Tesco is facing the worst crisis in its 95-year history after an accounting bungle led to Britain’s biggest retailer overstating its expected profits by £250m – prompting the suspension of four senior executives.
The shock announcement wiped more than £2bn off the value of the supermarket behemoth on Monday, bringing its share price to an 11-year low as regulators with the power to impose unlimited fines hovered and City analysts called for the chain to be broken up.
Tesco’s new chief executive, Dave Lewis, who only joined the company three weeks ago, promised the “fullest and deepest investigation possible” after admitting that the disappearance of almost a quarter of its expected £1.1bn profit for the first half of 2014 was a “serious issue”.
As the company resorted to seizing the laptops of its suspended executives, Mr Lewis acknowledged that he could not even be sure that the £250m was the full extent of any income shortfall. “Disappointment would be an understatement,” he said.
After three decades of rising profits and pre-eminence among Britain’s food retailers, Tesco has been battling falling sales and a decline in its market share as it is squeezed by the success of more fleet-food competitors such as the discount chains Aldi and Lidl. Last year its revenues fell by 4 per cent and its market share slipped by nearly 1.5 per cent to 28.8 per cent.
Tesco: the suspended executives
While its travails disappointed shareholders, including the famously astute Warren Buffett, investors had until today assumed its financial statements – including the latest profit warning issued last month – were at least accurate.
One senior City figure said he was “flabbergasted” by the announcement. Neil Saunders, managing director of the retail consultancy Conlumino, said: “Mistakes do happen, but this gives the impression of a company that is not in full control of its internal procedures. It is just not what you expect from a company as large as Tesco.”
The retailer said it had suspended the managing director of its UK business, Chris Bush, along with its UK finance director Carl Rogberg and two food directors John Scouler and Matt Simister. The men were put on notice that data on their computers and phones, including emails and messages, will be examined.
Mr Lewis promised that “integrity and transparency” would be at the heart of the company’s response to the crisis. But amid suggestions that its problems may be more historically rooted, its internal investigation – which is being carried out by the law firm Freshfields and the accounting giant Deloitte – will also talk to former executives, including the former boss Phil Clarke, who was ousted in July.
The former chief financial officer Laurie McIlwee, who left the company just six days ago with a near £1m severance package, is also likely to be approached. Another issue for Tesco is that Mr McIlwee’s replacement is not due to start until December – in effect leaving the FTSE 100 company without a financial director.
Tesco shares closed down 11.5 per cent at 203p, wiping £2.1bn off its market capitalisation to £16.5bn. The company’s shares have now halved in value since 2012.
Investors and retail experts will be concerned about whether any malpractice may be more widespread among other retailers. The focus of the investigation is likely to be the ecosystem of discounts and promotional deals that is horse traded between Tesco and its suppliers.
The supermarket told the City last month that it expected its profits for the first half of 2014 to be £1.1bn, in itself already below investors’ expectations. The loss of £250m from that figure means Tesco’s income is set to fall by nearly 50 per cent compared with its £1.6bn profit for the first half of 2013.
Investigators will focus on whether the company had succumbed to the temptation to adjust its figures to soften the picture of falling sales by claiming income such as promotional rebates in the wrong financial period.
The supermarket’s auditors of 31 years, PricewaterhouseCooper, is also under scrutiny after it was revealed it gave Tesco’s commercial division, which has been blamed for the problems, a clean bill of health after being asked to look into the department.
Mr Lewis, who was recruited from Unilever after the failure of a £1bn plan by his predecessor to turn around Tesco’s fortunes, said: “The board, my colleagues and I expect Tesco to operate with integrity and transparency and we will take decisive action as the results of the investigation become clear.”
The hole in the company’s accounts was brought to light by a whistleblower who alerted its chief legal counsel on Friday, setting in train a frantic initial investigation over the weekend. Tesco said it had informed the Financial Conduct Authority, which oversees the handling of market-sensitive information. The Financial Reporting Council, which oversees accounting rules and has the power to impose unlimited fines, may also become involved once Tesco presents its findings. As the company announced it was putting back the announcement of its profit figures until 23 October, there was also pressure on its chairman, Sir Richard Broadbent, to step down over the apparent problems with its corporate governance. But Sir Richard insisted he was staying put, saying: “Things are always unnoticed until they have been noticed… I do not think we are ducking the issues. My intention is to continue to be part of the solution.”
The leading analyst Jim Osman, of Edge Consulting Group, said: “Investors in Tesco must push for a massive restructuring and break-up of the business if they want to see any further return on their investment.”
Product placement: location is everything
Manufacturers pay big money to have their goods at the ends of the aisles – sometimes called “gondola ends”. Also, you may not have noticed, but all supermarkets have one aisle, often parallel to the front of the store, which is wider than the others. This is known as the “central aisle” which is the busiest thoroughfare for shoppers. And the store will charge extra cash to place suppliers’ goods there.
It’s not just the gondola end that’s a premium position. The final couple of feet of the sides of an aisle will often be block-booked from top to bottom by one manufacturer. Known as a “stack” or a “ladder rack”, you will often find items here that complement each other (“Jack and Jill” items in the lingo), such as tea and coffee, perhaps. You might not know it, but these Jack and Jill goods are usually owned by the same multinational company. Ever noticed why Pepsi, Doritos and Walkers always appear in the same stack? They’re all PepsiCo brands.
Suppliers will pay big money to be positioned in the best section of an aisle. For example, psychologists have established that people buying chilled goods such as dairy browse for longest halfway along the aisle, so the middle fridge bays command the highest price. Muller yoghurts will often block-book an entire bay to maximise the impact of its familiar branding colours.
Not so surprising, this one, but eye-level shelves command the highest price. Next time you are in the bakery section, look where Mr Kipling’s products are based – nearly always in front of your nose.
Suppliers pay big money to appear in the large area in front of the entrance. That’s why you usually find a big tower of seemingly random items that may seem out of place in that part of the store – cereals, fizzy drinks or shampoo.
These are those big, bin-like vats placed seemingly at random around the store, with cardboard posters around the outside advertising the brand of whatever is loaded within. Big money for supermarkets.