Tesco upgraded to BBB by Fitch on strong performance, stable outlook

Investing.com -- Fitch Ratings has upgraded Tesco PLC (OTC:TSCDY)’s Long-Term Issuer Default Rating (IDR) to ’BBB’ from ’BBB-’ with a Stable outlook, reflecting the retailer’s consistent robust performance in the competitive UK food retail sector.

The upgrade recognizes Tesco (LON:TSCO)’s effective market leadership position, wide format diversification, established value perception, and strong cash management. Fitch expects Tesco’s EBITDAR net leverage to remain below 2.5x over the rating horizon, aligning with the ’BBB’ rating.

Tesco has continued to strengthen its UK market leadership, gaining 60 basis points of market share over the 12 months to June. The company achieved 4% UK like-for-like sales growth during FY25 and 5.1% in 1QFY26 (financial year ending February).

The retailer’s strong value perception is supported by its ’Low Everyday’ prices, Aldi price-match range, and Clubcard prices. Its scale, store format diversification, loyalty program, and online leadership position it well to respond to changing consumer behaviors.

Fitch projects EBITDAR net leverage to remain between 2.3x-2.4x through FY28, slightly above the 2.0x-2.2x seen in FY24-FY25, but consistent with a ’BBB’ rating. This is supported by Tesco’s stated EBITDA net leverage target of 2.3x-2.8x and disciplined capital allocation priorities.

The rating agency expects Tesco’s EBITDA margin to drop to 5.1% in FY26 from 5.6% in FY25 following the company’s April announcement of lower operating profit to invest in customer value. However, Fitch anticipates most of this profitability loss will be recovered by FY27-FY28, with the margin returning to 5.4% by FY28.

Tesco generated £1.1 billion in free cash flow in FY25. Fitch expects average annual FCF generation of £750 million with a 1% margin over FY26-FY29, after approximately £1.5 billion in capital expenditures and progressive dividends based on a 50% payout ratio.

Booker, Tesco’s wholesale and catering arm, comprised over 14% of FY25 total revenue, excluding fuel. While Booker’s like-for-like revenue declined in FY25 due to the tobacco market contraction and weakness in parts of the fast-food market, its performance improved in 1QFY26, driven by favorable weather and a stronger Easter.

Tesco’s online channel, which generated £6.8 billion in sales (including VAT) in FY25, is profitable according to the company. Online orders grew 11% to around 1.3 million average orders per week.

The retailer is primarily UK-focused, with over 90% of FY25 revenues generated in the UK and the Republic of Ireland. The remaining retail operations are in the Czech Republic, Hungary, and Slovakia.

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