Tesco in China Essay

TESCO AND THE SUPERMARKETIZATION OF CHINA AN ANALYSIS OF THE CHINESE RETAIL INDUSTRY AND TESCO’S STRATEGIC POSITION WITHIN IT Prepared by: Martin Witthoeft Module Title: Strategic Management Module Leader: Graham Webster Module Code: BC315017S Academic Year: 2008/9 Semester: One Level: 3 Submitted: 17 December 2008 Table of Contents 1. The Supermarketization of China …………………………………………………………………………. 1 1. 1. 1. 2. China – Land of Opportunity …………………………………………………………………………… Tesco on Course of Expansion …………………………………………………………………………. 1 2. Part 1: Analysis of the Chinese Retail Market ………………………………………………………… 2 2. 1. 2. 2. 2. 3. 2. 4. PESTEL Analysis ……………………………………………………………………………………………… 2 Porter’s Five Forces Analysis …………………………………………………………………………… 5 Opportunities and Threats Analysis …………………………………………………………………. Critical Success Factors Analysis ………………………………………………………………………. 8 3. Part 2: Analysis of Tesco in China………………………………………………………………………….. 9 3. 1. 3. 2. 3. 3. 3. 4. Porter’s Value Chain Analysis ………………………………………………………………………….. 9 Balanced Scorecard Analysis …………………………………………………………………………. 10 Ansoff Matrix Analysis ………………………………………………………………………………….. 3 Strengths and Weaknesses Analysis……………………………………………………………….. 14 4. Future Outlook on Tesco in China ……………………………………………………………………….. 15 4. 1. 4. 2. 4. 3. Learning Curve for Expansion ………………………………………………………………………… 15 Strategic Recommendations………………………………………………………………………….. 16 Is Tesco able to deliver its Strategy? ……………………………………………………………… 17 5. List of References………………………………………………………………………………………………. 18 i List of Tables Table 1: Tesco’s International Strategy Table 2: Current Shopping Trends in China Table 3: Opportunities and Threats in the Chinese Retail Market Table 4: Critical Success Factors in the Chinese Retail Market Table 5: Financial Results for Tesco in Asia Table 6: Ansoff Matrix Analysis of Tesco in China Table 7: Strengths and Weaknesses of Tesco in China 4 7 8 11 13 14 List of Figures Figure 1: Porter’s Value Chain for Tesco China ……………………………………………………………….. 9 Figure 2: Tesco’s “Steering wheel”………………………………………………………………………………. 10 Figure 3: Tesco’s “Steering wheel update” & “Shopping list” …………………………………………. 12 ii 1. The Supermarketization of China China is the emerging force in today’s business world and its domestic market bears huge growth potential for multinational companies.

This report focuses on China’s supermarket industry and shows how multinational Tesco is competing in what Gale and Reardon (2004) call the “supermarketization” of China. 1. 1. China – Land of Opportunity China is the sixth largest economy in the world with a GDP of $ 3,241 billion in 2007 and an annual growth rate of 9. 8 per cent in 2008. The growth of real disposable income at an annual rate of 11. 5 per cent is resulting in a rapidly emerging middle class (Economist, 2008). 1. 2. Tesco on Course of Expansion

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Tesco PLC is the leading British and the World’s third biggest retailer operating in twelve countries around the globe. Tesco has advanced very quickly with its internationalisation, gained foothold in Eastern Europe but withdrew from markets like France, Taiwan and South Korea (Tesco PLC, 2008). Table 1 below shows a brief summary of Tesco’s international strategy. Tesco’s International Strategy 1. Be flexible in each market 2. Act local to the community 3. Maintain focus on the customer 4. Use multiformats for a successful approach 5. Develop capability in terms of skill . Build brands for long-lasting customer relationships Table 1: Tesco’s International Strategy Source: Adapted from Tesco PLC, 2008 1 In 2004, after a three year analysis of the Chinese market, Tesco decided to team up with Taiwanese Ting Hsin and took a 50 per cent stake of its hypermarket chain Hymall in a joint venture that was topped up to 90 per cent in 2006 (Tesco PLC, 2008). There are now 58 Tesco hypermarkets and four Tesco Express stores on the Eastern coast of China in the major cities like Shanghai, Beijing and Shenzhen/Guangzhou.

