UK's Sainsbury's sees tougher end to year after first half profit falls

By James Davey

LONDON (Reuters) - British supermarket Sainsbury's warned that higher staff wages and its price battle with rivals would mean a tougher end to the year after first half profit fell by 10 percent.

Sainsbury's is a distant second behind market leader Tesco in a sector which has been shaken by growing competition from German discounters Aldi and Lidl.

Seeking to expand further beyond food and household staples, it bought Home Retail, owner of the Argos chain for 1.1 billion pounds ($1.4 billion) in September.

Some investors have expressed concern the Argos takeover unwisely increases Sainsbury's exposure to higher import costs due to the weaker pound but Chief Executive Mike Coupe dismissed those fears, saying he was "more confident than ever" about the acquisition's prospects.

However, conditions in the core supermarket business remain difficult and Sainsbury's is also having to absorb higher costs as it responds to new national minimum wage levels.

Coupe said the market remained intensely competitive, with pricing pressure squeezing margins. But he said the full impact of the post Brexit vote devaluation of sterling on retail prices was as yet uncertain.

"Broadly speaking so far you haven't seen any significant inflation with the exception of fuel," he told reporters.

Sainsbury's said its full year underlying profit expectation for the enlarged group remains in line with the market consensus of 573 million pounds.

But it expects second-half profit to be lower than the first half if Argos is excluded. Argos's second half profit contribution was forecast at 55-75 million pounds.

Coupe said that forecast for a weaker second half reflected a 4 percent pay rise to shop staff and "a hangover" from price cuts made earlier in the year.

Sainsbury's is Britain's second biggest private sector employer with 195,000 staff.

Sainsbury's made an underlying pretax profit of 277 million pounds for the 28 weeks to Sept. 24, down from 308 million pounds in the same period last year, hurt by a 1 percent fall in underlying sales that partly reflected its own price cuts.

Shares in Sainsbury's were down 5 percent at 1037 GMT.

"This means further year-on-year margin decline in H2," said Bernstein analyst Bruno Monteyne, who rates Sainsbury's "outperform".

Sainsbury's also said it was on track to achieve its 500 million pounds cost savings target by 2017-18 and set a new three-year target for savings of the same magnitude from 2018-19.

While Sainsbury's has proved more resilient than others to the rise of the discounters, it has still reported two consecutive years of annual profit decline.

Sainsbury's, whose net debt reduced to 1.3 billion pounds, maintained its interim dividend of 3.6 pence. But it said its pension deficit had increased by 674 million pounds since March to 1.06 billion pounds.

($1 = 0.8041 pounds)

(Editing by Keith Weir)