UPDATE 3-Home Retail steps up investment, to return cash

* Year underlying profit 293 mln stg vs 290 mln stg estimate * To buy back up to 150 mln stg of shares over 12 months

* Capital spending to rise to 125-150 mln stg

* Full-year dividend held at 14.7 pence a share

* Shares down 1.1 pct, in line with European sector

(Adds analyst, company comment, more detail, background)

By Mark Potter

LONDON, April 28 (Reuters) - Home Retail (HOME.L), Britain's No.1 household goods retailer, is stepping up investment to tackle competition from grocers and the Internet and dampened bid speculation with a plan to return cash to shareholders.

The group, which runs catalogue-based Argos stores and the Homebase home-improvement chain, has been tipped as a potential takeover target, in part because of a large cash pile.

It said on Wednesday it would buy back up to 150 million pounds ($229 million) of shares over the coming year, as it met forecasts with an 11 percent drop in annual profits.

Chief Executive Terry Duddy told reporters trading was likely to stay tough as Britain limps out of a deep recession.

But he was confident of coping, helped by an increase in capital spending to 125-150 million pounds in the year ending February 2011, from 87 million in the year just ended.

The group will invest in Argos's strongly-growing Internet offering and revamp 130 stores as it looks to fend off grocers like Asda (WMT.N) and electrical chains like Best Buy (BBY.N).

"It has been competitive over the past year ... and during that time we've also managed to increase our market share," Duddy told reporters.

Arden Partners' analyst Nick Bubb remained sceptical.

"Home Retail talk about investing more in Argos's "multi-channel leadership", but that didn't stop fourth-quarter like-for-like sales falling by 9 percent," he said.

"We are growing more nervous about the future for Argos, given the burgeoning competition."

Asda said this month it was aiming to become Britain's biggest non-food retailer within five years, while U.S. group Best Buy launched the first in a planned chain of electricals megastores on Monday. [ID:nLDE63E15S] [ID:nLDE63P2CS]

At 0800 GMT, Home Retail shares were down 1.1 percent at 277.9 pence, broadly in line with the STOXX 600 European retail index .SXRP.

FLAT PROFITS Britain's retailers are emerging from a deep recession, but many fear that steps to cut government debt, such as tax rises, will hit spending in the months ahead. [ID:nLDE63P1EK]

Floor coverings retailer Carpetright (CATVU.L) said on Wednesday sales were below its expectations. [ID:nLDE63P0UD]

Home Retail said profit before tax and one-off items fell to 293 million pounds in the year ended Feb. 27, broadly in line with the group's 290-million-pound estimate in March.

Earnings were hit by weak consumer spending and a lower pound, which raised the cost of imported goods.

However, Home Retail said it gained market share, with sales rising 2 percent to 6 billion pounds against a UK household goods market that declined 3.7 percent.

Finance Director Richard Ashton said the group was planning for like-for-like sales to fall at both its Argos and Homebase chains, but noted it beat cautious assumptions last year.

He was comfortable with analysts' consensus forecast for profits to be broadly flat this financial year.

Home Retail shares have lagged the STOXX 600 European retail index .SXRP by 22 percent over the past year, fuelling speculation it could attract a bid from a private equity firm.

There has also been talk of interest from Asda, though the Wal Mart-owned grocer has played this down.

"The only time I ever see anything mentioned about that (bid speculation) is in the newspapers," Duddy said.

"There is nothing that we want to report on and we would have done if there was anything relevant."

Duddy also dismissed talk the firm might split off Homebase and suggestions the firm was returning cash to deter a bidder.

Home Retail kept its annual dividend at 14.7 pence a share. (Editing by Kate Holton and Andrew Callus)