Tesco Regulatory News (TSCO)

Interim Results 2020/21

SUPPORTING CUSTOMERS THROUGH CHALLENGING TIMES

Throughout the COVID-19 crisis, we have been guided by four key priorities: providing food for all, safety for everyone, supporting our colleagues and supporting our communities.  As a result, our 440,000 colleagues have been able to make a significant and lasting contribution towards keeping their nations fed. At the same time, we have invested in value for customers and continued to make strategic progress as the business moves beyond the turnaround:

Customer satisfaction

· Adapted offer to major shifts in customer buying habits; in UK, food sales up 9.2%, clothing down (17.2)%, GM down (0.3)%

· Online delivery capacity more than doubled to reach 1.5m slots a week, including serving 674,000 vulnerable customers

· c.90% of customers rating store safety highly; >1.1m customers more loyal to Tesco vs. pre-COVID6

· 'Aldi Price Match' launched in March and then extended to >500 lines; switching gains from Aldi for first time in a decade7

· Rewarding loyal customers through exclusive deals with extension of Clubcard Prices to c.2,000 products

· Brand net promoter score up 2pts; recognised as 'Brand of the Year' in Marketing Week Masters Awards last month

· Resilient Booker performance: Retail sales up 22%; Catering sales down (12)% - an improvement from 1Q driven by doubling of market share and benefit of Best Food Logistics

Cash profitability

· Response to COVID-19 leading to £(533)m 1H UK costs as we prioritise customer and colleague safety

· Retail operating profit before exceptional items and amortisation of acquired intangibles4 of £1,192m, +4.4%, margin 4.2%; - UK & ROI volume and business rates relief offset COVID-19 costs; CE held back by COVID-19 costs and new Hungarian tax

- UK & ROI £1,133m, +6.4%, margin 4.3%

- Central Europe £59m, (23.4)%, margin 3.0%

· Bank operating loss before exceptional items £(155)m driven by provision for potential bad debts and reduced income; continue to expect operating loss of £(175)m-£(200)m this year; capital ratios and liquidity remain strong

· Retail EBITDA8 £1,994m, +4.1% higher YoY

Cash flow

· Retail free cash flow5 of £554m; stable YoY exc. £(148)m relating to buyback of five UK stores and lower property proceeds

· Interim dividend 3.20p; 35% of last year's full year dividend, in line with policy

· Net debt5 of £(12.5)bn, down £0.1bn year-on-year

Sales of businesses in Thailand, Malaysia and Poland progressing well

· £8.2bn9 sale of Thailand and Malaysia businesses approved by shareholders in May; regulatory approval and completion expected by the end of the calendar year, to be followed immediately by shareholder meeting to approve c.£5bn capital return and £2.5bn one-off contribution to eliminate pension funding deficit

· Sale of Polish business to Salling Group A/S agreed in June; completion expected Spring 2021

Imran Nawaz to join Board as CFO in April 2021 - as separately announced this morning

"The first half of this year has tested our business in ways we had never imagined, and our colleagues have risen brilliantly to every challenge, acting in the best interests of our customers and local communities throughout. I would like to thank all our colleagues for their amazing contribution and I am delighted and proud to be part of such an incredible team.

We are absolutely committed to continuing to invest in value for customers and safety for all in these uncertain times.

Tesco is a great business with many strategic advantages. I'm excited by the range of opportunities we have to use those advantages to create further value for our customers and, in doing so, create value for all of our other stakeholders."

Key segmental results:

A full Group income statement can be found on page 15.

We have not included the usual EPS measures in the tables above as we consider they do not provide a meaningful reflection of performance in the first half. Adjusted diluted EPS of 5.75p (LY: 6.85p), which is our usual alternative performance measure, excludes earnings from our discontinued operations but does not take account of the share consolidation that is expected to take place following completion of the sale of our Asian businesses. Statutory EPS of 4.72p (LY: 3.34p) does include earnings from discontinued operations, however the year-on-year shape is distorted as no depreciation has been charged this year after the related assets were reclassified as 'held for sale' on the balance sheet.

Adjusted diluted EPS will be refined at the full year to reflect the post-consolidation share base as if it had been in place from the start of the previous financial year. The precise impact on the share base cannot be predicted now as it depends on the share price at the time of the consolidation. However, based on a share price of 213.2p (being the average share price for the five days to 2 October 2020), the number of shares in issue would reduce by c.(24)%. We can apply this reduction to the share base used for the interim measure to derive a 'Pro forma' Adjusted diluted EPS of 7.56p (LY: 9.01p), which we consider better reflects underlying performance in the half. 

Notes

1. Prior year comparatives are restated for discontinued operations. Further details on discontinued operations can be found in Note 6, starting on page 38.

2. The Group has defined and outlined the purpose of its alternative performance measures, including its headline measures, in the Glossary starting on page 58.

3. Group Sales exclude VAT and fuel. Sales change shown on a comparable days basis for Central Europe.

4. Excludes amortisation of acquired intangibles and excludes exceptional items by virtue of their size and nature in order to reflect management's view of underlying performance.

5. Net debt and retail free cash flow exclude the impact of Tesco Bank in order to provide further analysis of the retail cash flow statement. Net debt also includes lease liabilities following the adoption of IFRS 16. Net debt excluding lease liabilities was £(3.0)bn, up £0.2bn since year-end.

6. Source: Kantar. The number of customers who became more loyal through COVID-19, shopping consistently with us between April and August.

7. Source: Kantar. Net switching data 12 w/e 17 May 2020 and 12 w/e 6 September 2020.

8. Retail EBITDA excludes the impact of Tesco Bank.

9. $10.6bn enterprise value, on a cash and debt free basis, presented in GBP using a rate of USD1.29:£1.00. This is based on the average daily closing rate from Monday 2 to Friday 6 March 2020.

