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Will Tesco Regret
Operating Its Own Commissary?

The Financial Times ran a piece entitled, Tesco Adopts a New Business Recipe, which points out that Tesco in the US is operating its own central commissary, as opposed to operations in the UK and elsewhere, where it relies on outside firms to produce its prepared meals:

Tesco has become a food manufacturer for the first time as part of its efforts to win over US shoppers.

The UK food chain, which has more than a 30 per cent share of supermarket shopping in its home market, has built an 80,000 sq ft food preparation facility — dubbed the Fresh & Easy kitchen — at its central distribution centre in Riverside county, east of Los Angeles.

Tesco wants its prepared meals, such as chicken curry, sushi rolls and Caesar salads, to be an important part of the appeal of its Fresh & Easy neighborhood stores. But it decided to set up its own kitchen rather than use third-party suppliers because of concerns over prevailing US standards in the sector.

“The reason for doing it ourselves was that there was no one here that could do it to the same standards,” said Tim Mason, head of Tesco’s US operations.

Forty per cent of the ingredients for the kitchen — including meat, poultry and fruit and vegetables — are provided by Wild Rocket Foods and 2 Sisters Food Group. The two UK suppliers have each invested $100m in setting up food processing plants adjacent to Tesco’s Riverside distribution “campus”.

“It’s all about getting the supply chain as short as possible,” said John Burry, Fresh & Easy’s chief commercial officer of centralized planning at the warehouse complex, which ships about 95 per cent of the items sold at the stores.

Tesco says its buyers will source food from the kitchen at commercial margins, to benchmark the performance of its operations.

None of Tesco’s US competitors operate similar kitchen facilities, and Tesco has never before tried to make the food it sells. In its home market — and around its 12 other business in Asia and Europe — Tesco always uses third-party suppliers. Bakkavor, Kerry Foods and Greencore are its biggest suppliers in the UK.

But the discount operating model of its US business increases the attraction of the higher-profit margins yielded by making its own food, rather than using a third-party provider.

“We could have asked one of our suppliers to come over and they would have jumped at it, but we felt we could do it ourselves,” said Mr Burry, who has worked at Tesco for nearly two decades, on a tour of the facility last week. “We have lots of experience in this, and the margin is much better. Why pay someone else to do this?”

The kitchen, with its giant cookers, stirring vats and the pasta-making machine imported from Italy, produces 120 different product lines from ready meals to fresh sushi and sandwiches.

Mr. Burry said he expected to expand that to about 150 lines and the existing kitchen site can be doubled in size to serve up to 500 stores. Tesco is considering building a second kitchen, or smaller “kitchenette” at its planned North California distribution centre in Stockton.

Orders from the stores are placed with the kitchen at 2am — this means Tesco can incorporate all the previous day’s sales — for next-day delivery.

Wild Rocket and 2 Sisters — which also supply pre-packed fresh products for the Fresh & Easy stores — chop and prepare the required amounts of vegetables and meat for the kitchen to be made into meals later that day. For fresh salads, Wild Rocket will take leaves picked by their suppliers in northern California and then wash, prepare and ship them to the kitchen at the distribution centre.

The proximity of the suppliers and the kitchen to the warehouse means that the lettuce can go from the soil to the shelves in three days.

Mr Burry says that the prepared food is going down well with shoppers — so much so that Tesco had availability problems in the first couple of weeks of opening its first stores.

We have been told that the shortages in the stores are actually due to a computer software problem — not wild demand beyond expectations.

We suspect Tesco will regret this decision. We’ve written about the pros and cons of company owned commissaries for years in Pundit sister publication, DELI BUSINESS.

Although, right now, Tesco says its buyers will source from the commissary at commercial margins — meaning the commissary will be a profit-center — what typically happens is that because it has a guaranteed client, it gets less sharp, its expenses get bloated, it becomes less service-oriented, etc.

Ironically just a couple of days ago, the Financial Times had a piece entitled Legal Setback for Tesco’s U.S. Plans, which determined that its main U.S. facility did not comply with California’s environmental laws:

Tesco has suffered a legal setback in its ambitious expansion plans in the US, after a California court ruled that its main warehouse did not comply with environmental planning law.

Tesco executives acknowledged that the ruling could, in theory, lead to the closure of the depot, the logistical backbone of its US operation. But they said this was highly unlikely and that similar disputes had been settled without such radical measures.

“We will review the ruling to understand what further compliance might be necessary but there is nothing in the ruling handed down that we believe will affect the operation or further roll-out of the business,” Tesco said in a statement.

Simon Uwins, marketing director of Tesco’s US Fresh & Easy subsidiary, said: “It is just the latest round in an ongoing court case”. But he said Tesco had contingency planning in place to deal with any potential distribution difficulties.

The ruling came as Tesco announced it was drawing up plans for a second warehouse complex at Stockton in northern California.

Tesco has opened 15 stores in the US and plans to bring the total to 50 by the end of the year and 200 by the end of next year. Its first 10,000 sq ft US Fresh & Easy store was opened this month. The company has said it will spend £250m a year over five years on its US expansion.

The case was brought in Riverside County Court by Health First, a previously unheard-of group established with the support of the United Food and Commercial Workers union.

The UFCW, which represents workers at the big three traditional supermarkets, has sought unsuccessfully to negotiate with Tesco over union representation. The union has used tactics like those employed to block the expansion of Wal-Mart in California.

Health First argues that the distribution centre should have been subject to a full environmental review, including a public consultation. It says it is particularly concerned about increased traffic from truck volumes.

Tesco says the distribution centre, on the site of a former military base, is covered by the environmental approvals secured for the base redevelopment.

One of Tesco’s UK suppliers, 2 Sisters Food Group, faces a similar lawsuit.

The only reason Wild Rocket Foods isn’t also subject to the lawsuit is that it moved “off campus” when it learned how expensive water would be on site.

The irony is this: The lawsuit was brought by a front group for the unions. You can bet that the very first group those unions will work on organizing is the commissary crew.

Retail store workers are hard to unionize; they are scattered, mostly short-term and unskilled. But the commissary workers all will work in one place and gain some specialized skills. The union will see this as a choke point. Unionize those workers and they can bring Tesco to heal — it will be the union’s weapon to get Tesco to open negotiations on the store employees.

One would have thought Tesco would have learned from Wal-Mart on this one. Case-ready beef may always have made sense for Wal-Mart’s approach, but it made a lot more sense after the butchers at a Wal-Mart supercenter in Texas voted to join the United Food and Commercial Workers — the same union funding the lawsuit against Tesco.

If Tesco is smart, it will lease out that facility to a private operator.

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