As Sainsbury’s makes a surprise upgrade to its profit forecast, could this be comeback season for supermarkets?

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Clive Black, director and head of research at Shore Capital, says Yes

To say that the British supermarket scene has been through the “perfect storm” is to understate the size of the waves. Sales fell, margins collapsed, earnings imploded and dividends were cut.

The surprise Sainsbury’s upgrade in market expectations is a welcome boost to sentiment, as Mike Coupe’s business toughs it out well. It is too early to say that the sector is entering calmer waters.

However, if the pricing environment settles, then this could be an inflexion point. Rising real incomes, aided by the national living wage and a growing population, could drive sales through a national superstore estate which is barely growing.

Simple economics suggests that rising demand and stable supply makes for better margins. While there is no quick fix, superstore sales densities could rise, which would lead to positive operational gearing and prodigious free cash generation.

We shouldn’t go overboard just yet, but it may be wise to keep eyes peeled for more encouraging signs in future.

Jamie Forbes Wilson, fund manager of Axa Framlington Blue Chip Equity Income fund, says No

The supermarket sector, characterised by intense competition, is now facing a number of structural challenges.

Over-investment during the “space race”; cannibalising hypermarket sales through the growth of convenience; the rise of online shopping; and the proliferation of the discounters are just a few of the headwinds the sector has to overcome.

Dividends have been cut, and disposals made, and it is likely that some balance sheets may require fresh shareholder funds. Although the sector has already reset margin expectations, over-capacity will limit the benefits of modest volume growth in UK sales.

The market is aware of these challenges, and share prices have dropped dramatically already.

What is now required is a culling of uneconomic out-of-town superstores, like in the DIY sector. But it is likely that none will get the ball rolling, or admit defeat. Until that happens, in my opinion, the sector remains uninvestable.

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