10. Like-for-like is a measure of growth in Group online sales and sales from stores that have been open for at least a year (at constant exchange rates).

11. 'Adjusted Group PBT' measures exclude exceptional items, amortisation of acquired intangibles, net pension finance costs and fair value remeasurements of financial instruments.

12. Capex is shown excluding property buybacks. Statutory capital expenditure (including property buybacks) for the 26 weeks ended 29 August 2020 was £0.5bn (LY £0.4bn).

Our priorities in the half have been providing food for all, safety for everyone, supporting our colleagues and supporting our communities. Over this period, we have continued to make further good progress, creating long-term and sustainable value for our key stakeholders.

Customers

· Safety: quickly introduced series of social distancing measures in stores; c.90% of customers rating safety highly

· Price: 'Aldi Price Match' extended to over 500 Tesco and branded products; delivering consistent low prices on products and brands that customers buy every week

· Simpler shopping trip: improving customer visibility of our strong core value proposition, with fewer pack size variants, removal of unnecessary duplication from product ranges and fewer promotions

· Online: more than doubled capacity from 0.6m to 1.5m slots a week; first Urban Fulfilment Centre (UFC) in West Bromwich Extra now fulfilling orders as part of programme to open more than 25 over next three years

· Loyalty: extension of Clubcard Prices to c.2,000 products from September; Clubcard Plus subscriber base continues to grow, with basket size uplift exceeding expectations

· Booker: adapting retail offer to meet greater demand for grocery products; supporting catering customers to move to a delivery model; well-placed to emerge in a stronger competitive position

· Central Europe: completed strategic transformation to right-size all stores and simplify ranges across all markets

Colleagues

· Ensured full pay from day one for all colleagues sick or self-isolating with COVID-19

· 26,000 vulnerable colleagues supported with 12 weeks full pay as part of COVID-19 support measures

· Paid 10% bonus to all front line colleagues as a thank you for going above and beyond from 9 March to 30 May

· Created 16,000 new permanent roles in August to support the exceptional growth of our online business

· Creating 1,000 work placements for young people as a leading supporter of the 'Kickstart' programme

· Two mental wellbeing tools, Headspace and SilverCloud, made available for free to all our 300,000 UK colleagues

· Launched our first Business Diversity Internship in September

Supplier partners

· Collaborated across supply base to maintain availability and adapt to exceptional shift in demand due to COVID-19

· Supported farmers hardest hit by the closure of large parts of the food service industry, including selling white shell eggs and buying products such as chicken and potatoes originally planned for use in restaurants

· Moved to immediate payment of invoices for all small suppliers until January 2021

· Pilot partnership launched with Loop in July for online delivery of products using only reusable packaging 

· Committed to a 300% increase in sales of plant-based proteins by 2025

· Supplier viewpoint reached highest ever score of 79.5% (+6.7% pts YoY) 

Shareholders

· Interim dividend of 3.2p per share; set at 35% of last year's full year dividend, in line with policy

· Sale of Thailand and Malaysia businesses approved by shareholders in May, regulatory approval and completion of sale expected in 2H 2020; to be followed immediately by shareholder meeting to approve the return of capital

· Sale of Polish business to Salling Group A/S agreed in June for net cash proceeds of c.£165m; completion expected in Spring 2021; additional proceeds of c.£140m expected from the sale of residual properties in 2021; will contribute to over £0.5bn total cumulative proceeds from the sale of our loss-making Polish business

· Since outset of crisis, we have prioritised safety and colleague & customer welfare; we will continue to progress food waste and packaging reduction as part of our ongoing efforts to reduce our environmental footprint

We will continue to be guided by our four key priorities in response to the COVID-19 crisis: providing food for all, safety for everyone, supporting our colleagues and supporting our communities.

We are continuing to invest in delivering great value to help customers in increasingly challenging times and, as a result, expect a broadly even balance to the year in terms of 1H/2H retail profitability. Whilst significant uncertainties remain, we now expect retail operating profit in the current year to be at least the same level as 2019/20 on a continuing operations basis.

We continue to expect to report a loss for the Bank of between £(175)m and £(200)m for the 2020/21 financial year. We will review any changes made to macro-economic forecasts and this could result in releases from or further additions to the bad debt provision. Whilst headline profitability is impacted in the short term, the Bank's capital ratios and liquidity remain strong.

We will report our 3Q and Christmas Trading statement on Thursday 14 January 2021.

The results of our businesses in Thailand and Malaysia, and of our business in Poland, have been classified as discontinued operations following the announcements of their proposed sale (subject to regulatory clearances) on 9 March 2020 and 18 June 2020 respectively.

Sales: 

1. UK & ROI consists of Tesco UK, ROI and Booker.

2. Central Europe consists of Czech Republic, Hungary and Slovakia. Poland is now reported as a discontinued operation.

3. Sales change shown on a comparable days basis; based on statutory accounting dates, Group sales grew by 7.0% at constant exchange rates and grew by 6.8% at actual exchange rates.

Group sales grew by 6.6% at actual rates, including a (0.2)% foreign exchange translation impact due to the appreciation of Sterling. The COVID-19 crisis has had far reaching implications on customer shopping behaviour, impacting all areas of our business.

In the UK and the Republic of Ireland (ROI), total sales grew by 8.6%. In the UK, first quarter growth was particularly strong in essential categories such as grocery and household, as customers sought to stock up on key items ahead of COVID-19 lockdown restrictions and consumed more meals at home. During demand peaks, we worked very closely with our supplier partners to simplify ranges and protect availability of the most important products for customers. Whilst like-for-like sales growth eased slightly from the first to second quarter, we continued to see elevated demand across our food range, particularly in the meat, fish and poultry category and in beers, wines and spirits.

