Jeremy Warner's Outlook: Tale of two retailers as Tesco leads from front

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The Independent Online

Unless it be the Czech Republic, it's hard to pick any holes at all in yesterday's stunningly good set of numbers from Tesco, the now undisputed doyen of British retailers. The contrast with M&S, which coincidentally reported another stomach churning fall in like-for-like sales yesterday, could hardly be greater.

Unless it be the Czech Republic, it's hard to pick any holes at all in yesterday's stunningly good set of numbers from Tesco, the now undisputed doyen of British retailers. The contrast with M&S, which coincidentally reported another stomach churning fall in like-for-like sales yesterday, could hardly be greater.

When Sir Terry Leahy, the chief executive, is asked about the secret of his success, he invariably answers that it is listening to his customers. As management textbook answers go, they don't come more cliched than this one, and if it were quite so easy as Sir Terry suggests, the whole world would be populated by Tesco lookalikes. Unfortunately, disaster cases such as M&S are much more common.

It's not just that Tesco has managed to position its core business of food retailing better than any of its rivals. The really impressive thing about this company is the way it has leveraged its brand and expertise to expand into a whole raft of new and different businesses. The management textbooks also tell you that diversification is the way to ruin, yet Tesco proves them wrong again.

Profits have risen more than threefold at Tesco since Sir Terry took the helm seven years ago. About half of that growth has come from businesses that didn't exist back in 1997 - from expansion overseas to the online shopping and home deliveries operation, and from non foods to telecommunications. What's more, nearly all this growth has been organic. For a large organisation to be as creative and entrepreneurial as Tesco is extraordinarily unusual. Nor is there any sign of the rate of progress abating.

The striking feature of yesterday's interims was the continued rapid pace of growth in non food lines. Tesco has more than 20 per cent of the groceries trade in the UK, but just 6.5 per cent of non food retailing, which is a similar sized market. However, that's from a standing start just seven years ago.

Ominously for other retailers, Sir Terry sees no reason why Tesco shouldn't eventually emulate its commanding position in groceries in clothing, electricals and other non foods. The only constraint is the speed with which he can wear down the planning authorities. Only 40 per cent of the UK population has access to a Tesco with the full array of non foods produce. The scope for expansion is all too apparent, and that's before Sir Terry even begins seriously to turn his mind to the vastly bigger retail market in services.

Tesco is today one of Britain's very few world class companies. With the share price once again at an all time high, it is always worth asking where things could possibly go wrong. To my mind there are two obvious fault lines. One is overseas expansion. Until quite recently it was conventional wisdom to think of retail as an entirely local business which doesn't easily travel. Sir Terry and others have already exploded that myth, yet the concept of a global retailer is still in its infancy and the scope for mishap is huge - witness what has happened to Ahold. Retailers still more often fail overseas than they succeed.

The other fault line is Sir Terry himself. Tesco is no one man band. There's strength in depth right through the organisation. Yet there is no obvious successor, and although still a comparatively young man with plenty of gainful years ahead of him, Sir Terry will already be wondering how long he ought to continue. Nobody's luck, good judgement, or indeed energy, lasts forever. He won't want to hang his boots up quite yet, but eventually that time will come, and however well a company has been prepared for the future, it is generally when the defining boss goes that the glory years come to an end. Still, for the moment it's onwards and upwards. There appears little on the immediate horizon to bother investors.

Marks & Spencer

Disappointingly, I was not invited to Philip Green's party at the Dorchester Hotel last night to celebrate his tilt at Marks & Spencer. Invites were restricted to advisers and Mr Green's supporters in the press, among whom he inexplicably fails to include me. I wasn't kind on Mr Green's grand design, but honestly, that was all of 10 weeks ago now and surely enough water has flowed under the bridge since then to let bygones be bygones.... Whatever, a rumbustious time was no doubt had by all gloating over yesterday's M&S trading update, which was truly dire. Mr Green would have been in his element regaling the "idiots" in the City for turning him down at £4 a share. As he has already remarked: "Maybe we had a lucky escape".

Stuart Rose, the chief executive, is still a recent enough recruit to be able to blame the near collapse in sales reported yesterday on the previous regime. His early weeks in the job were spent fighting off Mr Green. It is only very recently that he has been able to concentrate on what should be done to turn the business around. Yet on this front, there's plainly still a mountain to climb and, to be frank, progress so far is not particularly encouraging.

The company has shot itself in the foot by pitching the terms of its tender offer to buy back £2.3bn of share capital at well below the value of Mr Green's bid. The justification is too technical and laboured to pass muster with most shareholders, who not unreasonably thought the whole point of the buy-back was to compensate them for the board's rejection of Mr Green's £4. If the company had pitched the buy-back at or above £4 a share, nearly all shareholders would have tendered. The argument that any such price would have benefited short-term speculators at the expense of long-term investors really doesn't stack up.

The company and its advisers were worried that if they bid high, hedge funds would "short tender" the stock - that is borrow the shares from unsuspecting investors to tender at the higher price and then take the turn. Yet the reality is that nearly all those who have the stock out on loan would have left instructions on how their shares should be tendered. So that too doesn't amount to a valid concern.

Buy-backs rarely have any immediate positive impact on the share price, and against the backdrop of yesterday's trading update, it seems even less likely that this one will. Mr Rose and his board already appear to be out of touch with the wishes of their shareholders. Let's hope they are more in touch with what needs to be done to the business. Don't count on it. Takeover Panel rules prevent Mr Green from returning with a fresh bid for at least another four months, but after these figures, would he really want to?

US interest rates

The Federal Open Markets Committee raised US interest rates again yesterday, and though it insisted that the pace of future increases would be "measured", it was clear beyond doubt that there are more to come. "The Committee believes that even after this action, the stance of monetary policy remains accommodative", Alan Greenspan, the chairman, said. It is a curiosity that even as the Federal Reserve raises short rates, yields on Treasury bonds (or long-term rates) are broadly moving in the other direction.

How to explain this juxtaposition? In part it is because of continued inflows of foreign capital into the US, and in particular purchases of American bonds by Asian central banks. The currency intervention may have ended, but there is still a surplus of recently acquired dollar reserves looking to be invested. However, it is also because there is a genuine difference of opinion about where the US economy is heading.

The Fed believes that policy has been too loose for too long, and that some of that stimulus now needs to be removed. Bond market investors remain unconvinced. To them, the recovery looks fragile, and the bogey of price deflation still hovers on the sidelines. At 1.75 per cent, the federal funds rate remains incredibly low by historic standards, but so too is the yield on 10 year bonds. As the two rates converge, uncertainty reigns. It's a brave man who predicts the end game.

jeremy.warner@independent.co.uk

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