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TESCO’S FRESH & EASY TAKES ON WEST COAST

THE U.K. GIANT QUIETLY PLOTS ITS HIGH-STAKES U.S. GROWTH STRATEGY

By Curt Hazlett

Like any good warrior, Britain’s Tesco knows the value of stealth. So the retailer’s assault on the American market began not with chest-thumping but with intelligence-gathering. First, 50 Tesco executives and researchers were dispatched to California for two weeks in 2005 to spend time living with families and studying their lifestyles and shopping habits. Next, the company turned the inside of an empty warehouse in Santa Monica into a mock-up of a store and tested products on focus groups. Anyone who grew nosy was told that the warehouse was a movie set.

Now it is finally becoming apparent what Tesco is up to, and it is nothing short of the creation of a new retailing format: a redefinition of the convenience store as a place to buy well-prepared, ready-to-eat meals along with produce and other high-quality groceries.

The stakes are high, for both Tesco and those it will be competing against. Fresh & Easy Neighborhood Market, as Tesco calls the new concept, “could generate $1 billion in sales within three years and capture 2 to 6 percent of the local market share in five years,” wrote Credit Suisse analysts in a February research report. “But it is important to keep in mind that the U.S. retail market is ultracompetitive.”

The first Fresh & Easy stores are to open late in the year in Arizona, though Tesco will not say exactly when. As of March Tesco had reportedly locked up 20 sites in the Phoenix area and a similar number in California. The company plans to have stores in Las Vegas, too, and has also registered to do business in Colorado, though it says it has no immediate plans to open stores there.

Tesco, Britain’s largest retailer, says it will spend over $400 million a year to get its U.S. campaign up and running. Beyond that, the company is not saying much, leaving industry observers to piece things together as best they can. “We’re following the Fresh & Easy uncertainties,” said Willard N. Ander Jr., a senior partner at McMillan Doolittle, a Chicago-based retail consulting firm. “Nobody seems to know exactly what it will be. But I think you can pretty much guess where they are going by considering where they are coming from.”

To Ander, the answers lie in the new format’s logo. “They have four messages in their logo,” he said, “and that’s about all we have to work with: fresh, easy, neighborhood and green, since the logo is green. Those four things signal where they are headed.”

The stores, relatively small at about 10,000 square feet, are expected to focus on “meal-replacement solutions” as they are called in the supermarket industry. Most observers believe Fresh & Easy will try to offer the best elements of Trader Joe’s and Whole Foods in locations that are convenient for people on the way home from work or looking for a good lunch to take to the office.

“It seems like they are going to combine convenience store offerings with something like what Trader Joe’s and Whole Foods offer, and that sounds like a concept the United States is ready for,” said Steven Brinn, a store-location consultant based in Falmouth, Maine, and a veteran of the supermarket industry. “The whole supermarket industry is moving toward meal-replacement solutions, and Tesco is going to do it in a convenient format close to where people live. It all makes sense.”

Of course, creating a new format in an unfamiliar country poses big challenges, distribution being a big one. To supply the roughly 150 stores Tesco expects to open by the end of this year, the company is building an 800,000-square-foot distribution center in Riverside County, east of Los Angeles. But permitting problems have slowed the work, and Tim Mason, head of Tesco’s U.S. operations, acknowledged to reporters in February that the center’s opening might be pushed back from July to as late as September.

Another challenge is finding the right store sites. Site-selection consultant Brinn says observers had thought Tesco wanted to create larger stores, perhaps as big as 30,000 square feet. “I think they [Tesco] were initially looking at real estate that supermarkets had pulled out of and probably found that most were not in the right demographic for what they are trying to accomplish,” he said.

The company will be able to find locations more easily at smaller sites, Brinn says. “In fact, they could do ground-up locations,” he said. “There really aren’t too many 10K boxes out there to re-use.”

That could be easier, maybe, but still hard. “They are going into markets like Las Vegas and Phoenix because they are hoping to get ahead of the growth and get new locations no one has landed on yet, but competitors are likely to have a lot of the best locations already taken,” he said. On the other hand, Tesco “is very adept at this. Site selection is one of its core competencies in Europe.”

One site offers indications of just what Tesco is looking for. In February the company signed a lease at South Mountain Pavilion, a 329,000-square-foot center in the fast-growing southern part of Phoenix that will be anchored by a Lowe’s and will include CVS, Staples and a variety of small service retailers when it opens in late summer. The median household income within five miles of the new center was $31,198 in 2005. “They are going right into Trader Joe’s territories,” said McMillan Doolittle’s Ander. In fact, there are two Trader Joe’s units in Phoenix already. Ander says there is no reason to believe Tesco will stop in the West. “If it can work there, there’s no reason it won’t work in other markets,” Ander said. “They will have the power, if they get it right, to really roll it out. They’ll have to tailor it, but as a concept it’s pretty exciting.

If Tesco does take Fresh & Easy nationwide, it could reshape the supermarket industry, the Credit Suisse report says. Although it could take several years for Tesco to test the format and expand it, “we believe retail competitors and investors need to consider the ramifications now,” the report’s authors wrote. “Tesco’s growth likely will accelerate after year two and could include acquisitions to take control of real estate.” The industry will be further changed by the fact that competitors are working hard on their responses, “including new box formats or upgrades to existing formats.”

Those responses are becoming visible. Jennifer Halterman, a senior consultant at TNS Retail Forward, a Columbus, Ohio-based consulting firm, says Pennsylvania supermarket chain Giant Eagle plans this summer to roll out Giant Eagle Express, a smaller format that will combine a convenience-oriented grocery with a drive-through pharmacy and gas station. “Giant Eagle isn’t in the markets that Tesco is going after, but Giant Eagle Express is a good reactionary concept to Fresh & Easy,” said Halterman. As for Tesco, “this is definitely the right niche for them,” she said. “It could be a launching pad for bigger things if it is successful, and there is a lot of speculation that it is going to be.”

And there may be an advantage to being the new kid on the block. Starting from scratch will allow Tesco to create a “food culture” that will appeal to affluent shoppers, Halterman says. “And it means they don’t have the C-store stigma, like hot dogs left to shrivel on the grill.”