It is fair to say that the entire industry is wondering if Tesco will have the same success in the U.S. that it has enjoyed in the United Kingdom. Tesco announced its most recent earnings report and was optimistic about the U.S. operation:
We are on track to open our first stores under the Fresh & Easy banner — on the west coast of the United States, as planned, later this year. Our El Segundo office is now staffed by over 150 people and the construction of our Riverside distribution centre on the eastern edge of Los Angeles (LA) is on schedule. Site acquisition for our 10,000 square foot convenience format stores is also going well and we expect to be able to open a significant number at launch across the LA, Phoenix, Las Vegas and San Diego markets.
Recruitment and training of staff for the stores will begin soon which, combined with the other pre-launch costs and initial trading losses, will involve a planned rise in estimated US start-up costs to around £65m in the current financial year. Thereafter, as previously announced, we expect initial trading losses to diminish and the business to move into profitability during its third financial year of operation. Our intention remains to commit some £250m of capital per annum to the US going forward, although given the phasing of our investment and the higher leasehold element of the early stores, capital invested last year was lower — at £89m. We will begin formal reporting of US performance separately within our International operations from opening.
And in fact, those 150 people now employed by Tesco in the U.S. have been busy, setting up supply chains, leasing stores and developing a U.S. website that you can see right here.
We’ve been covering Tesco’s appearance in America since the beginning, most recently with a piece looking at its real estate issues and didn’t find much new on the website.
But its earnings release pointed to a reason to believe Tesco will have trouble duplicating its U.K. success in the United States. In fact, it raised the question of exactly how profitable Tesco’s operations actually are in the U.K.
Warren Buffett, the world-renowned investor, through Berkshire Hathaway, the company of which he is CEO, has acquired a significant stake in Tesco, which has been interpreted as Buffett’s endorsement of Tesco’s chances of taking on Wal-Mart in America. The Pundit wonders if a better interpretation is that this famous value investor has noted Tesco’s substantial real estate holdings and decided that this value will eventually be unlocked.
Tesco owns a great deal of real estate and the City, London’s version of Wall Street, has been pressing Tesco to sell it. Tesco’s management has generally resisted such pleas, and when it has sold real estate, Tesco has tried to do it with complicated joint ventures through which it is impossible to know if Tesco actually got the maximum price for the property, as Tesco continues to lease the space on a basis negotiated before the sale.
Tesco CEO Terry Leahy was reported by Reuters as explaining his position this way:
“Tesco has a lot of property, but it is important to remember property ownership is an integral part of retailing and Tesco will always have a majority of its space as owned space.”
Actually, owning real estate is an excellent way for retailers to report earnings that appear sterling but are actually not providing an adequate return on deployed capital.
In retailing the relevant capital being deployed is not what a building cost 30 years ago or its depreciated basis; it is what the building could be sold for today.
As part of its annual report, Tesco announced that after some large joint ventures that transferred over 10 billion pounds sterling of property to ventures with the British Airways Pension Fund and The British Land Company PLC, Tesco still has real estate, mostly individual stores, worth 28 billion pounds sterling.
Here is the rub: The entire profit of the Tesco organization was just reported, before tax, at 2,653,000,000 pounds sterling. All else being equal, this means that if Tesco sold all the real estate and the new owners leased it back to Tesco on a net, net, net basis (meaning Tesco still had to pay the real estate taxes, insurance, maintenance, etc.) and demanded a 10% return on their investment, Tesco would lose money.
If the investors were content to make a 5% return on their money, Tesco would see its profits plummet by more than 50%. And all this assumes that Tesco’s report on the value of its property is accurate. Possibly, a true liquidation, without regard to lease terms for Tesco, would realize even higher values.
However one figures it, the mighty Tesco has an operating business that crucially depends on billions of dollars in real estate deployed at sub-par returns.
Yet in the United States Tesco doesn’t have this legacy of real estate investments and so will have to lease property at market value.
Which means, even if its U.S. operation is equally as successful as its British parent, it will be significantly less profitable than the British operation.
Our recent piece on the Disney Garden project, along with many previous pieces on the use of characters to sell fresh produce, brought to mind a Pundit experience over the Passover/Easter holidays.
The Pundit family was in Park City, Utah, and staying in a hotel in which the rooms had a full kitchen. This gave the Pundit an opportunity to shop the local Kroger banner, a Smith’s store open 24 hours a day.
Although we’ve walked through many a Kroger store, this was our first opportunity to shop one with the Jr. Pundits, Primo and Segundo — aka William (age 5) and Matthew (age 3) — and they got very excited about the broad range of Disney-themed items. Kroger, unique among America’s food retailers, has its own deal with Disney.
Unlike the Disney Garden project, it covers a wide range of non-produce items, such as dairy products, pastas, etc. We did see (and buy) a nice clamshell master package containing bagged sliced apples, and we bought both the green apple and the red apple versions but found them out of stock of the red on two subsequent visits. Also in produce we bought some Disney-themed raisins and some dried fruit mix.
Although the kids enjoyed all these products and other Disney versions we bought of string cheese, cereal and many other products, we can’t say that they ate any more of the items than they would have without the logo. And in the long term, we are not going to buy products that aren’t eaten.
