Oct 23, 2014
Tesco scraps profit outlook as accounting black hole deepens
Oct 23, 2014
LONDON, United Kingdom - Tesco reported a bigger than expected hole in its finances on Thursday after finding accounting mistakes had gone back further than initially thought, forcing Britain’s biggest grocer to scrap its full-year profit outlook.
Tesco, once the unstoppable juggernaut of the British retail sector, has lost half of its market value this year after the accounting misstatement compounded earlier profit warnings to create a sense of panic at Britain's biggest private employer.
Chief Executive Dave Lewis, drafted in on Sept. 1, said he could no longer provide a full-year profit forecast because he did not know the scale of Tesco's problems or how much it would cost to rebuild the world's third largest grocer.
With net debt rising, the pension deficit expanding and trading in its home market deteriorating at an alarming rate, the 95-year-old group said it was looking at all options to raise cash. Its shares fell 6 percent to an 11-year low.
"Our business is operating in challenging times," said Lewis, who joined Tesco from supplier Unilever. "Trading conditions are tough and our underlying profitability is under pressure."
"The UK, the balance sheet, trust and transparency and the brand of the business will be the priorities for now," he said.
Tesco said the overall impact from the incorrect booking of income was 263 million pounds ($421 million), up from an original estimate of 250 million pounds but that nobody had gained financially from the overstatement of profits.
Lewis, 49, said investors should not expect the presentation of a single new strategy; rather, a series of incremental improvements that would unfold over time.
Richard Broadbent, chairman since 2011, said he would step down when Tesco’s management transition was complete and its new business plans were in place.
Having grown rapidly through the 1990s, Tesco lost its way in the late 2000s as it cut back on investment at home to expand abroad. It then further damaged its appeal by favoring investors over shoppers with price hikes during the economic downturn in an attempt to shield profits.
The group is now being squeezed by fierce competition from discounters Aldi and Lidl at the lower end of the market as well as by rivals such as Waitrose and Marks & Spencer at the top, and by changing British shopping habits.
The big out-of-town stores it long championed are now out of fashion, with more people preferring to shop little and often at local stores or online, meaning the group is set to report its third straight year of decline in trading profit.
"Tesco doesn’t need to be the big sprawling business that it is," one of the group's largest shareholders told Reuters on the condition of anonymity. "They should be in contraction mode.
"(The accounting issue) is still pretty horrible ... and it’s not closed off yet."
'CHALLENGE AND DISAPPOINTMENT'
The results showed the scale of the crisis facing Tesco's new boss who admitted he had no quick answers.
First-half trading profit dropped 41 percent while second-quarter organic sales in its home market, excluding fuel and VAT sales tax, fell 5.5 percent. That compared with a 3.8 percent drop in the first quarter, which was described at the time as the worst performance in 40 years.
Net debt rose to 7.5 billion pounds from 7 billion pounds the year before and compared with an equity value of 14 billion pounds. The pension deficit ballooned by 800 million pounds in six months to 3.4 billion pounds.
"Tesco has had quite a few years of challenge and disappointment," said Shore Capital analyst Clive Black. "However, we can never recall a period so damaging to the reputation of the company as the first half, 2015."
Asked if he would need to turn to shareholders for cash, Lewis said the group was reviewing all options. Large shareholders have told Reuters they would rather the group sold assets, such as its international operations, before they would consider a rights issue.
They would also want to see a full strategy for the group before agreeing to a capital hike, but the discovery of the accounting hole has pushed back the development of a turnaround plan.
Lewis, who said he had been visiting his British stores to get an idea of how shoppers view the retailer, said the accounting probe had taken up so much time that he had been unable to visit stores abroad.
Tesco said last month it had discovered an overstatement in its first-half profit forecast of 250 million pounds ($401 million) due to the way it booked payments from deals with food suppliers, sending shockwaves through the industry.
Having been tipped off by a whistleblower, Lewis called in accountants Deloitte to carry out an independent investigation along with legal advisers Freshfields.
It said on Thursday, having captured 6.3 million documents and reviewed 18,000 invoices, the overall impact had now risen to 263 million pounds. There was no evidence of material issues outside of the British food business.
Eight senior members of staff, including UK managing director Chris Bush have been suspended, in a serious blow to a firm as it gears up for the key Christmas trading period.
Bush and the suspended staff have not commented publicly on the issue. The internal investigation has now been shut, leaving the country's financial regulator (FCA) to investigate how the malpractice came about.
"The Deloitte investigation established the what, the size of the issue that we had," Lewis said. "The FCA will establish the why and the how," he said, adding that they did not expect to have to take any further charges in connection with the issue, at this stage.
Tesco said on Thursday of the 263 million pounds, around 145 million pounds came from prior years. A spokesman for the firm said that figure was not sufficiently large enough for the group to have to restate those previous results.
The accounting mistakes will affect its second half however.
"We have a full business review underway," Lewis told reporters. "We’ll reassess the capabilities we have and the assets we have and we will redesign the strategy and the competitive position for Tesco."
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