Food price inflation would increase to 3-4 per cent from about 2 per cent last year, because of the devaluation of sterling - which makes imports more expensive - and the absence of the bumper harvest that depressed produce prices last summer.
Mr Sainsbury, who owns pounds 1.6bn of shares in the company, denied that Sainsbury was profiteering, although he conceded that the group's operating margins had widened again - from 8 per cent to 8.46 per cent.
Reporting his first annual results as chairman and chief executive, Mr Sainsbury said: 'Our shopping basket survey now shows us to be 21 2 per cent cheaper than the average for large supermarket retailers. We have either maintained or improved our price position against all our major competitors except Asda.'
The Office of Fair Trading keeps a close watch on supermarket prices but has resisted demands to refer the industry to the Monopolies and Mergers Commission.
Sainsbury's market share rose from 10.6 per cent to 11.3 per cent, lengthening its lead over the number two, Tesco, which grew from 9.8 per cent to 10 per cent. Argyll, owner of Safeway, grew from 6.7 per cent to 7 per cent. The market definition includes grocers, off-licences and chemists.
Sainsbury shares were marked down 14p to 467p because the results were at the bottom end of forecasts. Some analysts had predicted pounds 740m or more. There were also worries about the US subsidiary Shaw's, whose operating profits fell 12 per cent to dollars 31.5m.
Excluding the benefit of the rights issue and property items, profits grew a real 12.2 per cent, the second-best performance of the past five years.
Sainsbury looks set to keep its title of Britain's most profitable retailer - won from Marks & Spencer last year - although M&S is expected to come very close when it reports next week.
Sainsbury's total sales, including revenues from Shaw's and the Homebase stores, grew by 11.6 per cent to pounds 10.2bn. After stripping out the benefit of new store openings and inflation, like-for-like sales volumes grew by 1.3 per cent. However, there was an improvement in the two halves - from 0.7 per cent to 1.9 per cent.
Customers were still trading up to higher-value items in real terms. Strong sellers were fish, poultry, toiletries and other non-food items, including the newly launched own-label detergent Novon.
Mr Sainsbury played down worries about discount supermarkets. Limited assortment discounters like Aldi and Netto had little impact on Sainsbury stores. The economics of broader range discounters like Asda- owned Dales and Isosceles-owned Food Giant were very marginal. 'Recent retail history is scattered with the dead bones of failed discounters such as Dee Discount, Shoppers' Paradise and Victor Value,' he said.
Warehouse clubs were an untested formula and there was limited scope for them in the UK, he said.
Sainsbury opened 23 new superstores last year and plans a similar number this year, as part of an pounds 800m capital spending programme. The 100 stores of less than 20,000 sq ft were all candidates for replacement, Mr Sainsbury said. Savacentre, the larger food and clothing hypermarkets, lifted sales by 12 per cent to pounds 609m and operating profits by 28 per cent.
Homebase, the DIY chain, lifted sales by 10 per cent to pounds 283m and operating profits by 16 per cent to pounds 17.8m. Mr Sainsbury said it would not be interested in acquiring Do It All, the troubled rival owned by Boots and WH Smith.
A final dividend of 7.3p makes a total of 10p, up 14 per cent. That will yield Mr Sainsbury and his charitable trusts a payout of pounds 34.3m. Under the profit-sharing scheme 82,000 UK staff will share pounds 58.6m, equivalent to up to five weeks' pay each.
David Shriver, an analyst with NatWest Securities, reduced his current-year profits forecast from pounds 850m to pounds 835m because of Sainsbury's higher proportion of dollar denominated debt. Otherwise the results were excellent, he said.
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