Growth in the half was most marked in online with sales up 69% with the rate of growth reaching 90% during the second quarter. Sales in our convenience business grew by 7.6% including a particularly strong performance in our Express and One Stop stores in neighbourhood locations. In large stores, sales grew by 1.4% as our offer was well placed to serve customers seeking to shop less frequently whilst buying more on each visit, with average basket size increasing by 56% and transactions reducing by (31)%.

More than one million customers became more loyal over the course of the half. As part of our programme to reward loyalty, last month we extended Clubcard Prices, giving Clubcard holders exclusive access to more special offers across the store every week. Whilst we have not sought to accelerate take up during the COVID-19 crisis, Clubcard Plus is now generating a basket size uplift three times higher than our original expectation. We continue to leverage the benefit of Clubcard Plus across our range of products and services, with new and upgrading Tesco Mobile pay monthly customers (on eligible plans) currently benefiting from a free six-month subscription.

We are continuing to invest in our value proposition, including the extension of our 'Aldi Price Match' campaign to over 500 products, including brands. We are also working with suppliers to improve the visibility of our proposition by simplifying ranges, removing pack size variants and reducing promotions. We have reduced promotional participation from 30% to 22% year-on-year whilst customer ratings of value have improved by 530 basis points.

Responding to the significantly increased demand, we rapidly grew our online business, more than doubling capacity to 1.5 million orders per week, allowing us to serve 674,000 vulnerable customers. To support this accelerated shift in customer demand, we extended picking hours, widened delivery windows and brought in additional colleagues on a temporary basis. In August, we converted 16,000 of these temporary roles into new permanent ones. Online grocery sales had grown from c.9% of total UK sales to over 16% by the end of the half.

Our first UFC (Urban Fulfilment Centre) in West Bromwich Extra is now delivering to customers, providing access to more online delivery slots at a time that suits them and helping us to build sustainably our grocery home shopping service. At full capacity, colleagues in the UFC will be able to increase their pick rate significantly compared to picking on the shop floor. The continued roll-out of this new technology will enable us to capture growth beyond our original ambition, with our second UFC opening in Lakeside Extra in 2021.

Booker sales grew by 11.0% in the half, including a c.9% contribution from Best Food Logistics which was acquired in early March. This included a strong performance in retail with sales up 22% as we supported our customers to broaden their grocery range. In catering, a period of closure for many of our customers saw sales decline by (12)% in the half. We have helped customers adapt their businesses to respond to the crisis, including those moving to a delivery and take-out model by supplying a complete offer in both food and consumables. As restaurants started to re-open in July, catering returned to growth and we maintained the stronger market share we had built up versus pre-COVID-19 levels. As well as supporting the Tesco online grocery business by providing more than 100,000 additional click & collect slots, Booker also supported over 1,000 care organisations and donated three million meals to those in need.

In ROI, sales grew by 16.3% at actual rates driven by a higher conversion of 'out of home' consumption and high customer confidence in our safety measures. Growth was particularly strong in large stores and in our market leading online grocery business.

In Central Europe, sales declined by (1.5)% at constant rates with positive growth in the first quarter reflecting increased demand for food during the COVID-19 lockdown period. In the second quarter, year-on-year performance weakened as we came out of lockdown and traded over one-off activity last year. After the completion of the strategic transformation, our stores are now better placed to serve our customers, with all stores right-sized and our ranges simplified.

Group statutory revenue of £28.7bn was 0.7% higher year-on-year and includes fuel sales of £2.1bn which declined by (42.0)% year-on-year. UK fuel sales declined by as much as (70)% in April as customers travelled significantly less due to COVID-19 lockdown restrictions before recovering to c.75% of pre-COVID-19 demand by the end of August.

Further information on sales performance is included in Appendices 1 to 3 starting on page 64 of this statement.

Operating profit before exceptional items and amortisation of acquired intangibles:

Group operating profit before exceptional items and amortisation of acquired intangibles was £1,037m, down (15.8)% at constant exchange rates and down (15.6)% at actual rates. Statutory operating profit of £1,007m includes the impact of exceptional items and amortisation of acquired intangibles, which are described in more detail below and in Note 3 on page 35 of this statement.

Retail operating profit before exceptional items and amortisation of acquired intangibles was £1,192m, up 4.4% year-on-year. UK & ROI operating profit before exceptional items and amortisation of acquired intangibles was £1,133m, up 6.4% year-on-year. Operating margin increased 19 basis points year-on-year with the margin impact of increased costs more than offset by a significant reduction in margin-dilutive fuel sales. The significant changes to our operations in response to COVID-19 led to a substantial increase in costs, mostly relating to payroll. In the UK, the most significant costs were the recruitment of 47,000 temporary colleagues to cover absence and meet increased demand and the provision of twelve weeks' paid leave to 26,000 vulnerable colleagues, whilst ensuring any colleague sick or self-isolating due to COVID-19 received full pay from day one. We also incurred costs in areas such as the provision of safety-related consumables and personal protective equipment, in addition to distribution. In total, COVID-19 related costs amounted to £(533)m for the half, principally offset by business rates relief of £249m and the contribution from higher than expected food sales. Our latest estimate for these costs for the full-year is c.£(725)m.

In March, we strengthened our value proposition with the launch of the 'Aldi Price Match' campaign. We extended this to more than 500 Tesco and branded products in July, delivering consistently low prices on even more products that customers buy every week. In addition, last month, we extended our Clubcard Prices initiative, whereby Clubcard holders are now able to access c.2,000 exclusive deals. Having made these meaningful price investments, we expect to make additional investments in the value proposition across the remainder of the year.

