‘Tesco can destroy competition by cutting prices’

Tesco must use its market-leading position to attack rivals by cutting costs and reducing its profits margin to turn around an expected fall in sales, according to analysts. 

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The supermarket reports its interim results on Wednesday (4 December) and is predicted to see like-for-like sales drop by as much as 2 per cent as it faces increased competition from both the top and lower end of the market. HSBC, in a note to investors, advised clients to cut the proportion of Tesco shares in their portfolios and reduced its valuation of its shares to 340p, from 400p.

The bank added that Tesco’s prized 5.2 per cent operating margin must drop to between 2 per cent and 3 per cent. David McCarthy, head of European consumer and retail research at HSBC, advises Tesco to start a new supermarket price war to reverse disappointing sales.

By investing in price, he believes Tesco will be able to either win “substantial share” from the competition if they refuse to cut prices or “destroy competitors’ cash flows and profits” if they do, leaving it in a position to recover more quickly.

He says: “Tesco needs to make its offer compelling, needs to hurts its competitors and needs to rebuild. But before rebuilding comes demolition. We believe a margin fall is inevitable and a margin reset is necessary.”

So far Tesco has maintained its profit margins by keeping operational costs low, however McCarthy thinks this creates a vicious spiral because it results in “consumer unfriendly” actions that lead to further sales declines and more margin pressure. Consumer perceptions of the supermarket have also been hit by factors such as the horsemeat scandal and fines for “misleading” prices.

Meanwhile, Tesco is rolling out its electronic shelf edge labels to its Enfield Superstore following a trial in the Letchworth Express store in Hertfordshire. It has also launched its first app for Tesco colleagues that provides up-to-date information on in store product availability and the exact location of goods, as well as any deals or offers that might be of interest.

Mike McNamara, chief information office at Tesco, says: “When the right technology is applied in the right way, it can change the way we work and the way we shop.”

Tesco is trying to reverse two years of disappointing sales after it issued its first profit warning in 20 years at the beginning of 2012. The supermarket’s UK sales were flat for the 13 weeks to 24 August and fell 1 per cent in the first quarter, while its market share fell to 29.8 per cent for the 12 weeks to 11 November, compared to 30.5 per cent a year ago, according to Kantar Worldpanel.

Tesco chief Philip Clarke has in place a £1bn turnaround plan that focuses on investment in technology and its online shopping business, including the opening of a sixth distribution centre for online orders and a planned same-day deliver service. It has launched its first device, the Hudl tablet, that it claims is the “fastest-selling tablet we have sold at Tesco” outselling products including Apple’s iPad and Amazon’s Kindles.

It is also hoping to boost customer spend by revitalising its stores into family shopping and leisure destinations. That includes the launch of its own-brand carvery restaurant Decks, as well as investments in Euphorium bakeries and Harris + Hoole coffee shops and the £48.6m purchase of the Giraffe restaurant chain.

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