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UPDATE 4-Tesco sales surge but COVID costs wipe out fifth of pretax profit

* Sales up, profit hit by pandemic costs

* Online sales jump

* Pandemic cost Tesco 892 mln stg in UK

* Shares fall 3% (Adds analyst reaction, further CEO comments)

LONDON, April 14 (Reuters) - Tesco, Britain’s biggest retailer, reported a 20% drop in full-year pretax profit as the cost of adapting the business for the pandemic wiped out the benefit of “exceptionally strong” grocery sales.

With restaurants and cafes shut for large parts of the last 12 months, supermarkets saw a surge in demand online and in stores as shoppers stocked up on food during lockdowns.

“Everything about this last year has been exceptional,” Chief Executive Ken Murphy told reporters on Wednesday. “We were the quickest out of the blocks to respond to the pandemic.”

He said customers shopped a third less frequently, but their baskets were about 50% bigger.

Online sales, where Tesco has 35% of the market, surged 77% to 6.3 billion pounds ($8.7 billion) in Britain, with click and collect accounting for a quarter of online orders by year end.

“It’s quite phenomenal to think that a business can literally double the number of online slots to 1.5 million (per week) in a matter of weeks,” Murphy said.

Tesco took on nearly 50,000 temporary staff to cope with the higher demand and cover self-isolating workers, while it also had to adapt its stores and online picking for social distancing.

The changes cost 892 million pounds in Britain alone, with around a quarter of the extra spend expected to recur this year.

Group revenue excluding fuel rose 7% to 53.4 billion pounds, but pretax profit fell 19.7% to 825 million pounds. At a retail operating level, profit of 1.99 billion pounds beat forecasts.

Shares in Tesco fell 3%, the worst performer on the FTSE 100 as the retailer said uncertainty around a recovery made it difficult to predict the year ahead.

It said its best estimate was for retail operating profit to recover to a similar level as in 2019/20, the year before the pandemic.

UBS said that result would be about 4%, or 100 million pounds, lighter than consensus expectations.

CUSTOMERS CHANGE

Murphy said the pandemic had shown that Tesco was an agile business.

Online volumes would “contract somewhat” as more customers returned to stores but productivity would continue to improve, he said, adding that online was profitable when given its full allocation of fixed costs.

Other pandemic changes set to stay included more convenience food in neighbourhood stores versus those in city centres to cater for customers continuing to work more from home, he said.

“There will undoubtedly be a greater importance of digital and virtual in the future, but we think that stores will continue to be the backbone of our business.”

The combination of large stores and a full online offer has helped Tesco and its major UK rivals Sainsbury’s, Asda and Morrisons regain some ground lost to discounters Aldi and Lidl, industry data has shown.

Customers making fewer trips in the pandemic have wanted larger ranges and more space to shop.

Tesco reported a 6.3% rise in group like-for-like sales, including a 7.7% lift in its core British market.

It proposed a full-year dividend in line with last year.

$1 = 0.7257 pounds Editing by Hugh Lawson, Kirsten Donovan

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