Tesco has made the commitment of adding another ten stores per year and is developing supply hubs in these key regions (Tesco PLC, 2008). 2. Part 1: Analysis of the Chinese Retail Market 2. 1. PESTEL Analysis Outlined below is a PESTEL analysis to understand the forces of change in the Chinese retail industry. I. • Political and legal TRADE REGULATIONS: The retail industry is not considered to be a prestigious industry by the Chinese government and is therefore not sanctioned like the heavy industry sector.

Examples of the French hypermarket Carrefour, that ignored or bent the rules and was not punished for it, illustrates that China does not see a need to restrict the development of this industry (Jones, 2004). • MODERNISATION: Local governments are shutting down the traditional street markets (so-called wet markets) and convert them into supermarkets. The aim is to expand the retail networks of chain supermarkets into China’s western provinces (Gale & Reardon, 2004). 2 • OPEN MARKET: Since 2001 the Chinese retail market has been open to foreign multinationals due to China’s entry into the WTO.

Only one third of the companies in China are still state controlled (Economist, 2008). II. • Economic ECONOMIC GROWTH: GDP growth is expected to drop from 11. 9 per cent in 2007 to 8. 2 per cent in 2012. However, domestic demand is to remain strong in the next five years as consumption will rise due to overall wage growth (Economist, 2008). • TAXATION: The rate of corporate income tax in China is 25 per cent. There are however special tax rates available for companies which are investing in preferred sectors and regions, e. g. the Western provinces (Economist, 2008). •

SUPPLIERS: Since most of the fresh produce originates from China, it is essential to find local suppliers able to provide goods according to international quality standards (Jones, 2004). III. • Social DEMOGRAPHICS: The population growth rate of China is 0. 629 per cent in 2008 with a current average life expectancy of 73. 18 years. Age distribution in China is characterized by a small youth group (0-14 years account for only 20. 1 per cent, ages 15-64 for 71. 9 per cent and 65 & over for 8 per cent) due to the one child policy of the Chinese government introduced in 1979 (CIA World Factbook, 2008). HEALTH AWARENESS: After thousands of infants have been poisoned by milk contaminated with the industrial chemical melamine, Chinese customers are more concerned about product safety than ever before (Arlidge, 2008). • CULTURAL NORMS: There is a danger of forcing a foreign format onto the Chinese shopper as it might result in rejection of the foreign supermarket chain (Gale & Reardon, 2004). 3 Table 2 below shows current shopping trends in China. Current Shopping Trends in China 1. How to buy? 2. Where to buy? 3. What to buy? 4. When to buy? 5. How much to buy? 6.

Who is buying? Always in person, no online shopping or other methods available. At the closest store possible – no transportation available. Many of the everyday products Chinese consume are an issue for Western animal rights activists. 1 Almost daily to buy fresh produce. 2 Average expenditure per customer is 80 RMB (? 7. 61) & Chinese only buy as much as they can carry. 3 Most of the population in the major cities are singles. Table 2: Current Shopping Trends in China Sources: Action against Poisoning, 2000 2 Gale & Reardon, 2004 3 Wheatley, 2007 1 IV. • Technological

DISTRIBUTION: Due to its vast landmass and poor infrastructure it is essential to establish a net of warehouses at strategic locations and to outsource distribution to a strong distribution partner with great local knowledge (Jones, 2004). • SUPPLIERS: Finding suppliers with the necessary IT capabilities to be integrated into an existing distribution system can prove to be a challenge (Wheatley, 2007). • LIVING STANDARDS: Few Chinese households are equipped with a refrigerator so the shopping behaviour is not likely to shift quickly to one big weekly shopping trip (Wheatley, 2007). V. Environmental WASTE: The Chinese government recently abolished plastic bags, an example of environmental decision making in China which can happen quickly and involve radical changes (Shipeng & Graham-Harrison, 2008). 4 • RECYCLING: The Chinese government made continuous efforts to introduce recycling programs through its “National Economy and Social Progress Plan” (China Daily, 2004). • CONTROLS: Due to international pressure China has become sensitive to the issue of pollution and there is a trend towards stricter controls of firms in recent times (Shipeng & Graham-Harrison, 2008).

