The British are coming: How Tesco plans to cater to the U.S. market

Mark Barratt wants to see Tesco succeed in America. The British expatriate and assistant professor of supply chain management at the W. P. Carey School and his wife have lived in the U.S. for five years, and they still haven't found a one-store replacement for the U.K.'s monster chain. Tesco's five-year, $2 billion commitment to the U.S. is beginning with the opening of 58 stores in California, 31 in Arizona and 13 in Las Vegas, bringing a taste of what's made it the world's third-largest retailer.

Mark Barratt wants to see Tesco succeed in America. The British expatriate and assistant professor of supply chain management at the W. P. Carey School and his wife have lived in the U.S. for five years, and they still haven't found a one-store replacement for the U.K.'s monster chain. Tesco's five-year, $2 billion commitment to the U.S. is beginning with the opening (as of July) 58 stores in California, 31 in Arizona and 13 in Las Vegas, bringing a taste of what's made it the world's third-largest retailer, behind Wal-Mart and France's Carrefour.

Barratt, who grew up with Tesco and supervised student projects with the company in his academic tenure in Britain, says Target's mix of offerings in a bright, clean setting comes closest to the Tesco experience. Yet he cannot name a U.S. retailer whose business model relies on execution above efficiency in the same way as Tesco's. Should Tesco fail in the U.S., says Barratt, it will be because it failed to build a brand.

However, it will not be trying to cram its formula for success elsewhere down American throats; it spent too much time on covert customer-research operations in the past two years for that — living with families and building a full-scale store in a warehouse for consumer testing. Barratt says Tesco's distribution expertise along with its research and smarts will be the likely reasons for its success.

"If they've got their homework right, they've understood the American consumer as to what they need," Barratt says. "They're very smart people. They're not going to go into this and say, 'Yeah, that's no problem, the Tesco model will work in the U.S.'" The Tesco approach has been very different from Wal-Mart's foray into Germany, for example.

"Tesco is not Wal-Mart saying, 'Let's go to Germany because the Wal-Mart way will work in Germany.' Well, it doesn't and it didn't," he said. "Wal-Mart simply assumed that their model and style would work in Germany — but you cannot simply get rid of managers — the German labor laws do not allow this." Doubters aside, Tesco will make it work: "I'd be very surprised if it goes horribly wrong," Barratt said.

A distribution philosophy

In the U.K., Tesco operates five formats:

1. Tesco Extra stores are larger, mostly out-of-town hypermarkets that stock all of Tesco's product ranges.
2. Tesco Superstores are standard large supermarkets, stocking groceries plus a much smaller range of non-food goods than Extra.
3. Tesco Metro stores are sized between Superstores and Tesco Express stores. They are mostly located in city centers and on the main streets of small towns or villages.
4. Tesco Express stores are neighborhood convenience shops, stocking mainly food with an emphasis on higher-margin products (due to lack of economies of scale) alongside everyday essentials.
5. Tesco Homeplus stores offer all of Tesco's ranges except food in warehouse-style units in retail parks

Tesco's American debut revolves around a sixth format: Fresh and Easy Neighborhood Markets, complete with a clock in the shape of an apple in its logo. The stores will be 10,000 to 15,000 square feet, and will be food-centric. Barratt says the American chains that should most worry about this format are Fry's and Kroger, rather than convenience stores or Costco and Wal-Mart.

Should this original concept work, analysts say growth could be swift, with perhaps other formats to follow, formats that position their selection as all things to everyone. Then, Wal-Mart should sweat; a California foothold for Tesco would encourage the newcomer to challenge Wal-Mart where it is most rare — there are only 22 Wal-Mart supercenters in California, compared to 279 in Texas. Most anticipated is Tesco's approach to prepared meals, and it will be judged on the healthiness and freshness — it's right there in its name.

Barratt says the key to Tesco's food success is its distribution philosophy. It chooses to make more deliveries of fewer items, eschewing efficiency — everything on one truck per week is "efficient but possibly ineffective," for food says Barratt — in favor of building volume of customers to ensure product turnover and thus freshness. The "everything to everyone" approach from the U.K. will be evident not in the range of goods they sell at first in the U.S. (this is not the format that resembles Target), but in Fresh and Easy locations.

Many will be in middle-to-lower income areas. "If you translate some of their performance measures for distribution, it's goal-oriented. It's not just designed to be as efficient as it possibly can," Barratt says. "If they can still make enough money doing it, they'll do it, because that's their mentality — 'We're reaching as many customers as we can, OK, now we'll look to see how we can save money, but let's keep the execution side of it going.'"

That's all well and good in the tight confines of the U.K., which could fit into Texas a couple of times. Tesco should be able to reproduce that model in the near-term, as its first stores will be regionally accessible from just a couple of distribution centers. It also has imported help from its British distribution partners.

Tesco's advantage: control of the first impression

Assuming Tesco recreates its supply-chain execution, its main challenge will be attracting enough customers to move the product fast enough to cover its inefficiencies. W. P. Carey marketing professor Ruth Bolton says the format's name was a great start, and because so many people decide what's for dinner on the drive home, its prepared-meal execution could be an important differentiator.

