By James Davey

LONDON (Reuters) - Britain's largest supermarket Tesco (L:TSCO) bucked a grim start to the year for the retail sector with a 28 percent surge in annual profit, underlining Chief Executive Dave Lewis' recovery strategy of lower prices and streamlined product ranges.

Shares in Tesco rose as much as 6.3 percent on Wednesday after it confirmed its medium-term savings and profit targets and said the integration of wholesaler Booker, purchased for 4 billion pounds ($5.7 billion) last month, was well underway.

The deal will see Tesco expand to provide food to restaurants, bars and smaller grocers, while some 200 million pounds of annual synergies are targeted within three years.

Tesco's results provided some cheer after Britain's brutal trading conditions plunged Toys R Us UK, electricals group Maplin and drinks wholesaler Conviviality into administration and forced fashion retailer New Look and floor coverings firm Carpetright to close stores.

Tesco remains the largest of Britain's supermarkets by a clear margin, having a market share of 27.6 percent, according to the latest industry figures. It is also the fastest growing of Britain's "big four" along with No. 4 Morrisons (L:MRW).

Tesco made an operating profit of 1.644 billion pounds in the year to Feb. 24 - versus guidance of "at least" 1.575 billion pounds and 1.28 billion pounds made in 2016-17.

Group sales rose 2.3 percent to 51 billion pounds.

The outcome was helped by a strong end to the year in its home market, with fourth quarter like-for-like sales up 2.3 percent - a ninth straight quarter of growth.


"With three years under our belt Tesco is growing again, recovering profitability and generating significant cash," Lewis told reporters.

"The merger with Booker allows us to build on this trajectory."

Lewis led Tesco's fightback after sales and profits were hammered by changing shopping habits, the rise of German discounters Aldi and Lidl and a 2014 accounting scandal which plunged the retailer into the worst crisis in its near 100-year history.

Lewis, who joined shortly before the accounting scandal was uncovered, first stabilised Tesco, then got it growing with a focus on more competitive prices, streamlined product ranges, better customer service and much improved supplier relationships.

The Booker purchase is his boldest move yet, providing Tesco with access to the faster growing catering segment of Britain's 200 billion pound grocery market.

The group, which competes with Sainsbury's (L:SBRY), Walmart's Asda (N:WMT) and Morrisons, said it was firmly on track to deliver its medium-term targets which include cost savings of 1.5 billion pounds and earning between 3.5 pence and 4 pence of operating profit for every pound customers spend by 2019-20. It had a margin of 2.9 percent in 2017-18.

Bernstein analyst Bruno Monteyne, who has an "outperform" rating on the stock, said Tesco could now achieve the margin target one year early.

Tesco also said it will place an increasing focus on cash generation and "sustainable returns to shareholders", raising the prospect of share buy-backs and special dividends.

The group is paying a final dividend of 2 pence, giving a full-year payout of 3 pence. The interim dividend in October was its first in three years.

Tesco's shares have risen 13 percent over the last year and are close to a three-year high. However, they remain below the 230 pence they were at when Lewis joined in September 2014.

That reflects caution among some investors about the ongoing challenge of the discounters and online players.

"Whilst we take some comfort from what it is we have done, we are very clear that there's more to do," said Lewis.


"It's definitely not job done."