WRAPUP 1-Tesco's UK progress outshone by Sainsbury

Wed Oct 3, 2012 4:16am EDT

* Tesco Q2 UK underlying sales up 0.1 pct

* Tesco H1 trading profit 1.6 billion pounds, down 10.5 pct

* Tesco says encouraged by customer response to changes

* Sainsbury Q2 underlying sales up 1.9 pct

* Tesco shares down 1.2 pct, Sainsbury flat

By James Davey and Neil Maidment

LONDON, Oct 3 (Reuters) - Tesco, Britain's biggest retailer, showed its fightback plan following a shock profit warning was starting to make a difference as it stemmed sales falls, but its performance was outshone by rival J Sainsbury .

Tesco, the world's third-largest retailer behind France's Carrefour and U.S. leader Wal-Mart, launched a 1 billion pound ($1.61 billion) recovery plan in April to reverse a steady decline in UK market share to Wal-Mart's Asda, Sainsbury and Morrisons.

Tesco, which accounts for more than one in every 10 pounds spent in British shops, stunned investors in January with its first profit alert in more than 20 years. It said on Wednesday it had ended 18 months of underlying sales declines with a tiny rise in its second quarter.

But the Tesco result was overshadowed by Sainsbury, Britain's No. 3 grocer, which reported a 31st consecutive quarter of underlying sales growth, beating analysts' expectations.

Both Tesco and Sainsbury expect the tough UK economic backdrop to persist, as consumers' disposable incomes are squeezed by government austerity measures and wage growth lags behind rises in prices, particularly for fuel.

Tesco, which earns nearly 40 percent of its trading profit outside Britain, also highlighted a particularly difficult economic backdrop in Asia and central Europe, previously fast-growing regions where it is hoping to expand.

While Tesco's shares have fallen 12 percent over the last year, Sainsbury's have risen 26 percent, recently buoyed by the return of speculation regarding a possible renewed bid attempt from Qatar, which now holds a 26 percent stake.

Shares in Tesco were down 1.2 percent at 0938 GMT, while shares in Sainsbury were flat, outperforming a FTSE 100 index down 0.3 percent.

FIGHTBACK PLAN

Tesco said sales at UK stores open more than a year, excluding fuel and VAT sales tax, rose 0.1 percent in the 13 weeks to Aug. 25, its fiscal second quarter.

That compares with analysts' average forecast of flat sales and represents an improvement on a first-quarter decline of 1.5 percent.

In the five months since Tesco CEO Philip Clarke launched his fightback plan, the firm has recruited 8,000 more permanent staff to give customers better service, devoted more store space to food, given stores a warmer look and feel, revamped food ranges and invested more in lower prices, money-off vouchers and marketing, making better use of customer information gleaned from its Clubcard loyalty scheme.

The firm, which trades from nearly 3,000 UK stores, has also stepped up spending on internet and smartphone services, expanding its online range and rolling out its Click & Collect service of buying online for pick up in store.

"I am encouraged by our customers' initial responses to the changes we have made - but there is much more to be done," said Clarke.

The UK investment was largely responsible for Tesco's first fall in profits in nearly two decades.

First half group trading profit fell 10.5 percent to 1.6 billion pounds, while UK trading profit fell 12.4 percent to 1.1 billion pounds - both in line with analysts' expectations.

Sainsbury said sales at stores open more than a year, excluding fuel, rose 1.9 percent in the 16 weeks to Sept. 29, its fiscal second quarter.

That beat analysts' average forecast for it to match its first quarter rise of 1.4 percent.

The firm has been outperforming rivals, helped by strong growth online and in smaller convenience stores.

Sainsbury has also benefited from the success of its "Brand Match" pricing promotion, own-label food ranges, market share gains in general merchandise and a shrewd decision to sponsor the hugely successful London Paralympic Games.

Tesco's problems are not confined to intense competition in Britain. Questions remain over its long-term commitment to U.S. chain Fresh & Easy where trading losses narrowed by just 1 million pounds to 72 million pounds.

Also in South Korea, Tesco's biggest overseas market, legislation allowing local governments to impose shorter trading hours is hurting sales, with the firm warning it would knock 100 million pounds off 2012/13 profit.