PESTEL Summary: Move Westwards and Respect Traditions The Chinese retail industry is encouraged by the government to spread westwards to eventually cater all parts of China and to help to achieve an equally high standard of living throughout the country (Gale & Reardon, 2004). The traditional Chinese shopping habits are deeply rooted and should be respected while introducing Western shopping concepts. Educating the Chinese shopper of how to improve their shopping experience should be introduced in stages to limit the danger of rejection (Wheatley, 2007). . 2. Porter’s Five Forces Analysis Shown below is Porter’s Five Forces analysis to assess the balance of power in the Chinese retail industry. I. • • • Threat of new entrants High cost of entry due to the need to set up new distribution channels (Jones, 2004). Competitors might retaliate with price war or bad publicity (Kumar, 2007). Differentiation is important since China is a very price sensitive economy (Arlidge, 2008). II. • Threat of substitute products or services Food is a basic need but non-food products could be substituted eventually. 5 • •

Retailing could be bypassed by internet shopping therefore eliminating hypermarkets. Traditional stores offering human contact are an alternative to hypermarkets (Gale & Reardon, 2004). III. • • Bargaining power of suppliers Bargaining power of suppliers is rather low, especially for small farming businesses. Huge international brands of the likes of Unilever or Proctor & Gamble have more power due to international brand awareness. • It is difficult to find local suppliers that confirm with international standards, giving the existing suppliers a short-term advantage for bargaining. IV. • Bargaining power of buyers Bargaining power of buyers is very high towards small suppliers, e. g. small farmers. Switching costs between suppliers are moderate and are decreasing with growing experience in the market. • Higher economies of scale due to international expansion increase the power of buyers. V. • Rivalry among existing competitors The domestic retailers in China have a competitive advantage due to the time before 1992 when they were protected from their international rivals. Now Carrefour, Wal-Mart and Tesco are entering the market almost simultaneously (Jones, 2004). •

The retail industry is now shifting its focus from the richer Chinese eastern coast to the poorer western provinces. According to Wheatley (2007), the chain that masters this challenge best is destined to be the major player in China in the future. • Local competitors are quick in copying working strategies and using them to their favour (Jones, 2004). 6 Porter’s Five Forces Summary: Build Networks and Choose Strategic Store Locations In conclusion to the analysis above, the first step in being successful in the Chinese retail industry is to build a network of approved suppliers and a cost efficient distribution system.

The next step is to open supermarkets at the right locations and finally cater the needs of the Chinese customer in a better way than the competition. With the Chinese supermarket industry still in its infancy and all major multinational supermarket chains eyeing towards China, there will be fierce competition for the Chinese shopper in the near future. 2. 3. Opportunities and Threats Analysis Shown in Table 3 below is a summary of opportunities and threats in the Chinese retail industry based on conclusions of the foregoing analysis of PESTEL and Porter’s Five Forces.

Analysis of the External Environment Opportunities • Size of the market • Huge industry growth • Political backing for industry • Expansion into the Western part of China • Retail partnerships with local companies • Market is not highly regulated • Trend towards Western lifestyle Threats • Market is in its infancy • Intense rivalry in the market • Unstable political environment • Poor infrastructure • Hard to find good staff & suppliers • Raw material prices are on the rise & impact profit margins Table 3: Opportunities and Threats in the Chinese Retail Market

Opportunities and Threats Summary: Focus on Research Domestic supermarket chains have an advantage in terms of local knowledge, customer preferences and shopping habits as well as long-term experience in the market. Foreign firms on the other hand differ from the Chinese approach with innovations, lean distribution 7 systems with advanced IT integration and the attraction of Western lifestyle (Thorniley, 2008). Sensitive market approach and in-depth research can minimize the risk of failure in this market and help to gain a competitive edge over the competition (Wheatley, 2007). 2. 4. Critical Success Factors Analysis

Outlined in Table 4 below is a Critical Success Factors analysis to identify the factors that matter most to be successful in the Chinese retail industry. Critical Success Factors Success Factor 1. Product quality 2. Proximity of stores Description Importance to build trust in own brand due to recent food poisoning scandals. 1 Chinese daily shopping behaviour happens at the nearest store due to lack of transport. 2 3. Chinese management In China’s trust based and family focused culture locals should be employed in the stores. 4. Economies of scale China is a price sensitive market resulting in the need for ever lower priced goods. 5.