One exception though: We bought a mild cheddar cheese that was shaped like the head of Mickey Mouse. The kids loved it. We could make open-faced grilled cheese sandwiches, cut the bread away from a regular sandwich in the shape of Mickey or just eat the cheese slice itself.
We would estimate that the Disney Magic Selections Mickey Shaped Sliceswere consumed at double or triple the normal consumption rate for plain old square cheddar slices. Why? Because they were more fun.
Which points to a need for more creativity in produce processing. They seem to have done something like this with cheese, with ice cream, with pasta and even hamburger patties.
In all these cases, they have changed the actual product, rather than just changing the packaging. We bet if someone could figure out how to stamp Mickey-shaped apple pieces or melon slices, they would sell and could be priced in such a way that the waste of some product might not matter.
The other notable thing about the cheddar slices is that, as far as we can tell, the Smith’s store hadn’t reduced the assortment of non-Disney product, so consumers who preferred not be reminded of Mickey Mouse with each piece of cheese could purchase cheddar in many other forms.
In most cases, if they carry a character-based item, produce retailers make it their sole display. So if a senior citizen would like to buy some fresh-cut apple slices because she doesn’t have the upper body strength to push an apple corer, she has to have a character on them. If a business executive wants to bring some to the office, he has to have a character on them.
On a bag of spinach that will be discarded and cooked, this probably won’t matter, but on a consumer package that we expect people to throw in a lunchbox or bring to the office, this could really depress sales.
We need to be looking at two things to bring about the next generation in character marketing:
How can we substantively change the product so that it will be more fun for children to eat and thus increase consumption? We have to look at character marketing as a second display geared for children, but still keep all our products available in versions suitable for adults.
Right now, it is still something of a novelty but, in time, we will need more than attractive packaging to build demand for fresh produce.
No trip for the Pundit to Park City, Utah, would be complete without a pilgrimage to see Mary Silverzweig. Mary was trying to increase produce consumption before increasing produce consumption was cool.
Mary is the star of the “Minute in the Kitchen with Mary” video series. These videos played in thousands of supermarkets throughout the country, providing nutritional information, usage advice and much more useful information.
Mary’s husband, and my friend and business partner, Stan Silverzweig, was a leading consultant. He was well known as an expert in training and human resources, famous for — along with his co-author R.F. Allen — coining the term “corporate culture.”
He came to do many projects in produce but was, perhaps, best known in the industry as the creator of PMA’s Retail Training Program, funded by a grant from Chiquita.
This program included a video series and functioned along with a set of trainers that had been trained in “Train the Trainer Seminars,” which were run throughout the country. The program, which had been created based on input from PMA’s Retail Division, educated a generation of store-level employees in everything from food safety to customer service, with countless benefits to retailers and consumers across the nation.
Stan was working on transitioning all his training materials to the latest in computer-aided training when, in a tragedy that could have been prevented by more competent medical intervention, Stan died too young. He left a young widow and growing children. The Pundit gave a eulogy at a service held in the Chapel at the United Nations and wrote about Stan here.
Mary looked wonderful, in the way that people who live in cold areas where outdoor activities are the common recreation somehow do. And the joy of the trip was that she brought along Mary and Stan’s eldest son, Zach, whom we had not seen for many years.
Zach is a young man now, finished with college, just engaged to be wed, and I wonder if he knows how much he is like his father. We had lunch and he spoke just like his father — the unusual mind finding wide ranging connections between seemingly disparate events, combined with the most soft spoken of demeanors.
There was also one similarity with his father that Zach could have lived without. Stan had had testicular cancer and at only 20 years old, Zach was diagnosed with testicular cancer that had already spread to his lymph system. He fought hard and bravely, and, today, thankfully, is in good health.
This adversity spawned an idea that has turned into Zach’s new business venture, a web-based community to provide free online personal training. Here is how Zach explains it:
The idea behind providing free exercise planning and team-based fitness started in 2003 when I was diagnosed with cancer. After major abdominal surgery and two rounds of chemotherapy I weighed only 135 pounds and I needed help to get out of bed. Then I started to get focused on recovery.
I created an exercise program and started keeping track of my diet. Eight months later, I was back up to 175 pounds and stronger than I had ever been before. That was when I first realized the potential of what would become fitResolution.
Since then, I’ve been working with several Silicon Valley entrepreneurs to turn a concept and business plan into ZAS Fitness LLC, which owns and operates fitResolution.com. My group of advisors includes those who have worked with companies such as Adobe, Apple, Coca Cola, Disney, Google, Microsoft, and The Facebook. ZAS Fitness LLC is backed by a team of investors who are firmly committed to seeing this project turn into a national success.
When we saw what Zach was doing it made us think of our piece, Increasing Produce Consumption At the Worksite, which focused on the work Curtis Granger was doing with the Public Health Institute in California.
If we are serious about combating obesity, increasing produce consumption is only part of the answer. We also have to decrease consumption of some not-so-healthy foods and increase our levels of exercise.
