What's the significance of Tesco's £804m property writedown for Tesco and its rivals?

In April 2008, Tesco’s property team pulled off a major coup when the retailer announced it had purchased Development Securities’ property holdings in Kirby town centre, Merseyside, for a reported £65m.

The retailer subsequently snapped up an adjacent piece of land from Knowsley Council on which it planned to build a new retail park complex alongside a state-of-the-art football stadium for Everton Football Club. The Tesco-anchored scheme would provide the catalyst for the long overdue regeneration of Kirby and received backing from the local council in addition to the thumbs up from the then Tesco CEO Sir Terry Leahy, a life-long Everton fan.

Five years on the retailer must be ruing its decision. Although Tesco is still committed to developing a store on the site, with work due to get under way this year, the plans had to be significantly revised after the government rejected the football club’s new stadium plans in 2009. According to one property analyst, the retailer paid way over the odds for the land and has “dropped millions on it”.

This is just one isolated example of where the retailer fell foul of the supermarket space race, but there are numerous others.

Over the last decade or so Tesco’s property strategy was to snap up chunks of available land throughout the UK - sometimes with the intention of building stores on them, sometimes as a strategic play to stop rivals acquiring sites. With rivals hell-bent on catching up, the cost soared and the retailer sometimes overpaid significantly for sites.

The full consequences of this strategy were unveiled last week when, following a review of its property pipeline, Tesco announced a whopping one-off UK property write-down of £804m. As part of a “fundamental change” in its approach to new space, Tesco revealed it had identified more than 100 sites, “the majority of which were bought between five and 10 years ago at a higher point in the property cycle, which we no longer plan to develop and have therefore written their values down”.

But where are these sites and will other retailers follow the company’s lead in the coming months?

Tesco refuses to divulge details on the specifics of the 100-plus sites, but a spokesperson says “the write-down includes a mix of sites. From sites where we have been unsuccessful through planning, to locations where we have decided not to extend existing stores. It also includes mixed-use developments where we have decided not to proceed or where our current scheme is smaller than we originally proposed”.

Less value than a food store

Despite its reluctance to reveal specifics, it’s understood that planned store extensions and new store developments in places like Middlewich, New Barnet, Coalville, Nottingham, Bridlington and Sittingbourne are among the list of sites included in the writedown.

A review of Glenigan’s database of stalled Tesco construction projects suggests that “around a third of the sites are likely to be in London and southern England and a further 36% in the Midlands and the east of England,” says Glenigan’s economics director Allan Wilén.

The reason the retailer is having to take a hit is because the value of these sites, based on their existing or future use, will be significantly less than a food store use, according to property agents DTZ. “They are most likely to be secondary and tertiary property assets where values have dropped on average about 60% and in extremity 90% from the 2007 peak,” says the spokesperson.

Although the company’s property losses look bad when bundled together on paper and totted up, Tesco is acting as many other commercial property owners have in revaluing their property portfolios over the last five years or so.

“This is no different from the bad debt book of some of the banks,” says one property expert. “Tesco has been more active than anybody else over the last decade, so it’s not surprising their legacy is bigger than everyone else.”

Follow my leader?

Indeed, it may not be the only retailer forced to hold up its hands and admit that it made mistakes at the height of the space race.

“There is a degree of follow my leader in the food store market,” says a property adviser who has undertaken work for the big four. “Arguably all of them will have sites they no longer want to progress.”

Glenigan’s Wilén agrees. “Given Sainsbury’s geographical coverage and a similar convenience store strategy, the firm may also formally announce that it is cancelling its plans for a number of these sites.”

But if any rival supermarket group or property developer thinks it will pick up the sites Tesco is no longer looking to develop on the cheap, they can think again.

“This isn’t going to be a fire sale,” says one property investment expert. “It will be an orderly disposal and the sites will be realistically priced. There won’t be any bargains.”

Tesco might even realise a future windfall if it can secure alternative uses, such as residential development, for some of the sites.

Despite being stung by the experience, the retailer is still searching for new sites, but like its rivals it’s taken a new approach to its quest for space. “All of the mults are active at the moment, but they’re much more moderate and cautious in what they’re looking for,” says a property insider. “They’re not as gung ho as they used to be.”