Booker profitability was impacted by the significant decline in catering sales, partially offset by a stronger contribution from our retail business and robust cost control. To minimise the overall profit impact of weaker demand in catering, we re-deployed colleagues from the Best Food Logistics business to support both the retail side of the Booker business and our online grocery shopping business as demand increased. In the half, we also merged our 'Chef Direct' business into the Best Food Logistics operations to further optimise network efficiency and improve service levels for customers.

Central European operating profit before exceptional items reduced by (23.4)% year-on-year, to £59m. Whilst we saw an underlying improvement in profitability, this was more than offset by a number of one-off impacts, primarily the incremental costs related to COVID-19 and a one-off reduction in income following temporary mall closures between March and May. We also incurred an £(11)m charge in the first half relating to a retail sales tax which was introduced in Hungary in May.

Tesco Bank made an operating loss before exceptional items of £(155)m, reflecting an increase in the provision for potential bad debts and reduced income. Please refer to page 11 of this statement for a fuller description of Tesco Bank performance.

Further information on operating profit performance is included in Note 2, starting on page 23 of this statement.

Exceptional items and amortisation of acquired intangibles in statutory operating profit:

Exceptional items are excluded from our headline performance measures by virtue of their size and nature in order to reflect management's view of the underlying performance of the Group. On a continuing operations basis, total exceptional items resulted in a credit of £8m, compared to a charge of £(135)m last year.

A credit of £105m relates to the refund of historical ATM business rates payments after a Supreme Court ruling in May determined that retailers should not be assessed for rates on ATMs installed in or outside stores. We expect to start receiving cash related to this refund from the second half of this year and in full by the end of the next financial year.

The charge of £(93)m relates to the settlement of two shareholder litigation claims during the period, with associated costs.

We have incurred a further £(2)m exceptional charge related to Booker integration costs, bringing costs to date to £(38)m.

Further detail on exceptional items can be found in Note 3, starting on page 35 of this statement.

Amortisation of acquired intangible assets is excluded from our headline performance measures. We incurred a charge of £(38)m in the half, a similar level to the prior year, which primarily relates to our merger with Booker in March 2018, which resulted in the recognition of goodwill of £3,093m and a £755m intangible asset.

Joint ventures and associates:

Our share of post-tax profits from joint ventures and associates before exceptional items was £13m, an improvement from losses of £(2)m last year. The year-on-year movement included the impact of the disposal of our associate in China, which incurred losses of £(6)m last year, as well as an increased contribution from Tesco Underwriting Ltd and joint ventures in our dunnhumby business.

Finance income and finance costs:

Net finance costs before exceptional charges, net pension finance costs and fair value remeasurements of financial instruments reduced by £21m year-on-year to £(333)m. This improvement was driven by a reduction in finance charges payable on lease liabilities primarily due to ongoing lease utilisation and the buyback of property, including a further five UK stores in the first half.

Net interest on medium term notes, loans and bonds was £(102)m, similar to last year. A reduction in interest payable following debt maturities, bond tenders and new issues at a significantly lower rate of interest was offset by new interest payments on long dated debt acquired as part of the acquisition of our partner's stake in the Tesco Atrato Limited Partnership in September 2019. This acquisition increased our freehold property ownership and borrowings, replacing associated right of use assets and lease liabilities.

A fair value remeasurement charge of £(108)m primarily related to the mark-to-market movement on inflation-linked swaps, driven by falling future inflation rates. These swaps eliminate the impact of future inflation on the Group's cash flow in relation to historical sale and leaseback property transactions.

Net pension finance costs decreased by £8m year-on-year, primarily due to a lower opening pension deficit. As previously indicated, for the full year, net pension finance costs are expected to be no more than c.£(55)m. The exact cost will depend on the timing of the one-off pension contribution of £2.5bn, agreed with the Trustees as part of the use of proceeds from the sale of our businesses in Thailand and Malaysia.

Further detail on finance income and costs can be found in Note 4 on page 37, as well as further detail on the exceptional charge in Note 3 on page 36.

Group tax:

Tax on Group profit before exceptional items and amortisation of acquired intangibles was £(129)m, £56m lower than last year primarily due to a tax credit related to Tesco Bank operating losses. This was partially offset by a one-off rate change impact from revaluing deferred tax from 17% to 19% following the Government's decision to repeal the reduction to the corporation tax rate, thereby maintaining the current tax rate of 19%.

The effective tax rate on profit before exceptional items and amortisation of acquired intangibles was 22.2%, higher than the UK statutory rate, primarily due to depreciation of assets that do not qualify for tax relief. We now expect an effective tax rate for 2020/21 of c.22% and continue to expect the effective tax rate to reduce to around 21% in the medium term. Further detail on Group tax can be found in Note 5 on page 37.

Earnings per share:

As described earlier, we do not consider the usual EPS measures to provide a meaningful reflection of performance in the first half. Adjusted diluted EPS of 5.75p (LY: 6.85p), which is our usual alternative performance measure, excludes earnings from our discontinued operations but does not take account of the share consolidation that is expected to take place following completion of the sale of our Asian businesses. Statutory EPS of 4.72p (LY: 3.34p) does include earnings from discontinued operations, however the year-on-year shape is distorted as no depreciation has been charged this year after the related assets were reclassified as 'held for sale' on the balance sheet.

Adjusted diluted EPS will be refined at the full year to reflect the post-consolidation share base as if it had been in place from the start of the previous financial year. The precise impact on the share base cannot be predicted now as it depends on the share price at the time of the consolidation. However, based on a share price of 213.2p (being the average share price for the five days to 2 October 2020), the number of shares in issue would reduce by c.(24)%. We can apply this reduction to the share base used for the interim measure to derive a 'Pro forma' Adjusted diluted EPS of 7.56p (LY: 9.01p), which we consider better reflects underlying performance in the half. 

