Increased profits on the cards at Tesco but pension headache persists

Tesco is expected to report on Wednesday that it has grown half-year profits but its steady resurgence could be undermined by a spiralling pension scheme deficit.

Analysts expect a rise in underlying sales for the third quarter in a row and half-year profits could be as much as £624m – dwarfing the £354m generated in the same period last year.

However the supermarket has the troublesome burden of a large pension deficit that continues to increase.

The lower-for-longer interest rate environment has driven the liability valuations up – pension liabilities are valued by reference to bond yields with lower yields meaning higher liabilities.

While asset values have also been in the rise as stock markets have increased through the middle of the year, the increases have not been able to keep pace with the rise in the valuation in liabilities. According to analysis by Lane Clark and Peacock (LCP) Tesco has the second largest pension deficit in the FTSE 100, standing at £4.8bn at the end of 2015.

Tesco also has the third highest annual service cost – the amount it must set aside each year to match the retirement benefits built up by plan participants – in the FTSE 100 at £631m according to LCP.

The news may be frustrating for Dave Lewis, the Tesco chief executive who joined two years ago from Unilever. Lewis has taken some of the same cost-cutting strategies that he employed at the household goods giant over to Tesco. There has also been an increased focus of selling at lower prices and non-core asset sales such as digital music service company Blinkbox and coffee house Harris and Hoole.