Tesco prepares to debut in U.S.; other retailers get ready

As Tesco forges ahead with preparations for its debut in the United States later this year, retailers already in the market are marshalling their own forces in response.

“It's going to be a problem if they start opening stores all around us,” Dave Rann, vice president of Super A Foods, a family-owned chain that has 12 outlets in the Los Angeles area, told Bloomberg News. “We're sprucing up our stores.”

7-Eleven Inc., Dallas, is giving fresh food offerings a higher profile, and has announced plans to expand its own brand lineup, Bloomberg reported Jan. 30.

Tesco, Cheshunt, England, plans to create a U.S. convenience-store brand, taking on chains such as 7-Eleven and locally run grocers for the money spent by Southern California's time-pressed shoppers.

Tesco's U.S. expansion has attracted billionaire Warren Buffett, whose Berkshire Hathaway Inc. snapped up at least 177.8 million Tesco shares, a 2-percent stake, after the retailer announced its plans last February, according to Berkshire filings. Debbie Bosanek, a spokeswoman for the Omaha, Nebraska-based company, declined to comment on the investment.

Tesco, which has filed trademarks for three variants of the name “Fresh and Easy” for its outlets, expects to tap consumer demand for high-quality fare. The company will spend as much as $250 million in the United States this year, according to Bloomberg, and plans to open stores in Southern California, Phoenix and Las Vegas during 2007, Bloomberg reported, citing people familiar with the situation.

“It's going to face some real hurdles because it's a brand new market for them and one that is extremely competitive,” said George Whalin, president of Retail Management Consultants in San Marcos, Calif. “Having Buffett buying your stock, though, is a great endorsement, and he tends to get it right.”

Tesco shares have risen 29 percent to 413.75 pence in the past 12 months, in line with the 29-percent gain in the nine-member Bloomberg Europe Food Retailers' Index.

The United States has been a graveyard for other British merchants. J Sainsbury Plc, the U.K.'s third-biggest food retailer, sold East Bridgewater, Mass.-based Shaw's Supermarkets Inc. for $2.48 billion when it abandoned the United States in 2004. Marks & Spencer Group Plc sold Brooks Brothers in 2001 for less than a third of the $750 million it paid for the clothier 13 years earlier.

“Other retailers failed because they either expanded too quickly or didn't do enough research on the market before entering it,” said Ted Scott, who manages the equivalent of $4.23 billion in U.K. stocks at F&C Investment Management Plc in London, including Tesco shares. “Tesco's done its homework.”

Tesco rang up a record 39 billion pounds in sales last year at its 1,897 U.K. outlets, including 1,171 One Stop and Tesco Express c-stores. The company said it collects 1 of every 8 pounds spent in Britain.

Lawmakers and community leaders have criticized Tesco's market domination, saying the retailer mirrors Wal-Mart Stores Inc. in its ability to crush smaller rivals.

“Tesco is living proof of a winner-takes-all dynamic in British retail,” said Andrew Simms, policy director for the New Economics Foundation, which researches environmental sustainability and social justice. “Tesco's expansion has resulted in the mass extinction of local retailers.

The London-based group reported small stores closed at a rate of 50 a week from 1997 to 2002 as supermarkets offered a wider variety of products.

On Jan. 23, the U.K. competition regulator said it was concerned that Britain's supermarkets, led by Tesco, may control too much of the country's 124-billion pound grocery retailing industry. The regulator said it will look more closely at “land banking” – the purchase of property to deny access to rivals – and its effect on competition at a local level.

Tesco is looking abroad for growth, and half its floor space is now outside Britain, Chief Executive Officer Terry Leahy said at an Oct. 3 press conference in London. The company has stores in China, Poland, Hungary and nine other countries.

“Tesco is seen as the Wal-Mart of the U.K.,” said Bryan Roberts, an analyst at Planet Retail in London. “Being virtually unknown in the U.S. will be viewed as a clean slate for the company and somewhere where it can make its mark.”

It also faces a more competitive environment where consumers aren't tied to neighborhood shops.

“California is all about automobiles and traffic, and it's not uncommon for people to drive 45 minutes to see a movie,” Whalin said. “In the U.K., cars are not necessarily as important, and it's more about neighborhoods and communities.”

Tesco's profit margin was 3.8 percent in its most recent six-month period. That compares with a 1.46 percent margin at Kroger Co., the biggest U.S. supermarket chain.

