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After Five Years Of Losses, Tesco Calls A Stop To Fresh & Easy Growth Plans

The announcement from Britain was simple: Tesco Halts New Fresh & Easy Stores In The US, and to paraphrase another famous Brit with an American connection: “This is not the end. It is not even the beginning of the end, but it is, perhaps, the end of the beginning”:

The move by chief executive Philip Clarke, which means Fresh & Easy will end the year with 200 stores rather than the 230 initially planned, is intended to allow Tesco to focus on making the existing stores profitable and restricting further investment into the US.

“We are clear that Fresh & Easy needs to demonstrate it can be a positive return for shareholders,” Mr Clarke said. “This is a clear message to the market. I hope they like what we have chosen to do.”

Fresh & Easy was launched by Tesco in 2007. Mr Clarke wants the business to make a profit by 2014, but losses in the last six months remained £74m despite the number of profitable stores increasing from 30 to 55.

Mr Clarke announced the slowdown in store openings as Tesco, Britain’s biggest retailer, reported its first fall in profits since 1994 due to a drop in sales in the UK, the cost of a £1bn turnaround plan to halt that decline, and pressure on its international businesses.

Tesco said pre-tax profits fell 11.6pc to £1.7bn in the half-year to August 25, with the supermarket group’s UK and international businesses suffering a fall in like-for-like sales.

The notion that 55 stores are “profitable” is an odd one. It seems to mean that the stores make a profit if you don’t include a lot of costs that have to be covered by the stores — say procurement and central overhead.

In any case, the most important phrase in the Tesco announcement was this:”… new capital investment will be tightly constrained.”

This, which means no store openings and minimal renovations, will make Fresh & Easy’s positioning progressively more difficult.

First, we have been writing about Tesco’s Journey to America as Fresh & Easy for a long time. The first store opened November 2007. This means that what Tesco should be announcing is significant capital investments to avoid the five-year-old stores becoming dated. This is just the age when the shine is off the new stores, the natural same-store sales increases that accrue the first three-to-five years are exhausted, and new investment is required to compete with shiny new competitors.

A hesitation to invest will make it difficult to succeed.

Second, the decision to cease new store openings makes Fresh & Easy a sitting duck. A chain aggressively opening new stores is a moving target and is difficult to hit. But Safeway, Kroger, Wal-Mart etc., none of which needs another well-heeled domestic competitor, can do a lot to make Tesco’s life miserable in the US. They can position new store openings to do maximum damage; they can use loyalty data to give coupons and mailings to specific customers who might shop at Fresh & Easy; they can lower prices at those stores in direct competition with Fresh & Easy units… many other things. All are easier to do with a target standing still.

Third, a fundamental problem is that the overhead is wildly disproportionate to the volume. This problem can only be solved by adding many more stores and investing heavily to maximize sales of existing units. The decision not to expand, but also not to close the giant distribution center and send everyone back to the UK, etc., almost guarantees continued losses.

Presumably, the theory is that by cutting costs and focusing on getting the concept right, the US division can show London that the stores can operate profitably, and thus London will authorize the investment needed to max out the distribution center, etc.

One suspects, however, that many other companies are now taking actions to make sure that particular call to London never gets made.

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