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Tesco Poised to Exit U.S. After Starting Fresh & Easy Review

By Sarah Shannon
December 05, 2012 8:10 AM EST 6 Comments
A Fresh & Easy supermarket stands in Los Angeles, California, U.S.
Photographer: Hector Mata/Bloomberg
A Fresh & Easy supermarket stands in Los Angeles, California, U.S.

Dec. 5 (Bloomberg) -- Tesco Plc, the U.K.’s largest grocery company, said it will likely leave the U.S. after announcing a review of its Fresh & Easy unit in the country and the departure of the unprofitable business’s head.

All options are being considered for the 199-store chain, including a sale, closure or partnership, Chief Executive Officer Philip Clarke said today on a conference call. Tesco has received approaches for the business and has hired investment bank Greenhill to assist with the review, the company said as it also reported that U.K. sales have gone back into decline.

Analysts such as Clive Black at Shore Capital welcomed the probable exit from the unit, in which Tesco has invested 1 billion pounds ($1.6 billion) and which hasn’t made a profit since it was formed in 2007. Fixing the El Segundo, California- based business has been a distraction for Clarke as he seeks to halt sliding sales in the retailer’s domestic market.

“A difficult, but right decision is being taken,” Black said. “We see this review as one of the most high profile and perhaps defining moments in Philip Clarke’s position as CEO.”

Tesco rose as much as 4.8 percent in London trading, the steepest intraday gain since May 26, 2009. The shares were up 3.1 percent at 336.6 pence as of 12:52 p.m., trimming their decline this year to 17 percent.

Exiting the U.S. business is more likely to involve “a cost than a profit,” said Andrew Kasoulis, an analyst at Credit Suisse with a neutral rating on Tesco.

Approaches

The retailer paid 40 million pounds to Aeon Co. to offload a 50 percent stake in its Japanese business earlier this year.

“Most stakeholders were of a view that the U.S. was a drag on profitability, so the market reacting today is being seen as a positive for future profitability,” Kasoulis said.

Tesco said approaches were made in recent months for all and part of Fresh & Easy, which has stores in Nevada, California and Arizona. The retailer has also been contacted by potential partners interested in developing the business, it said.

The interest is likely to be local, rather than from any of the major international retailers, said Arnaud Joly, an analyst at CA Cheuvreux, who has an underperform recommendation.

Tim Mason, Tesco’s former marketing director who has led Fresh & Easy since its creation, will leave today after 30 years at the U.K. company. Mason was promoted to deputy CEO of Tesco after Clarke’s predecessor Terry Leahy stepped down in 2010.

“We made our decision about Fresh & Easy and it felt like the right time for Tim to leave,” Clarke said on the call.

Built From Scratch

Mason built the U.S. business from scratch after several years researching the market during Leahy’s tenure as CEO, targeting the West Coast with a series of neighborhood urban stores in a market dominated by big-box supermarkets. The grocery chain distinguishes itself with a focus on budget priced, healthy food and a predominance of own-brand items such as an Atlantic salmon ready-meal, which is prepared at its own distribution center in Riverside, California.

“It was a discount store and it had high costs and it just proved too difficult to shift people from their traditional buying habits in big supercentres and supermarkets into a small store,” said Clarke, who was speaking from Los Angeles.

In April, the CEO pushed back a goal for Fresh & Easy to reach breakeven until fiscal 2013 and vowed to slow store openings and focus on getting each store to profitability.

Slowing Growth

Fresh & Easy’s same-store sales rose 1.8 percent in the third quarter, Tesco said in a statement today. That was worse than the prior quarter’s 6.9 percent growth. U.S. growth has slowed to a trickle, Clarke said on the call.

“It can’t continue to subsidize the U.S. business with the U.K.,” David Gray, an analyst at Planet Retail in London, said by phone. Tesco will most likely sell the business, he said.

An exit from the U.S. would mark a further retreat from international markets for Tesco following its departure from Japan earlier this year. The company got more than a third of sales from outside the U.K. in its most recent financial year, with South Korea making the biggest contribution.

Tesco isn’t the only European retailer cutting back its geographic expanse. Carrefour SA (CA) has this year announced deals to pull out of Colombia, Indonesia, Malaysia and Greece, while Metro AG, Germany’s largest retailer, last month agreed to sell its Real grocery stores in eastern Europe. Royal Ahold NV of the Netherlands announced in September that it may sell its 60 percent in ICA, Sweden’s largest food retailer.

U.K. Decline

Tesco also said today that sales at U.K. stores open at least a year fell 0.6 percent, excluding gasoline and value- added tax, in the 13 weeks ended Nov. 24. That compares with the average estimate of six analysts surveyed by Bloomberg for a 0.8 percent drop. Same-store revenue gained 0.1 percent in the prior quarter, snapping a sequence of six straight declines.

The decline in U.K. sales is another setback for Clarke, who is investing 1 billion pounds to upgrade the stores, add new products and hire additional staff. Tesco, which in January cut profit guidance for the first time in 20 years, saw its market share slip to 30.7 percent in the 12 weeks ended Nov. 25 as discounters Aldi and Lidl and the upscale Waitrose chain gained ground, researcher Kantar Worldpanel said yesterday.

Tesco said the drop in sales was led by non-food products, only partly reflecting weak consumer demand. Same-store sales of food rose 1.2 percent, outperforming the market, it said.

To contact the reporter on this story: Sarah Shannon in London at sshannon4@bloomberg.net.

To contact the editor responsible for this story: Celeste Perri at cperri@bloomberg.net

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