Differentiation With the simultaneous entry of retailers the market it is vital to have differentiated approach. 3 Table 4: Critical Success Factors in the Chinese Retail Market Sources: Arlidge, 2008 2 Gale & Reardon, 2004 3 Jones, 2004 1 Critical Success Factors Analysis: Learn about Chinese Values According to McKinsey’s Hong Kong branch there is only room for five major players in the Chinese retail industry in the next 15 years, thus expelling weaker players from the market. Foreign firms are unfamiliar with Chinese customs, laws and regulations and have to put in an extra effort to survive in this market (Penhirin & Miu, 2002). In order to gain market share a differentiated approach in line with Chinese cultural values is necessary. In addition to that retailers must find an innovative approach to use their knowledge effectively thus setting themselves apart from their rivals. 3. Part 2: Analysis of Tesco in China 3. 1. Porter’s Value Chain Analysis Shown in Figure 1 below is Porter’s Value Chain analysis to understand how value is created within Tesco’s organization. FIRM INFRASTRUCTURE HUMAN RESOURCE MANAGEMENT TECHNOLOGY DEVELOPMENT PROCUREMENT

Financial policy – Accounting – Regulatory compliance – Quality management – Legal – Community affairs Recruitment/training Recruitment/training Recruitment/training Recruitment/training Recruitment/training & reward of customer & reward of quality & reward of shop& reward of till staff & reward of sales/ service staff Marketing staff controllers floor staff/managers IS/IT system integration with suppliers for ordering, stock control & accounting Information Technology Communications – Supplier selection – Quality control – Warehousing & distribution network (outsourced) – Customer – Store Operations management policy – Till Operations – Stores location – Back-of-store – Packaging operations – Store development – Internet shopping – Promotion – Advertising – Store layout – Loyalty scheme (Tesco Club card) – Customer service section – Complaint Follow-up department Market research, media choice & PR Customer satisfaction tracking system INBOUND LOGISTICS OPERATIONS OUTBOUND LOGISTICS MARKETING & SALES SERVICE Figure 1: Porter’s Value Chain for Tesco China

Source: Adapted from Porter, 1985 9 Value Chain Summary: Focus on Core Competences In the advancement of the joint venture between Tesco and Ting Hsin both partners are now focusing on their core competences: Tesco is focusing on the implementation and migration of the common IT infrastructure and the optimization of the supply chain and Ting Hsin is concentrating on further expanding its market share as the leading food producer in China (Tesco PLC, 2008). Tesco has outsourced its warehousing and distribution network internationally to focus on its core competences, IT integration and developing a lean supply chain (Elsevier Food International, 2005).

The company is also gaining valuable market data through its loyalty scheme by introducing the Tesco Club card in China. Tesco is able to track all purchases and customize its marketing efforts for each individual store due to foreseeable customer behaviour (Tesco PLC, 2008). 3. 2. Balanced Scorecard Analysis Outlined in Figure 2 below is a Balanced Scorecard used to demonstrate how Tesco motivates its employees to deliver its strategy on a day-to-day basis. Figure 2: Tesco’s “Steering wheel” Source: Tesco PLC, 2008 10 According to Tesco’s CEO, Sir Terry Leahy, the adaptation of the Balanced Scorecard research by Robert S. Kaplan into the Tesco “Steering wheel” helped the company stay focused on its strategy in the last twenty years.

The wheel has five 90 degree arcs which represent the four Balanced Scorecard performance areas of Finance, People, Operations and Customers as well as of Community, a field recently added by Tesco (Kaplan, 2008). I. Finance Table 5 below shows the financial results of the first six months in 2008 for Tesco in Asia. Financial Results for Tesco in Asia 2008 in million ? Asia sales (inc. VAT) Asia trading profit ? 3. 171 ? 145 change in % 16. 0% 16. 9% Table 5: Financial Results for Tesco in Asia Source: Tesco PLC, 2008 According to the figures above, sales grew by 16. 0 per cent to ? 3. 2billion and trading profit increased by 16. 9 per cent to ? 45 million in the first half of the financial year 2008 (Tesco PLC, 2008). Tesco China contributed with rapid sales growth but Tesco still made a small planned loss in this trading period due to the establishment of its operations and supply hubs in China’s main economic regions (Tesco PLC, 2008). II. People Sir Terry Leahy, CEO of Tesco exemplifies Tesco’s mission in the following statement: “Tesco doesn’t want one leader. We want thousands of leaders who take initiative to execute the strategy” (Kaplan, 2008). 11 III. Operations Outlined in Figure 3 below are the “Steering wheel update” and the “Shopping list”, two of Tesco’s main operational tools.

