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What is it with the Americans and British groceries? It started with the tea in Boston harbour and has ended (for now) with Tesco running away from Fresh & Easy, its West Coast venture, with its tail between its legs. It was all so predictable and all so avoidable. Tesco thought it could teach those colonials a thing or two about food retailing.
After about £1-billion ($1.56-billion) of accumulated trading losses and a £1-billion writedown, the company has discovered that it could not. The real killer was the decision to spend about $100-million on a big distribution centre to service the small-format stores it was building. Suddenly, the venture needed an awful lot more stores if it was going to turn a sensible profit. But the poor performance of the existing stores made a big expansion in store numbers look unwise, so the venture was doomed.
There endeth the history lesson. Tesco is promising to be more frugal in the future and, with Wednesday's full-year results, has set out exactly how much more frugal. Capital spending will be between 3.5 and 4 per cent of sales in future. It was just over 4 per cent in the 2012/13 financial year but back in the mid 2000s it was regularly spending 7 to 8 per cent of sales on capex. It reaped the benefit in the form of double-digit sales growth. With capex coming down so much, that sort of growth is a thing of the past.
So shareholders will have to hope that the company can squeeze ever greater returns out of the capital that it is putting into the business. Here, too, there are new targets, but Tesco has made life easy for itself. It is aiming for a return on capital of between 12 and 15 per cent. That's a pretty wide range, and for the most part well below its previous target of 14.6 per cent by 2014/15. The figure for 2012/13 was 12.7 per cent, and the number for the current year will be helped by the £1-billion U.S. writedown and an £800-million writedown to the value of U.K. property.
Which brings us neatly to Tesco's big problem. That £800-million writedown says a lot about how much less attractive it is to build new supermarkets in the U.K. than it used to be. Tesco's profits in its domestic market have been falling for the past two years. To grow it needs to find more exciting places to invest, but the U.S. was not the answer and, judging by the performance in 2012/13, few of the other overseas businesses were either.
Chief executive officer Phil Clarke is making a fair effort to improve the U.K. performance and allocate capital wisely elsewhere, but it is hard to shake off the belief that Tesco will be a low-growth business for some time to come. Yet the shares, which have been recovering steadily over the past year, are sitting on 12 times earnings. That is starting to look expensive. Perhaps the Americans had the right idea in giving Tesco a miss.