, property lease commitments and pension liabilities on its balance sheet without resorting to a rights issue.
But the operating environment remains exceptionally tough. It's not just that discounters, e-commerce and convenience shops are taking market share, while prices are falling in a deflationary macroeconomic environment. Volumes across the grocery market remain weak as consumers eat out more and trim their calorie intake. Inflation should return, the discounters will eventually reach a point of diminishing returns, and Tesco is getting better at harnessing the online and convenience channels - albeit at the expense of margins. But the weakness of volumes looks like a structural trend.
This suggests supermarkets will struggle to absorb the legacy of the space race that reached a climax in 2013. Tesco made £4.7bn of provisions against its sprawling store empire and land bank in its latest full-year accounts, and last month sold 14 development sites to property investors Meyer Bergman for £250m. But "there are still too many food stores", says Tom Edson of property broker Jones Lang LaSalle. The most promising solution has been a shift towards the concession-oriented model of department stores. A fortnight ago Tesco announced a deal with the Arcadia fashion group to open Dorothy Perkins and Burtons outlets in its biggest stores, for example. But for supermarkets this model remains largely untested.
Shareholders may need the patience of Job to sit out Tesco's recovery. If you follow Mr Black's model, it won't be until the financial year to February 2019 that the company makes enough earnings (14.9p) to give something approaching a sensible earnings multiple for a mature business - and even these forecasts are predicated on a return to like-for-like growth next year. With no dividends, shareholders are not even paid to wait.