Discontinued operations:

In March, we announced we had agreed to sell our businesses in Thailand and Malaysia to a combination of CP Group entities for an enterprise value of £8.2bn, on a cash and debt free basis. The sale received shareholder approval in May with regulatory approval and completion expected by the end of the calendar year. In June, we agreed the sale of our business in Poland to Salling Group A/S for net cash proceeds of c.£165m, with completion expected in Spring 2021. The performance of our Thailand, Malaysia and Poland businesses is classified as discontinued operations and is excluded from our headline performance measures.

In Asia, sales declined by (3.0)% at actual rates and by (2.9)% at constant rates driven by a reduction in footfall in hypermarkets and in discretionary spend categories such as clothing, despite a short period of stockpiling of food and groceries early in the first quarter. Sales in Poland declined by (38.3)% at actual rates and by (36.8)% at constant rates, driven by the continued impact from the right-sizing of our hypermarkets, closure of stores and transition to a two format model.

Operating profit before exceptional items for discontinued operations increased to £265m, up 49.7%, as depreciation was charged last year but is no longer chargeable in the current year as the assets are classified as held for sale. Before this impact, the effect of temporary mall closures due to COVID-19 restrictions resulted in a decline in profitability.

Within discontinued operations, total exceptional items in the half were £(140)m, which includes a £(43)m net loss on re-measurement of assets in our business in Poland prior to being classified as held for sale, and a provision for a legal claim of £(86)m, relating to the sale of Homeplus in 2015.

The total profit after tax of discontinued operations was £68m, up £39m on last year.

Further information on discontinued operations is included in Note 6, starting on page 38.  

Dividend:

The interim dividend has been set at 3.20 pence per ordinary share, 20.8% higher year-on-year, in line with our policy of setting our interim dividend at 35% of the prior year full-year dividend. The interim dividend was approved by the Board of Directors on 6 October 2020. As previously announced, we expect to maintain a full year dividend pay-out ratio of 50% going forward.

The interim dividend will be paid on 27 November 2020 to shareholders who are on the register of members at close of business on 16 October 2020 (the Record Date). Shareholders may elect to reinvest their dividend in the Dividend Reinvestment Plan (DRIP). The last date for receipt of DRIP elections and revocations will be 6 November 2020.

Summary of total indebtedness:

Overall, total indebtedness has increased by £(982)m since the year-end, primarily due to a £(742)m increase in the IAS 19 pension deficit. This was largely driven by a reduction in the discount rate, partially offset by an increase in assets. The IAS 19 pension deficit is separate to our funding deficit and does not drive contributions made to the pension scheme.

We have agreed the actuarial pension valuation as at 31 December 2019 with the Tesco plc Trustee at a deficit of £(2.2)bn. This is subject to the completion of the sale of our businesses in Thailand and Malaysia and is before the payment of the £2.5bn one-off contribution to the Scheme.  This payment will eliminate the actuarial deficit as at that date and significantly reduce the prospect of having to make further pension deficit contributions in the future. Further information on the Group's pension liability is available in Note 18 which begins on page 52.

On a continuing operations basis, lease liabilities increased by £(25)m since the year-end, driven by lease additions, including those acquired with the Best Food Logistics business, partially offset by capital repayments made in the period and the benefit from buying back five stores in the UK.

We have retained a strong cash position with a total of £2.0bn of cash liquidity at the end of the half, having completed the early redemption of a €0.2bn Euro bond, due in November 2020.  In addition, we recently re-financed our committed facilities at £2.5bn for a further three years, securing access to additional liquidity. The rate of interest payable on utilisation of these facilities will be linked to the achievement of three ESG targets.  Additionally, the new facility is the first syndicated loan transaction in the UK that uses Risk Free Rates (RFR) for sterling and dollars rather than LIBOR.

Our fixed charge cover further improved since the year-end, from 3.1 to 3.2 times, principally driven by a reduction in lease payments and an increase in retail EBITDA. Our retail EBITDA measure is based only on the continuing operations, and therefore excludes the earnings from our businesses in Thailand, Malaysia and Poland.

Our total indebtedness ratio of 4.0 times in these half-year accounts is heavily distorted by the timing of the sale of our businesses in Thailand and Malaysia, given that it includes the net debt related to our discontinued operations but not the earnings. It also does not yet take account of the benefit of the anticipated proceeds, including the expected elimination of our pension funding deficit.

The increase in the reported total indebtedness ratio since the year-end is driven by the increase in the IAS 19 pension deficit described above.

Summary retail cash flow:

The following table reconciles Group operating profit before exceptional items and amortisation of acquired intangibles to retail free cash flow. Further details are included in Note 2, starting on page 29.

Retail free cash flow decreased by £(91)m year-on-year to £554m. Excluding an increased level of store buybacks and a reduction in property proceeds, retail free cash flow was stable year-on-year.

We benefited from a working capital inflow of £170m in the first half, primarily driven by an increase in food purchases and lower levels of promotional activity. These favourable working capital movements were offset by a c.£(100)m impact from significantly lower fuel purchases.

Interest paid related to net debt (exc. lease liabilities) of £(91)m reduced by £28m year-on-year due to bonds maturing and being re-financed at a lower rate of interest and the effect of bond buybacks in the prior year.

Cash tax paid was similar to last year. Following changes to the timing of UK corporation tax payments, we had two additional quarterly payments in the half. This, in combination with a payment with respect to the refund of ATM business rates, offset a tax credit on Bank losses and a tax deduction of £60m relating to the anticipated pension contribution which will be made following the sale of our Asian businesses.