The Fresh and Easy footprint calls for 70 parking spaces, beckoning those who don't want a long search for a space followed by treks to and inside the store. Studies show that Americans shop at two main stores per week for groceries. "I think they've really found something here," Bolton says of Tesco's positioning between convenience stores and grocery stores. "The Fresh and Easy is really very clever.

With the large format stores like Wal-Mart you're sure not thinking really fresh quality food, and you're sure not thinking easy, because just getting out of the parking lot and finding the grocery aisle is a huge problem. They've really differentiated." Bolton said U.S. market research papers she has written with Venkatesh Shankar offer a set of recommendations that Tesco seems to be following.

"One of our recommendations was, segment by store format, so what they're basically doing is they're coming in with an innovative store format," Bolton says. "Another one of our recommendations was, have distinctive categories, so people can't compare you with another supermarket because what you're stocking is different." One of Tesco's challenges will be catching up to the established reputations of its U.S. competitors, many of whom, facing pressure from Whole Foods-like markets, have upgraded their prepared-food offerings and produce presentations.

Tesco does have the opportunity to control its entrance and image, its first impression. That includes a green sensibility in their structures and operations &mdash much of its U.K. trucking fleet switched to biofuels last year &mdash and healthy, organic foods. It’s an image that entrenched competitors will struggle to replicate quickly. "They get to say who they are," says Bolton. "They don't have any baggage behind them.

Fry's or Albertson's — people already think they know who they are. They could move toward organic, healthy foods, energy conservation, but it's going to be hard for them to convince consumers that things have really changed that much." She says if the Fresh and Easy concept is a success, it will hurt the grocery chains most. Consumers will do bulk shopping at a Sam's Club or Costco, and will make multiple trips to Tesco's stores for groceries, won over by freshness and variety.

Once Tesco establishes itself, it can begin to build and leverage its loyalty-card expertise, says James Ward, professor of services marketing at the W. P. Carey School. Tesco and its data partner Dunhumby have maximized the program's data collection; its loyalty card doesn't only provide benefits to customers, it helps the chain with market research, trend analysis and new product introductions, and thus further customer satisfaction.

The customer-service goal is to tailor offers as personally as possible, and to that end, Tesco sends 5 million different mailings to 12 million customers. Loyalty-card programs have been commoditized, says Ward, especially in the grocery channel. Though it seems intuitive that data gathered from customer purchases through such programs can be used for much more than me-too purposes and to attract consumers with discounts, few do it as well as Tesco.

For instance, it has used customer data from its club card to develop its private label product lines and to determine which products price-sensitive shoppers buy. Ward says more companies don't maximize their programs because it takes a long time to build the database, and it takes an expert staff to analyze and leverage the information. "It's a real commitment to do effectively," says Ward.

Ready, set, react!

With $80 billion in worldwide sales, Tesco must be and is being taken seriously. Its U.K. competitors Sainsbury's, and Marks and Spencer failed in U.S. entries, but no one predicts a similar fate for Tesco based on those attempts. As Barratt says, Tesco learned lessons in arrogance long ago; it works well with others, and is neither afraid of new ideas nor of admitting mistakes.

It understands adjusting to new markets, as it has shown in places as diverse as Eastern Europe and Asia — Tesco boasts $21.6 billion in overseas sales, compared to nearly $70 billion in the U.K. Now the diversity of markets will be in the same country — regulation-heavy California is sometimes seen as a republic all its own.

Tesco used to be a "stack it high and sell it cheap" grocer. There was limited selection, lots of inventory and low prices: "Horrible," says Barratt. It began its climb to the top in the 1980s under Lord McLaurin. It opened its first Express store — closest to the Fresh and Easy concept — in 1994. In 1995, it launched the Clubcard. In 1997, Terry Leahy became CEO. Leahy became a disciple of Harvard professor Robert Kaplan and his "Balanced Scorecard" system, which emphasizes intangibles rather than traditional accounting.

Leahy had Tesco managers zero in on customers, staff, operations and finances, using a traffic-light code; green for targets met, red for problems. Tesco introduced price-tiered groceries and its foray into non-food offerings was wildly successful. Last year that segment accounted for 20 percent of sales. One-stop shopping at Tesco's largest stores includes financial services and insurance.

First things first, however. Tesco was at first very cautious about the Express format, opening just two more in the year after the first. By 2006, there were 830 in the U.K. Its initial pace in the U.S. appears to surpass that — its first distribution center could service 350 stores. "Tesco will be facing a rather rapid market response," says Ward. Check back a year from now to monitor both Fresh and Easy and that response.

Bottom Line:

• As part of its research of the American consumer, Tesco staff lived for two weeks with scores of families in California and did focus-group studies in a full-scale store mockup hidden in a warehouse.
• It will not try to win through efficiency; rather, it wants to establish customer volume before looking to streamline.
• Though disadvantaged by having no brand awareness in the U.S., that newness works in its favor — by differentiating with its in-between format, its prepared and fresh foods offerings, and its energy-conserving buildings, Tesco gets to control its initial image. Established competitors will have a hard time matching that.
• Tesco's loyalty card program is world class because of the way it analyzes and uses the data generated to not only serve the customer better and more personally, but also to run its business better through new-product launches, trend-spotting, etc.
• Tesco is not merely bringing its model for success in the U.K. and other countries to the U.S. It has experience with different cultures and has learned to adjust and collaborate.

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