2 Pound Parma

As Aldi and Lidl Sell Lobsters, Tesco Spies an Opening

But it needs Booker to take on the discounters.
Max Flatow Photography

In for a pound, in for a penny.

Tesco Plc is looking to open a chain of value supermarkets under a separate brand to take on the no-frills leaders, Aldi and Lidl, according to the Sunday Times.

Britain's biggest grocer would be late to the discounter party. Dave Lewis has been chief executive officer for three years and hasn't shown any interest in this up to now. Instead, he's been trying to take his own prices closer to those at the value supermarkets.

Tesco's been down this route before. Former CEO Terry Leahy introduced a suite of secondary brands, and sought to portray Tesco as Britain's Biggest Discounter. But this failed to gain traction, and fizzled out.

Value Play

Investors shrugged off Tesco's plans for a discount supermarket

Source: Bloomberg

So what's changed? If Tesco's acquisition of wholesaler Booker Group Plc for about 3.8 billion pounds ($5.3 billion) goes ahead, its buying power will increase substantially.

The deal would also give Tesco some useful skills in competing with the German onslaught. Booker already runs a chain of local discount stores. It has 55 outlets under the Family Shopper banner. Their prices are pitched between what could be found in a full-range supermarket and a hard discounter. They are typically situated closer to where customers live, such as on housing estates, and offer the longer opening hours of a convenience store.

Family Shopper doesn't look like it's part of the Tesco plan. That seems a bit odd. Although it's tiny, it's a useful base from which to build a broader value supermarket, and Tesco needs all the support it can get in taking on Aldi and Lidl.

There is a danger that Tesco cannibalizes its own stores. But this risk is manageable.

The big four supermarkets -- Tesco, Walmart Inc's Asda, J Sainsbury Plc and Wm Morrison Supermarkets Plc -- don't have to offer exactly the same prices as the discounters. As long as they are similar, then they can legitimately charge more for a broader range of products, mainstream brands, the convenience of finding everything under one roof, and a bigger parking lot.

There's another element that might work in Tesco's favor. Aldi and Lidl have been progressively moving upmarket in order to capture the cash-strapped middle classes. That has been paying off: their growth has continued to outstrip that of the big four. Aldi has even overtaken Waitrose as Britain's favorite supermarket, according to consumer group Which?.

Discount Dash

The German no-frills supermarkets have enjoyed strong growth over the past three years

Source: Kantar Worlpanel

Rolling 12 week data

But this also makes Aldi and Lidl's stores look more expensive, even if their prices have not changed, disenfranchising some traditional customers.

That opens up the opportunity for another operator to come in with an even narrower range and cheaper prices. With the extra firepower from Booker, that could well be Tesco.

There's one big caveat: the grocer needs the wholesaler for its discount dash.

Up until a few days ago, that looked like a done deal. But Sandell Asset Management Corp, a U.S. hedge fund and Booker investor, is calling for Tesco to raise its offer.

Gadfly has argued that Tesco should be more generous. With Booker integral to the company's future growth plans -- including building a rival to Aldi and Lidl -- it needs to do everything it can to ensure the purchase of Booker goes through. That includes paying up.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

    To contact the author of this story:
    Andrea Felsted in London at afelsted@bloomberg.net

    To contact the editor responsible for this story:
    Jennifer Ryan at jryan13@bloomberg.net

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