INVESTMENT FOCUS-Investors give up on pricing UK grocery shares

* Tesco, Sainsbury Morrisons not seen as cheap despite slump

* Price war, change in consumer habits make forecasting hard

By Francesco Canepa

LONDON, Oct 3 (Reuters) - Investors are finding itincreasingly hard to put a price on shares of Britain'ssupermarkets, as a fierce price war and an accounting scandal atTesco undermine any attempt at forecasting profits.

Shares of Tesco, Sainsbury and Morrisons have fallen 40 to 50 percent over the past year, but stockpickers don't find the three UK grocers unequivocally cheap.

Any analysis is blurred by uncertainty over how far profitsmay fall and dividends be cut as the sector undergoes a deepstructural change. Competition from hard-discount rivals Aldi and Lidl and online retailers such asOcado is growing, changing the landscape around them.

Britain's grocery market grew at its slowest in more than 20years over the 12 weeks to Sept. 14, as price inflation fell tozero, reflecting price cuts, according to data from marketresearcher Kantar Worldpanel. Sales at market leader Tesco fell4.5 percent, cutting its market share to 28.8 percent from 30.2percent in the same period last year.

Billionaire investor Warren Buffett, who famously said hebuys when other investors are fearful, weighed in on Tesco onThursday: he called his investment in the supermarket "a hugemistake".

The sector's fall from grace has been accompanied bycollapsing share prices, management changes and, recently,accounting irregularities that poked a hole in Tesco's balancesheet. It has drawn comparisons to the state of UK banks afterthe financial crisis erupted in 2007.

"This is an industry that is clearly fragmenting" ascompetition grows, said Andrew King, head of European equitiesat BNP Paribas Investment Partners, which manages assets worth497 billion euros ($628.21 billion). "The earnings base on whichyou want to ascribe a valuation to Tesco and other players ispretty difficult to determine."

Historically, shares in non-financial companies are valuedusing metrics such as the ratio between their share price andexpected earnings, or forward P/E multiple, and their dividendyield, which compares the size of the most recent payout withthe stock's price.

Tesco's shares trade at 9 times their expected earnings forthe next 12 months. That is a 25 percent discount to theirhistorical average and 50 percent discount to the European foodand beverage sector, Thomson Reuters Datastream showed.

Sainsbury's dividend yield is 7.5 percent, meaning that evenif it halved its payout it would still offer nearly 4 percentyield at current prices, in line with the market's average.

The magnitude of the ructions in the UK retail industry,however, means that those stocks are not necessarily screaming"buy" opportunities at this level, investors said.

Market leader Tesco, which in the past has served as a basisfor valuing smaller competitors, is likely to undergo thebiggest transformation, with many expecting price cuts. No. 2Sainsbury has announced a comprehensive review of its business,including its generous dividend.

"I don't think we can trust the multiples quite yet, in thatwe don't yet know the extent of their strategic response to thechallenges and maybe the complete alteration of consumerpreferences," Andrew Parry, chief executive officer at HermesSourcecap, which manages assets worth $3.3 billion.

"Once we know who the winners and losers are, then you canstart looking at bottom fishing."

TAKING PAIN

The extent of any dividend cut is often seen as the singlemost important criterion for whether to hold the shares, whichhave usually been bought by investors looking for reliableearnings and payout.

"I'm holding on to Sainsbury and I'm taking a lot of pain,"said Jeremy Le Sueur, managing director of wealth managementfirm 4-Shires. "If Sainsbury cut the dividend, which I do notexpect them to do, by more than 35 percent, I would review theportfolios where I hold it for income clients."

The UK retail sector was starting to attract some contrarianbuyers, however.

Billionaire Mike Ashley's sporting goods retailer, SportsDirect took out an option bet that Tesco shares will notfall. It also increased its stake in Britain's second-biggestdepartment store company, Debenhams.

Nick Kirrage, UK Income Fund Manager at Schroders, has beenadding to his positions in Tesco, Sainsbury and Morrison's astheir price fell.

"Some of these businesses, I believe, are discounting(profit) falls of 40 percent in perpetuity," Kirrage said.

"We're going to see a very substantial collapse in profitbut what I don't think we're going to see is that collapse bemaintained for the next 10 years." (Reporting By Francesco Canepa; Editing by Larry King)