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Can Diversification Power Tesco's Growth?

By Tony Reading - Apr 9, 2013 at 7:51PM

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Tesco has unique strengths.

LONDON -- Before its infamous profit warning, Tesco (TSCO -1.16%) (TSCD.Y -1.26%) stood out in two ways: Its U.K. grocery market share of 30% was double its rivals, and it was more diversified.

The company has remained sotto voce about diversification while repairing the neglected U.K. grocery business. And it would be too early to call the recovery of its core business. Its shares are still 6% off their pre-profit warning level, against a FTSE 100 rise of 13%.

But the company's six-point plan to "Build a Better Tesco" through investment in training, stores, and price promotions is well under way, and there's a strong chance of it proving successful. A dominant market share is a great starting point. The preliminary results, due next week, could be the platform for management to boast of progress.

So if the stock market is the future discounting mechanism it's supposed to be, sentiment might soon switch back to focus more on Tesco's distinct advantages.

One clever new strand of diversification helps the U.K. grocery business. Tesco aims to broaden the appeal of its large stores with family-friendly facilities. It bought the restaurant chain Giraffe last month, and has taken stakes in the Harris and Hoole coffee chain and the upmarket cakes and sandwiches chain Euphorium Bakery.

But the big diversifications are online, telecoms, banking, and geographically.

Everything digital
An online platform is a "need to have," but Tesco can roll it out to its international businesses. It's also the biggest virtual mobile phone network operator in the U.K. and has launched a movie-streaming service, Blinkbox.

Tesco's bank is a stand-alone operation, much larger than Sainsbury's joint venture with Lloyds Bank. Recently, it started offering mortgages. With the reputation of the high-street lenders trashed and the U.K. government keen to make changing current accounts easier, Tesco Bank could become a serious player.

Geographically, success has been mixed. Europe and Asia contribute more than 30% of total grocery sales, but Europe has been held back by the eurozone crisis.

Tesco's failure in the U.S. is a warning of the dangers of overseas expansion. It now plans to exit, as it has done from Japan. But with limited room for growth domestically, Tesco's foreign forays offer a potential upside over the other supermarkets, if it can get the execution right.

Yielding 3.9%, Tesco's solid U.K. grocery business and diversified growth options earn it a place in my portfolio.

It's also one of the stocks selected for "5 Shares to Retire On," a brand-new report from The Motley Fool. It describes five shares that could form the core of any holding, whether you're saving for retirement or shorter-term goals: companies with healthy balance sheets, dominant market positions, and reliable cash flows.

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$255.30 (-1.16%) $-3.00
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Tesco PLC
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