To prepare for its U.S. move, Tesco sent directors to interview 60 Southern California families to get a detailed understanding of eating and shopping habits, said Lucy Neville-Rolfe, executive director for corporate and legal affairs.

The company even built a full-scale outlet in a warehouse so focus groups could provide feedback on Tesco's range of goods.

Tesco told onlookers in Santa Monica that it was a movie set, said Matt Heslin, a real estate developer who leased Tesco one site in Los Angeles and is negotiating three other deals.

“The work we do to research new markets is, of course, commercially sensitive so I cannot go into any greater detail in this area,” Neville-Rolfe said.

Tim Mason, a 25-year company veteran, is heading the U.S. push. Mason, 49, helped create Tesco's Clubcard loyalty program, and analysts said he is a possible successor to CEO Leahy.

“The decision to send Mason underlines how much Tesco wants to succeed here,” said Jonathan Pritchard, an analyst at London-based Oriel Securities.

Mason and Simon Uwins, Tesco's chief marketing officer in the United States, weren't available when a Bloomberg News reporter visited the company's California offices. Neville-Rolfe declined to provide details on the “Fresh and Easy” concept.

Tesco officials describe the stores as selling high-quality readymade meals and fresh produce, Heslin said. In Britain, consumers can buy an entire meal, from appetizers to dessert, in one package. The retailer's high-end range, “Finest,” generates about 1 billion pounds of annual sales in the U.K.

To ensure a steady supply of food for its stores, Tesco is building an 820,400 square-foot (76,218 square-meter) distribution center in Riverside, Calif., said Dan Fairbanks, planning manager of the March Joint Powers Authority, which represents the municipalities that own the land.

The facility will include two warehouses and a 101,000 square-foot office and food processing area on property that was once part of March Air Force Base, Fairbanks saidys.

The size of the project shows that Tesco plans to open more than the 250 stores the British press has reported, said Roberts of Planet Retail.

“It's a typical distribution center size when you compare it to other retailers that serve about 1,000 stores,” he said. “Tesco won't be stopping after opening outlets in California. It'll be looking to roll out the concept nationwide.”

For now, Tesco is focusing on lower-priced communities such as Glassell Park, six miles north of downtown Los Angeles.

The community has attracted young professionals with its relatively cheap housing, said Laura Guttierez, president of the Glassell Park Improvement Association. The median house price in Glassell Park was $327,000 in 2004, compared with $812,000 in nearby Griffith Park, according to the City of Los Angeles.

California is the richest U.S. state based on per capita income, and its economy accounts for 13 percent of gross domestic product, according to the U.S. Department of Commerce.

Finding affordable sites in the state may be difficult. The average price of land in California is $203,897 an acre, compared with $45,208 for the entire United States, according to Grubb & Ellis Co., a Chicago-based commercial real-estate firm.

Tesco is seeking stores of 12,000 to 15,000 square feet, a size that places it in direct competition with 7-Eleven, the world's largest operator of c-stores, Heslin said.

7-Eleven is moving away from its Slurpees-and-cigarettes reputation by boosting fresh food offerings. The company plans to expand sales of items carrying its own brand to 10 percent of revenue from 4 percent by 2010 and open about 2,000 new stores in the U.S. and Canada, said CEO Joseph DePinto.

“We're really trying to differentiate into a broader area of convenience,” DePinto said. “I think their approach to how they want to go to market is going to be much different to the way we do.”

The Tesco concept may encroach on the territory occupied by Aldi Group's Trader Joe's. Monrovia, Calif.-based Trader Joe's specializes in imported cheeses, wines and artisan breads, with stores decorated in a South Pacific theme.

The company, which has 255 outlets in 22 states, has told store managers to “keep their eye on the ball,” said Richard Carlson, manager of the Trader Joe's in Irvine, Calif. Michael Stephen, an assistant manager at Trader Joe's in Riverside, said a headhunter for Tesco contacted him at work.

Calls to Trader Joe's headquarters weren't returned.

Investors said Tesco's planning is only the first step to building a new brand in the fiercely competitive U.S. market. “It doesn't matter how much Tesco plans this, it's bound to run into some difficulties,” said Grahame Exton, who helps manage 6 billion pounds of assets at Tilney Investment Management in Liverpool, England, including Tesco shares. “It just needs to hope its shareholders are patient and remain committed.”

Meanwhile, near a military air base 60 miles east of Los Angeles, backhoes clear an area the size of 80 soccer fields – a site where Tesco is building a “command center” to direct its invasion of the world's biggest consumer market.