We utilised £(148)m of cash to buy back four Superstores and one Express store in the UK, which will result in an annual cash rental saving of £9m. Following the half year-end, we also acquired our partner's share in the Sparta joint venture bringing back into 100% ownership twelve stores and two distribution centres at a cost of £54m and removing rental payments which were subject to fixed uplifts each year. We continue to evaluate store buyback opportunities on an individual lease basis and will use capital for this purpose where it is economically attractive.

We purchased £79m of shares in the market to offset dilution from the issuance of new shares to satisfy the requirements of share schemes. This was £27m higher than the prior year due to the timing of share purchases. We now expect to utilise c.£100m for the full year, with the precise amount depending on performance and market conditions.

Capital expenditure and space1:

1. 'Retail Selling Space' is defined as net space in store adjusted to exclude checkouts, space behind checkouts, customer service desks and customer toilets. Appendix 6 (p.67) provides a full breakdown of space by segment.

Capital expenditure shown in the table above reflects expenditure on ongoing business activities across the Group.

Our capital expenditure for the half was £374m, £48m higher year-on-year, primarily due to higher spend on both in-store maintenance and technology. We expect full year capital expenditure to be in the middle of our £0.9bn to £1.2bn guidance range.

Statutory capital expenditure of £0.5bn includes £0.1bn relating to the buyback of five UK stores referred to above.

Further details of current and forecast space can be found in Appendix 6 starting on page 66.

Tesco Bank:

The COVID-19 crisis had a material impact on performance across the Bank including a reduced level of new business in loans and credit cards, lower unsecured lending and credit card retail balances, and significantly lower ATM and travel money income.

In addition, a marked deterioration in macro-economic indicators, particularly UK unemployment and GDP, drove an increase in the provision for potential bad debts. This, in combination with the reduction in income, resulted in an operating loss of £(155)m in the half compared to a profit in the first half of the prior year of £87m.

We continue to expect to report a loss for the Bank of between £(175)m and £(200)m for the 2020/21 financial year.

Lending to customers declined by (41.2)% and customer deposit balances declined by (33.0)%, driven by the sale of our mortgage portfolio in September 2019. The sale also contributed to the improvement of the Bank's capital position with the total capital ratio increasing to 24.3%, an improvement of 5.9% pts year-on-year. The balance sheet remains strong and capital adequacy is regularly assessed.

We took action to support our customers through this period by offering loan and credit card payment breaks to the end of October 2020. In addition, we increased contactless payment limits to allow more customers to shop safely, removed administration fees to allow insurance customers to change or cancel policies, reduced overdraft fees and removed fees related to early access to savings accounts. Our Pay+ app allows contactless payments of up to £250 and we now have over one million users.

An income statement for Tesco Bank can be found in Appendix 7 on page 69 of this statement. Balance sheet and cash flow detail for Tesco Bank can be found within Note 2 starting on page 25 of this statement. Tesco Bank's half year results are also published today and are available at www.corporate.tescobank.com.

This document is available at www.tescoplc.com/interims2020. 

A live webcast will be held today at 9.00am for investors and analysts and will be available on our website at www.tescoplc.com/interims2020. This will include all Q&A and will also be available for playback after the event. All presentation materials, including a transcript, will be made available on our website.

Additional Disclosures

Principal Risks and Uncertainties

As with any business, effective risk management and controls are critical to successfully achieving the Group's strategy. Tesco has an established risk management process to identify, assess and monitor the principal risks faced by the business. A robust review of those risks that the Group believe could seriously affect its performance, future prospects, reputation or its ability to deliver against its priorities, is performed on a regular basis. This review includes an assessment of emerging and principal risks we believe would threaten the Group's business model, future performance, solvency or liquidity. The Tesco Board has overall responsibility for risk management and internal controls within the context of achieving the Group's objectives. At the Group level each principal risk has an Executive Owner. The Group Chief Executive has overall accountability for the control and management of risk.

The principal risks and uncertainties faced by the Group remain those as set out on pages 13 to 18 of our Annual Report and Financial Statements 2020: customer; transformation; liquidity; competition and markets; brand, reputation and trust; technology; data security and data privacy; political, regulatory and compliance; health and safety; people; responsible sourcing and supply chain; Brexit; Tesco Bank and COVID-19 (COVID-19 was included as a new principal risk in the Annual Report and Financial Statements 2020). In addition, the risk factors in relation to the disposal of the Asia Business were set out in the circular sent to shareholders on 22 April 2020. There have been no significant changes to the description of the principal risks, key controls and mitigating factors currently expected for the remaining six months of the year.

As previously reported on page 140 of the Tesco PLC Annual Report and Financial Statements 2020, in 2016 the Group received high court claims against Tesco PLC for matters arising out of or in connection with the overstatement of expected profits announced in 2014. These claims were settled in July and August 2020. As a result of the settlement and associated legal costs, Tesco has taken a one-off charge in the amount of £93 million. Two further claimant law firms issued proceedings against the Group in September 2020 in respect of the same matters. The merit, likely outcome and potential impact on the Group of any further litigation that might potentially be brought against the Group is subject to a number of significant uncertainties and, therefore, the Group cannot make any assessment of the likely outcome or quantum of any such litigation as at 29 August 2020. There are substantial legal and factual defences to these claims and the Group will vigorously defend any further proceedings. Further details relating to this matter and the Group's other contingent liabilities can be found in Note 22, on page 57.

Statement of Directors' Responsibilities

The Directors are responsible for preparing the Interim Results for the 26 week period ended 29 August 2020 in accordance with applicable law, regulations and accounting standards. Each of the Directors confirm that to the best of their knowledge the condensed consolidated interim financial statements have been prepared in accordance with IAS 34: 'Interim Financial Reporting', as adopted by the European Union and that the interim management report includes a true and fair review of the information required by DTR 4.2.7R and DTR 4.2.8R, namely:

· an indication of the important events that have occurred during the first 26 weeks of the financial year and their impact on the condensed consolidated interim financial statements, and a description of the principal risks and uncertainties for the remainder of the financial year; and

· material related party transactions in the first 26 weeks of the year and any material changes in the related party transactions described in the last annual report.