Figure 3: Tesco’s “Steering wheel update” & “Shopping list” Source: Tesco PLC, 2008 Tesco’s slogan “Every little helps” can be translated to constant incremental improvements of the steering wheels’ five arcs. Figure 3 above shows a template of the “Steering wheel Update”, a monthly report tailored to each store with individual feedback on its performance in key areas. In addition to this report, Tesco attaches “Shopping lists” to describe in simple terms key elements of the wheel so employees can incorporate them in their daily activities (Kaplan, 2008). IV. Customers Tesco has a strong commitment of putting customers’ interests first. The main ocus is therefore on its ‘Everyday Low Price strategy’ in combination with other promotions. The 12 goal is to regularize low prices for Tesco customers and offer low prices not as a strategic option, but on a daily basis (Tesco PLC, 2008). V. Community The addition of this fifth arch to the steering wheel shows that Tesco recognizes its corporate social responsibility for the community. Therefore, it initiates numerous activities including four Tesco summer soccer camps, which were held during August 2008 for employees’ children and kids from special schools in Shanghai, and a national basketball contest held in October 2008 (Tesco PLC, 2008). 3. 3. Ansoff Matrix Analysis

Shown in Table 6 below is an Ansoff Matrix analysis to understand the risks of different options for Tesco`s growth. Products Existing Market Penetration Existing • Improve service and quality • Repositioning / advertising • Loyalty program (Tesco Clubcard) New Product Development • “Tesco Value” branding to Chinese products • Introduce new Chinese products Markets Market Development • Online grocery shopping Diversification • Tesco store branding of joint Chinese joint venture stores to raise brand awareness • Inner-city Tesco Express stores Table 6: Ansoff Matrix Analysis of Tesco in China New • Introduce self-checkout • Move into Western provinces • Find different target groups Source: Adapted from Ansoff, 1957 13

Ansoff Matrix Summary: Start with Loyalty Scheme Establishing the Tesco Clubcard loyalty scheme in China involves low risk since an existing product is placed in an existing market. Higher risk operations include introducing online grocery shopping to China, a move into a new market with an existing product; or the branding of Chinese products with the “Tesco Value” label, where a new product is created for an existing market. Most risky options include opening an inner-city Tesco Express stores involving the move into a new market with a new product. Going into multiple quadrants simultaneously further increases the level of risk (Manktelow, 2008).

Tesco might want to take chances with some of the riskier options in order to keep up with its rivals but through close examination of the market and gradual introduction of new ideas it can limit the risks to a minimum. 3. 4. Strengths and Weaknesses Analysis Outlined in Table 7 below is a summary of Tesco’s internal strengths and weaknesses based on conclusions of the foregoing analysis of Porter’s Value Chain, the Balanced Scorecard and the Ansoff Matrix. Analysis of Internal Perspective Strengths • Experience in successfully entering foreign markets • Steady growth in both home market an internationally • Detailed market insight through loyalty scheme (Tesco Club card) • “Retailer of the year 2008” at World Retail Awards Weaknesses Rapid international growth could weaken control • Fast expansion difficult due to lack of experience in Chinese market • Hypermarket format lacks flexibility of other more focused competitors • Tesco’s mid and higher priced products will suffer due to economic slowdown Table 7: Strengths and Weaknesses of Tesco in China Source: Adapted from Tesco PLC, 2005 14 Strengths and Weaknesses Summary: Respect Cultural Differences On its ambitious campaign into the Chinese retail market Tesco has successfully adapted to local conditions and is supported by its steady international growth (Tesco PLC, 2008). However, during what Tesco’s corporate affairs director Lucy Neville-Rolfe calls the “need to go local” (Jones, 2004), Ken Towle, head of Tesco China points out that “Tesco is not here to change people’s habits”. In order to ensure long-term success, Tesco’s main attention must be on satisfying the arising needs of the Chinese costumer (Wheatley, 2007).

