UK's Tesco says ends talks on Turkish business

ISTANBUL Tue May 27, 2014 10:24am EDT

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ISTANBUL (Reuters) - UK-based retailer Tesco Plc has failed to reach a deal with unnamed third parties over its struggling business in Turkey, a new setback for Chief Executive Philip Clarke as he seeks to rein in the group's global expansion and fix the core business at home.

Tesco and the company's Turkish subsidiary Tesco Kipa, which it bought in 2003 and now operates 192 stores, made the announcement in brief statements on Tuesday.

Shares in Tesco Kipa fell 11.5 percent to 1.31 Turkish lira ($0.64), valuing the company at around 1.74 billion lira ($835 million). Tesco's shares were down 0.4 percent at 302.95 pence at 1255 GMT.

Under pressure to focus on turning around falling sales in Britain, where Tesco generates two thirds of its revenue, Clarke has already done deals to sort out other problem businesses abroad - in Japan, the United States and China.

"For Tesco, like in China, like in America, like in various other deals they've done, this is about a considerable amount of capital investment that hasn't produced any return," said Mike Dennis, analyst at Cantor Fitzgerald.

"This is probably going to lead Tesco to close more stores in the central part of Turkey and scale down its investment into Turkey. So by definition the drag on Tesco's group return on capital is going to continue."

Tesco Kipa, Turkey's sixth-largest supermarket chain, reported a net loss of 630 million lira ($302 million) for the fiscal year ended Feb. 28, although in the last quarter of that period sales rose by almost 5 percent. It also made a net loss of 293 million lira in the previous year.

The business has also been losing cash, with average free cashflow a negative 205 million lira ($98 million) a year over the five years between March, 2008 and February, 2013, according to Thomson Reuters data. Over the same period cash flow from investing activities averaged a negative 216 million lira a year.

Foreign players like Tesco were drawn to Turkey by annual retail sector growth rates of more than 10 percent, but fierce competition in a fragmented market has seen margins squeezed.

Many Turks prefer to shop at local, family-run grocery stores, with major retailers accounting for as little as 30-50 percent of the market, according to research by Boston Consulting Group (BCG).

Tesco Kipa has a market share of just 1.4 percent.

Kipa said in its statement on Tuesday that Tesco's talks with various companies "regarding partnership options" had ended without agreement, while Tesco only said it had ended talks concerning "potential options" for its Turkey business.

GRADUAL IMPROVEMENT?

Instead, Tesco said it would accelerate a plan to focus the business on Kipa's heartland around Izmir on Turkey's western coast, which it has said is very profitable, while "minimising capital spending and improving profitability".

"The efforts of the team in Turkey are already evident in a stronger customer offer and improved performance and there is more we can do to drive stronger cash generation and returns," Tesco said in a statement.

Tesco has been restructuring Kipa's business in eastern Turkey around Ankara, where its stores are bigger and the brand is not so well known, closing nine loss-making stores in the 2013/14 fiscal year.

Tesco said last month it had seen a "gradual improvement" in like-for-like sales in Turkey over the 2013/14 year although revenue from the business fell 9 percent to 679 million pounds ($1.14 billion), as Kipa suffered from "strong competition and our relative exposure to large store formats".

A Tesco Kipa official who declined to be named told Reuters: "We think that Turkey is full of good opportunities and that Tesco has reached the right decision ... We think our performance in the last quarter is a good start on this path." Tesco Kipa said in February it was in preliminary talks "with various companies regarding various options" after the Financial Times had said one possibility involved a combination with the country's biggest food retailer, Migros. Migros is owned by private equity firm BC Partners.

Last month, Clarke came under new pressure as Tesco reported a second straight year of falling profit and took a 734 million-pound charge on its European and Chinese businesses. Tesco's British business is still losing market share even after Clarke invested over 1 billion pounds on improving services and stores, prompting the firm to abandon its industry-leading margin target two months ago.

(Additional reporting by Kate Holton and Neil Maidment in London; Writing by Emma Thomasson; Editing by Daren Butler and Greg Mahlich)

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