The Directors of Tesco PLC are listed on pages 27 to 30 of the Tesco PLC Annual Report and Financial Statements 2020. As announced on 2 October 2019, Dave Lewis resigned from the Board with effect from 30 September 2020 and Ken Murphy joined the Board on 1 October 2020 as Group Chief Executive. Further to the announcement on 2 June 2020 that Alan Stewart has decided to retire and will leave the Board on 30 April 2021, Imran Nawaz will join the Board as Chief Financial Officer in April 2021.

A list of current directors is maintained on the Tesco PLC website at: www.tescoplc.com.

By order of the Board

Directors

John Allan* - Chairman

Ken Murphy - Group Chief Executive

Alan Stewart - Chief Financial Officer

Deanna Oppenheimer*- Senior Independent Director

Mark Armour*

Melissa Bethell*

Stewart Gilliland*

Steve Golsby*

Byron Grote*

Mikael Olsson*

Simon Patterson*

Alison Platt*

Lindsey Pownall*

*Non-executive Directors

Robert Welch, Company Secretary

6 October 2020

Certain statements made in this document are forward-looking statements. For example, statements regarding expected revenue growth and operating margins, market trends and our product pipeline are forward-looking statements. Phrases such as "aim", "plan", "intend", "should", "anticipate", "well-placed", "believe", "estimate", "expect", "target", "consider" and similar expressions are generally intended to identify forward-looking statements. Forward looking statements are based on current expectations and assumptions and are subject to a number of known and unknown risks, uncertainties and other important factors that could cause actual results or events to differ materially from what is expressed or implied by those statements. Many factors may cause actual results, performance or achievements of Tesco to be materially different from any future results, performance or achievements expressed or implied by the forward-looking statements. Important factors that could cause actual results, performance or achievements of Tesco to differ materially from the expectations of Tesco include, among other things, general business and economic conditions globally, industry trends, competition, changes in government and other regulation and policy, including in relation to the environment, health and safety and taxation, labour relations and work stoppages, interest rates and currency fluctuations, changes in its business strategy, political and economic uncertainty, including as a result of global pandemics. As such, undue reliance should not be placed on forward-looking statements. Any forward-looking statement is based on information available to Tesco as of the date of the statement. All written or oral forward-looking statements attributable to Tesco are qualified by this caution. Other than in accordance with legal and regulatory obligations, Tesco undertakes no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise.

The notes on pages 22 to 57 form part of this condensed consolidated financial information.

(a) Comparatives have been restated to present Thailand, Malaysia and Poland as discontinued operations. Refer to Note 6 for further details.

(b) Impairment (loss)/reversal on financial assets comparatives have been presented separately from Cost of sales. Refer to Note 1 for further details.

The notes on pages 22 to 57 form part of this condensed consolidated financial information.

* Comparatives have been restated to present Thailand, Malaysia and Poland as discontinued operations. Refer to Note 6 for further details.

The notes on pages 22 to 57 form part of this condensed consolidated financial information.

* Refer to Note 1 for further details regarding the prior year restatement.

These unaudited condensed consolidated interim financial statements for the 26 weeks ended 29 August 2020 were approved by the Board on 6 October 2020.

The notes on pages 22 to 57 form part of this condensed consolidated financial information.

* Refer to Note 1 for further details regarding the prior year restatement.

The notes on pages 22 to 57 form part of this condensed consolidated financial information.

* Refer to Note 1 for further details regarding the prior year restatement.

The notes on pages 22 to 57 form part of this condensed consolidated financial information.

* Comparatives have been restated to present Thailand, Malaysia and Poland as discontinued operations. Refer to Note 6 for further details.

The notes on pages 22 to 57 form part of this condensed consolidated financial information.

These unaudited condensed consolidated interim financial statements have been prepared in accordance with the Disclosure Guidance and Transparency Rules of the UK Financial Conduct Authority, and with IAS 34 'Interim Financial Reporting', as adopted by the European Union. Unless otherwise stated, the accounting policies applied, and the judgements, estimates and assumptions made in applying these policies, are consistent with those used in preparing the Annual Report and Financial Statements 2020. The financial period represents the 26 weeks ended 29 August 2020 (prior financial period 26 weeks ended 24 August 2019, prior financial year 53 weeks ended 29 February 2020).

These condensed consolidated interim financial statements for the current period and prior financial periods do not constitute statutory accounts as defined in section 434 of the Companies Act 2006. A copy of the statutory accounts for the prior financial year has been filed with the Registrar of Companies. The auditor's report on those accounts was not qualified, did not include a reference to any matters to which the auditor drew attention by way of emphasis without qualifying the report and did not contain statements under section 498(2) or (3) of the Companies Act 2006.

The Directors consider that the Group has adequate resources to continue in operational existence for the foreseeable future and have therefore continued to adopt the going concern basis in preparing the condensed consolidated interim financial statements. The Directors have considered the impact of COVID-19 on the Group's operations, as set out in further detail in the Financial results, and have concluded that there are no material uncertainties relating to going concern. Further information on the Group's strong liquidity position is given in the Financial results, Summary of total indebtedness section.

Discontinued operations

During the period, the Board approved plans to dispose of the Group's operations in Thailand, Malaysia and Poland. The net results for the year are presented as discontinued operations in the Group income statement (for which the comparatives have been restated) and the assets and liabilities of the businesses are presented separately in the Group balance sheet as held for sale. See Note 6 for further details.