The analysis of Tesco’s weaknesses indicates that a well-planned approach with a moderate speed of expansion could be right recipe for Tesco’s continuous growth in China. 4. Future Outlook on Tesco in China 4. 1. I. Learning Curve for Expansion Tesco’s downturn in the Past Tesco has learned his lesson when taking on about 100 Catteau stores in Northern France in 1993 that it sold to Promodes just five years later with a great loss. Since then Tesco’s focus has been to grow steadily and surely (Foster, 2004). II. Tesco starts Small Tesco started its venture in China in a small way and built it up in what Mumford at Cavendish Asset Management calls a “sensible and responsible way” (Foster, 2004). III. Tesco is Patient

Williams at Seymour Pierce adds that instead of using its traditional expansion strategy of buying into the number one or two retailer in China, Tesco opted to enter China through a smaller-sized retailer to learn about consumer trends and the market (Foster, 2004). 15 IV. Tesco focuses on Learning Mumford points out that Tesco’s entry strategy in China aims to firstly gain a foothold in the market, then learn about the market and finally expand on a large scale. Williams calls this “a wise decision” due to the size and diversity of the market (Foster, 2004). V. Tesco goes Local According to David McCarthy, managing director of food retail research at Citigroup, a key element in Tesco’s international growth is to use a local scale rather than a global scale strategy, which includes local sourcing and utilising local management (Foster, 2004). 4. 2. Strategic Recommendations A. T.

Kearney’s Global Retail Development Index (GRDI) indicates that Tesco’s future success in China will depend on two major factors, firstly on knowing when and how to move into key second-tier cities and secondly on Tesco’s ability to understand consumer readiness (Kuipers, 2008). • MOVE TO SECOND-TIER CITIES: Given the saturation of China’s first-tier cities in the coastal regions like Shanghai, Tesco lags behind in expanding into Tier-two cities like Nanjing, which are twenty emerging cities with twelve per cent of the Chinese population, and Tier-three cities like Chengdu, which are smaller provincial capitals (Kuipers, 2008). • CUSTOMER READINESS: The other key challenge for Tesco is to tailor products and services to consumer readiness and assessing the real consumer needs in the area.

Tesco still has to learn about the highly diverse consumer preferences and buying habits between different provinces in China (Kuipers, 2008). 16 4. 3. Is Tesco able to deliver its Strategy? Concluding the analysis of Tesco’s expansion in China above, Tesco’s focus should be on long-term strategic options rather than quick expansion at all costs. Further emphasis should be given to the expansion into key regions and adapting to local customer needs. Williams at Seymour Pierce concludes that the greatest threat to Tesco’s growth could be Tesco itself either through arrogance or over ambition. He admits however, that this remains an unlikely prospect to him (Foster, 2004).

Mumford’s final comment on Tesco’s future growth in China is that when “looking ten years’ ahead it could be regarded as a bit of a coup” (Foster, 2004). 17 5. List of References Action against Poisoning, 2000. Butchered Alive, [Online] (Updated 2000). Available at: http://www. actionagainstpoisoning. com/page276/page314/cryTurtleslive. html [Accessed 17 November 2008]. Arlidge, J. , 2008. Tesco Express rolls into China. The Sunday Times, [internet] 13 April. Available at: http://business. timesonline. co. uk/tol/business/industry_sectors/retailing/ article3671705. ece [Accessed 17 November 2008]. China Daily, 2004. China to develop recycling economy, [internet] 9 November.

Available at: http://www. chinadaily. com. cn/english/doc/2004-11/09/content_389917. htm [Accessed 20 November 2008]. CIA World Factbook, 2008. China – People, [Online] (Updated 20 Nov 2008). Available at: https://www. cia. gov/library/publications/the-world-factbook/geos/ch. html [Accessed 20 November 2008]. Elsevier Food International, 2005. Outsourcing: Tool of the Future for Retailers, [internet] 28 November. Available at: http://www. foodinternational. net/articles/ecr/10/outsourcing-tool-of-thefuture-for-retailers. html [Accessed 19 November 2008]. Foster, S. , 2004. Tesco’s four-point master plan. Elsevier Food International, [internet] 1 September.