Tesco Starts Accounting Probe of Inflated Profit Forecast

Tesco Plc started a probe of accounting practices and suspended four executives, including its U.K. chief, after overstating its first-half profit estimate.

The shares plunged as much as 12 percent to their lowest in more than a decade after the biggest British supermarket chain said that some income was booked before being earned and costs were recognized later than incurred. The result was that the company’s 1.1 billion-pound ($1.8 billion) projection for first-half operating profit was about 250 million pounds too high.

The investigation is the latest challenge for new Chief Executive Officer Dave Lewis, who was brought in this month after the ousting of his predecessor Phil Clarke. It’s the third time the company has lowered its profit outlook in two months as Tesco has lost customers, particularly to discounters Aldi and Lidl, loosening its grip on the U.K. grocery market.

“Today’s announcement will further undermine market confidence in a company that has already lost a lot of investor goodwill,” Neil Saunders, an analyst at researcher Conlumino in London, said by e-mail. “Mistakes do happen, but this gives the impression of a company that is not in full control of its internal procedures. More significantly, it means that performance -- which is already extremely weak -- is actually much weaker than anticipated.”

‘Under Pressure’

Tesco stock was down 8.6 percent at 209.9 pence as of 2:30 p.m. and has lost 37 percent of its value so far this year, on track for its fifth straight annual decline. The grocer’s 1.25 billion euros of 1.375 percent senior unsecured bonds due July 2019 dropped the most since they were sold this year.

“We have uncovered a serious issue and have responded accordingly,” Lewis said. “We will take decisive action as the results of the investigation become clear.”

Deloitte LLP will undertake an independent review, working alongside Tesco’s legal adviser Freshfields Bruckhaus Deringer LLP, according to the Cheshunt, England-based company, which put its first-half results announcement back to Oct. 23. A spokesman for the company’s auditor, PriceWaterhouseCoopers LLP, declined to comment.

The profit overstatement was brought to the CEO’s attention by the company’s general counsel after a tipoff from a member of Tesco’s finance department, according to a person familiar with the matter, who asked not to be identified.

Tesco can’t be definitive that 250 million pounds is the maximum overstatement, according to the CEO, who said he was made aware of the matter on Sept. 19. The probe will relate to income received from suppliers, said Lewis, who dealt with Tesco as a supplier during his previous career at Unilever.

U.K. Head

“The investigation will go back and look at the commercial income for Tesco,” Lewis said on a conference call. “It looks substantively to be in the first half of this year. That’s where the investigation will start. If the investigation takes me into another year, I follow it there if necessary.”

Robin Terrell, head of multichannel at the grocer, will take over the running of the U.K. business, he said, a position held since early 2012 by Chris Bush. Bush, a 32-year Tesco veteran, is among those to have been suspended, said the person familiar.

Lewis’s difficulties are being compounded by the absence of a finance director. The grocer said in April that Laurie McIlwee was stepping down from the role and recruited Marks & Spencer Group Plc’s Alan Stewart as his successor, though he isn’t due to join until Dec. 1 due to contractual obligations.

McIlwee hasn’t been in the office for weeks, Lewis said today. Tesco is exploring all options regarding an early start for Stewart, he said.

‘Kitchen Sinking’

Tesco had its worst sales decline in more than two decades in the 12 weeks ended Aug. 17, according to researcher Kantar Worldpanel. Revenue dropped 4 percent and market share fell 1.4 percentage points to 28.8 percent. Meanwhile, discounters Aldi and Lidl have maintained their record shares of 4.8 percent and 3.6 percent, respectively, thanks to the half of U.K. households who shopped at either outlet.

“It was evident to many that there was a lot of kitchen sinking coming and we had seen that the accounts were overstretched,” said Bruno Monteyne, an analyst at Sanford C. Bernstein in London. “To David Lewis’ credit, he is again on the front foot, tackling the issues head on. It raises serious questions though for the board and Phil Clarke.”

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