Income statement presentation

The Group now presents 'Impairment (loss)/reversal on financial assets' on a separate line on the face of the Group income statement, following a significant increase in expected credit losses in Tesco Bank in the period. Prior period comparatives have been reclassified. For further details, see the Financial results and Note 17, Financial instruments.

Prior year restatement

The consolidated financial statements include a prior year restatement in relation to the original accounting for deferred tax and the associated goodwill recognised on the business combination of three property partnerships in 2015/16. A reassessment of tax-related information from 2005 has identified a material difference in deferred tax. The Group has corrected this as a prior year error, as it concluded this information should reasonably have been available in 2016. The impact in both the 29 February 2020 and 24 August 2019 balance sheets is to increase deferred tax assets by £157m (being a reduction in UK deferred tax liabilities) and reduce goodwill by £41m with a corresponding net £116m increase in net assets and retained earnings. There is no impact on the comparative period income statement or cash flow statement.

Accounting policies

The Group has adopted the 'Definition of a business' amendment to IFRS 3, 'Business combinations' in the current financial year, and has applied its guidance when evaluating whether acquisitions in the period are asset acquisitions or business combinations. The Group has elected not to apply the exemption granted in the 'COVID-19-related rent concessions' amendment to IFRS 16, 'Leases', once it is EU-endorsed, as the Group has not received material COVID-19-related rent concessions as a lessee.

On 1 March 2020, the Group's portfolio of debt instrument investments measured at fair value through comprehensive income was reclassified to investment securities at amortised cost, measured using the effective interest rate method less allowance for expected credit losses. This was following a change in business model to hold these debt instrument investments for the collection of contractual cash flows only. In the prior period, gains and losses arising from changes in fair value were recognised directly in other comprehensive income, except for impairment gains or losses, interest income and foreign exchange gains and losses, which were recognised in the Group income statement.

Key sources of estimation uncertainty

In light of the impact of COVID-19 on the Group's operations and performance, as set out in more detail in the Financial results, the Group has provided additional information on COVID-19 and key sources of estimation uncertainty as follows:

· Note 12, Impairment of non-current assets

· Note 17, Financial instruments

· Note 18, Post-employment benefits

 Alternative performance measures (APMs)

In the reporting of financial information, the Directors have adopted various APMs. Refer to the Glossary for a full list of the Group's APMs, including comprehensive definitions, their purpose, reconciliations to IFRS measures and details of any changes to APMs.

The Group's operating segments are determined based on the Group's internal reporting to the Chief Operating Decision Maker (CODM). The CODM has been determined to be the Group Chief Executive, with support from the Executive Committee, as the function primarily responsible for the allocation of resources to segments and assessment of performance of the segments.

On 9 March 2020, the Group announced that it had reached agreement on the terms of a proposed sale of its operations in Thailand and Malaysia (previously reported in the Asia segment), and on 18 June 2020, the Group announced that it had agreed the terms of the proposed sale of its business in Poland (previously reported in the Central Europe segment). Accordingly, these operations have been treated as discontinued as described in more detail in Notes 1 and 6. The segment results do not include these discontinued operations and intercompany recharges previously reported between continuing and discontinued operations have been eliminated in both the current and prior period.

Following the presentation of the Group's operations in Thailand and Malaysia as discontinued operations, the Group no longer presents Asia as a separate reportable segment. The remaining operations previously reported within the Asia segment, which consist of our Trent Hypermarket joint venture, have been reclassified to the UK & ROI segment. The comparatives for UK & ROI have also been reclassified to include the China associate Gain Land, which the Group sold on 28 February 2020 and which was previously included within the Asia segment. The Group has reclassified £6m of operating costs before exceptional items and amortisation of acquired intangibles, and £47m of exceptional impairment charges to the UK & ROI segment income statement for the 26 weeks ended 24 August 2019. The Group has also reclassified £59m of investments in joint ventures and associates as at 29 February 2020 (24 August 2019: £307m), and £22m of current tax assets as at 29 February 2020 (24 August 2019: £nil) to the UK & ROI segment balance sheets.

The principal activities of the Group are therefore presented in the following segments:

· Retailing and associated activities (Retail) in:

- UK & ROI - the United Kingdom, Republic of Ireland, and Indian joint venture Trent Hypermarket; and

- Central Europe - Czech Republic, Hungary and Slovakia.

· Retail banking and insurance services through Tesco Bank in the UK (Tesco Bank).

This presentation reflects how the Group's operating performance is reviewed internally by management.

The CODM uses operating profit before exceptional items and amortisation of acquired intangibles, as reviewed at monthly Executive Committee meetings, as the key measure of the segments' results as it reflects the segments' underlying performance for the financial period under evaluation. Operating profit before exceptional items and amortisation of acquired intangibles is a consistent measure within the Group as defined within the Glossary. Refer to Note 3 for exceptional items and amortisation of acquired intangibles. Inter-segment revenue between the operating segments is not material.

Income statement

The segment results and the reconciliation of the segment measures to the respective statutory items included in the Group income statement are as follows:

Tesco Bank revenue of £386m (26 weeks ended 24 August 2019: £562m) comprises interest and similar revenues of £292m (26 weeks ended 24 August 2019: £379m) and fees and commissions revenue of £94m (26 weeks ended 24 August 2019: £183m).

Balance sheet

The following tables showing segment assets and liabilities exclude those balances that make up net debt (cash and cash equivalents, short-term investments, joint venture loans and other receivables, bank and other borrowings, lease liabilities, derivative financial instruments and net debt of the disposal group). With the exception of lease liabilities which have been allocated to each segment, all other components of net debt have been included within the unallocated segment to reflect how the Group manages these balances. Intercompany transactions have been eliminated other than intercompany transactions with Tesco Bank in net debt.