It emerged today that Tesco is facing a £1bn writedown to quit its US arm Fresh & Easy as the grocer exits the country. Retail Week looks at why the retailer failed to succeed.
If Sir Terry Leahy is credited with transforming Tesco, and UK retail along with it, in his 14 years as chief executive, then the ultimate failure of his plan to do the same in the US is likely to prove an unwelcome blot on his illustrious CV.
Leahy led the charge across the Atlantic in 2007 to much fanfare after modeling stores in highly secretive warehouses to test different layouts and come up with a winning formula.
He was intent upon riding the crest of a worldwide wave towards smaller grocery stores which had seen Tesco Express surge ahead of its competitors in the UK.
But, while rivals including Walmart have since moved towards smaller stores, Fresh & Easy has encountered a number of problems.
The most significant of these has been on the balance sheet. The constant analysis of the loss-making chain’s performance and speculation on when Tesco expected it to turn a profit eventually led Leahy’s successor Philip Clarke to call time on the business. In December he admitted it “will not deliver acceptable shareholder returns on an appropriate time frame in its current form”.
Tesco was unlucky in the timing of its entry into the US. The onset of the global economic downturn left retail a difficult business to be in. Moreover, a swathe of new housing planned in Fresh & Easy’s heartland in California, Arizona and Nevada failed to materialise leaving the stores without much of their planned custom and organic growth. With a much larger store estate than originally planned, the 200-store retailer found itself with large overheads on an inefficient estate.
Shore Capital analyst Clive Black today said: “Whilst a blow to the balance sheet and reputation of Tesco, albeit the balance sheet can handle the hit in our view, we see this exit as more of a story of the prior management rather than the present team.
“Additionally, although a growth stream is not going to emerge as previously thought in North America, Tesco’s earnings per share will benefit in the near-term from the removal of the drag of US losses.”
The Economist Intelligence Unit retail analyst Jon Copestake adds: “The decision to finally jettison Fresh and Easy, which hasn’t turned a profit in six years of operating, should be welcomed as a positive, if belated, step.
“The exit cost looks high, but Fresh & Easy has already racked up an estimated £850m in cumulative losses, with observers wondering why the current decision was not taken years ago.”
Copestake adds that the decision follows the £40m Tesco paid to offload its Japanese business last June and comes against the backdrop of difficulties in a number of markets including South Korea and in central Europe.
The departure of Fresh & Easy chief executive Tim Mason is likely to also have been a disappointment to Tesco. The group deputy chief executive was seen as a strong senior pair of hands in a retailer still very much in transition at home and overseas.
However, strategy was just one element in Fresh & Easy’s demise. Planet Retail analyst Natalie Berg believes Tesco got its proposition wrong. “The stores are very clinical, they’re very small, they’re very automated. Tesco tried to enter the US and revolutionise the way that Amercians shop but they really failed to grasp it,” she says.
Fresh & Easy’s positioning was also questioned as it undercut rival Trader Joe’s on staples but struck a middle-class tone in its advertising. It was also slow to introduce money-off coupons which are a key marketing tool in the US.
Last year Tesco also closed a number of its in-store kitchens which had been used to give the stores a warmer feel while the use of self-checkouts was questioned by shoppers unused to using them.
However, not everyone disliked the chain. Some shoppers welcomed its kitchens and pricing as well as British products which were introduced following customer requests.
Whether the business is sold as a whole – rivals including Aldi are said to be interested – or its stores and distribution centre in Riverside, California are sold off remains to be seen.
Ultimately, Tesco identified a gap in the market but macroeconomic circumstances combined with a lack of clear reasons for customers to shop at Fresh & Easy put paid to the project. Tesco follows UK rivals Sainsbury’s and Marks & Spencer in beating a retreat from one of the world’s toughest market.
For Clarke, the focus may switch elsewhere. For Leahy, there may remain a considerable disappointment in what might have been.