It is important that the produce industry be seen as encouraging exercise; otherwise the admonitions to increase produce consumption come across as self-serving.
Zach’s new program is open to the public in beta test mode right now. Because it is self-contained and web-based, it is the kind of program that is easy for any produce organization urging increased consumption to link to and get involved with.
Zach’s father did a lot for this industry and his son has created a tool that we can find useful as well. He calls it fitResolution.com and you can check it out right here.
Our piece, Imagination Farms/Disney Garden Score Big Points With PBH And Pixar, included word about a “strategic alliance” between Imagination Farms, the people behind the Disney Garden project, and the Produce for Better Health Foundation that brought a torrent of criticism. Everyone seems afraid to speak on the record but the gist is outrage and a feeling of betrayal that PBH would be willing to declare itself "aligned" with one competitor’s brand. This, from a longtime PBH contributor, was among the more printable comments we received:
Read your piece regarding Imagination Farms and the Produce for Better Health Foundation with great interest. While I think it would be wonderful if Disney would align with PBH on spreading a great message to increase produce consumption and certainly, if they are committed, Disney has media outlets and PR capabilities to reach many more people than any produce company does, it is worth bearing in mind that Imagination Farms is not The Walt Disney Company.
It is a produce company that, along with its producing partners, competes every day with the very companies PBH is always asking for money and support.
The folks at the Produce for Better Health Foundation have a “tin ear” and should recognize how long-time donors feel when they read a press release such as the one the Pundit brought to our attention.
It is inappropriate for PBH to be choosing sides in the commercial battles that make up the day to day business in our industry. But what else can anyone draw from a statement such as this one contained in the release: “We are excited to be aligned with Imagination Farms and the Disney Garden brand,” remarked Elizabeth Pivonka, President & CEO of the Produce for Better Health Foundation.”
“Aligned” — What could that mean? Aligned against other produce companies, such as our own, that fight against Imagination Farms for shelf space every single day of the year?
We’ve always supported PBH, but our company is not in the habit of giving money to people aligned with our competitors.
I understand PBH being tempted to go for the marketing support but don’t the executives at PBH realize that they risk alienating a lot of companies with competitive brands? In many cases companies that have supported the foundation for years and years? Is this the way their loyalty to PBH is repaid?
PBH ought to look at the big picture and long term future of the Foundation. Jumping on a great promotion with a new company that has the license to use Disney characters may make for some short term gain — but long term PBH is biting the hand that feeds the Foundation.
They should also be careful. The Disney Channel is filled with ads for junk food. Is PBH really certain they want to give Disney “protective cover” as it sells loads of foods not sanctioned by the Foundation? Alliances go both ways and this one may lead to consumer confusion about what PBH is really endorsing.
It is a powerful letter and makes some powerful points. At very least the word “aligned” is inappropriate. The terms of the agreement are unclear but it would have been desirable for PBH to insist on a non-exclusive agreement and thus be open to utilizing characters from other organizations.
The devil is in the details, of course, but it is fraught with difficulties to use what is now a mascot on the products of particular companies to promote the industry in general. Just ask how long Dole would support PBH if Miss Chiquita were to start appearing on the web site?
It also is true that merely putting characters on things is a weak form of marketing, as Frank McCarthy told us in his letter, “Borrowed interest is never an effective marketing tool.” The Walt Disney Company could powerfully boost produce sales by tying in with its theme parks, movies, ABC and other parts of the company. So to some extent the critique that the alliance we need is with that company rather than a Disney licensee is pertinent.
We’ve never really understood why Disney is taking the approach it has anyway. As we wrote in our comments on Frank’s letter:
Which brings to the forefront a question: Why charge a licensing fee? Getting Disney’s various characters on healthy, fresh foods all over the world is a major plus for Disney — think of it as millions in free advertising. Why reduce the scope of the program and its likelihood of success by demanding money?
Why shouldn’t Disney pay Imagination Farms to build out the network and give them the mandate to get the widest possible distribution? The produce industry is too small and the margins on commodity products too tight to return any significant amount of money to Disney. But think about what it would be worth to Disney to affiliate itself with good health for kids and helping Mom feed kids right by holding a press conference announcing that Disney, as part of its efforts to help parents make sure their kids eat healthy food, was going to make its characters available without license fee to encourage children to want to eat them. I think the value of that stand-up attitude would far exceed any amount of license fee Disney will ever get for its brand in produce.
If Disney’s characters were not aligned with one specific brand, but were freely available, like the Fruits and Veggies — More Matters logo, to be used to generically promote all fresh produce, then there would be no problem forming an alliance with PBH, and Disney would get many more consumer impressions of affiliation with healthful food than it can get now. That would more than pay for giving up its licensing fee.
To our correspondent’s final point about Disney selling junk food, they have a point in that for a while 5-a-Day was rejecting recipes for Strawberry Shortcake and other desserts because they didn’t meet stated criteria. But PBH seems to have learned to relax a bit over the years. We are supposed to urge people to eat right, not be the joyless food police. Still, affiliations are always delicate and we have to be careful that our message doesn’t get muddied in our choice of partners.
Many thanks to our correspondent for this valuable letter.