CtW Investment Group Calls on Tesco Director to Address U.S. Pay and Performance Failures at Friday's AGM

Jun 30, 2010, 08:00 ET from Change to Win

WASHINGTON, June 30 /PRNewswire/ -- The CtW Investment Group has called on Patrick Cescau, incoming Senior Independent Director of Tesco PLC (London: TSCO), to step forward at Tesco's July 2nd Annual General Meeting to address investor concerns with the poor performance of Tesco's U.S. business and the excessive pay of its U.S. chief executive, Tim Mason.  The board's failure to link Mr. Mason's pay to U.S. performance is expected to result in significant shareholder opposition to the Directors' Remuneration at the AGM.  The full text of yesterday's letter from CtW to Mr. Cescau is below:

June 29, 2010

Mr. Patrick Cescau

Senior Independent Director

Tesco PLC

Tesco House

Delamare Road

Cheshunt, Hertfordshire EN8 9SL

United Kingdom  

Dear Mr. Cescau,

We call on you, as incoming Senior Independent Director, personally to step forward at Tesco's Annual General Meeting this Friday to describe the steps the board of directors is taking to exercise independent oversight of Fresh & Easy and restore the link between pay and performance for its chief executive, Tim Mason.  

Poor performance and inadequate disclosure at Tesco's U.S. venture are at the heart of mounting investor concerns over the board's strategic oversight and commitment to transparency and pay for performance.  Last week's report in the Financial Times that Tesco has acquired two key suppliers to Fresh & Easy has only exacerbated these concerns; by approving the acquisitions, Tesco's board is effectively doubling down on a U.S. venture whose viability is increasingly in question.  

As incoming Senior Independent Director, it is incumbent upon you to address these concerns before they further erode investor confidence in the board.  And as a member of the board's Audit and Remuneration committees, you are well-positioned to do so.  The specific issues we would like you to address at the AGM include:

  • the steps the board has taken independently to assess the viability of Tesco's U.S. business strategy, including its recent decision to acquire the two suppliers;
  • the performance metrics and targets that the board will disclose going forward to allow shareholders to evaluate Fresh & Easy's future performance; and
  • the steps the board has taken to ensure that Mr. Mason's incentive pay, and that of other senior executives, will be tied to appropriate metrics that are both measurable and disclosed.  

The CtW Investment Group works with pension funds sponsored by unions affiliated with Change to Win, a coalition of U.S. unions representing nearly six million members. These funds have over $200 billion in assets and are substantial long-term Tesco shareholders.  

As you may know, CtW has urged Tesco shareholders to vote against the Directors' Remuneration Report at the AGM, based on the Remuneration Committee's acute failure to link Mr. Mason's pay directly with U.S. performance and its apparent modification of previously established performance targets.  Based on recent discussions, we believe many of Tesco's institutional investors share our concerns, both with the Remuneration Report and with broader issues of strategic oversight and disclosure with respect to Fresh & Easy.  We detail these concerns further below.

The Need for Greater Transparency on Fresh & Easy's Targets and Performance

Since first announcing its Fresh & Easy venture, Tesco's board has been unduly reluctant to disclose the unit's performance targets or acknowledge the setbacks it has experienced, which have been serious.  Fresh & Easy lost 165 million pounds Sterling in the last fiscal year, on the heels of a 140 million pounds Sterling loss in the previous year.  As you know, Tesco previously projected that Fresh & Easy would break even by the end of 2009.  Additionally, despite Tesco's claim that Fresh & Easy is enjoying sales of $11 per square foot per week, we estimate that actual weekly sales are closer to $9 per square foot.  

In the face of these disappointing results, the Remuneration Committee awarded Mr. Mason increased "performance related" pay specifically tied to the U.S. business. During the 2009/2010 fiscal year his total remuneration grew from 3.8 million pounds Sterling to over 4.2 million pounds Sterling, or by nearly 13%. This 480,000 pounds Sterling increase was entirely accounted for by increases in short-term cash and preferred share awards which, according to the Remuneration Committee, are supposed to be tied to operational performance for which Mr. Mason is responsible. Over the past fiscal year, when Fresh & Easy's trading loss deteriorated by 18%, the short term component of Mr. Mason's performance related pay grew from 1.8 pounds Sterling million to 2.3 million pounds Sterling, or by 27%.

Fresh & Easy's continuing performance and disclosure problems have eroded the confidence of independent analysts and investors alike.  Last month, MF Global downgraded Tesco from Neutral to Sell in part because Tesco's "U.S. strategy lacks credibility and transparency."(1)  A month earlier, Citigroup's Food Retail analyst asked "Should owners of Tesco be calling for a U.S. exit?"  While noting that Fresh & Easy's cash consumption is small compared to the company's resources globally, Citigroup's analyst warned that "there is no end in sight to the drag [Fresh & Easy] exerts."(2)

The apparent decisions to abandon the U.S. market by 2 Sisters and Wild Rocket Foods, Tesco's principal meat and produce suppliers, are the latest votes of no confidence in the U.S. venture's viability.  As a consequence, Tesco was apparently compelled to buy out the suppliers' U.S. operations.  Given that both firms are major suppliers to Tesco globally and established their U.S. operations solely to supply Fresh & Easy, we can only conclude that they did not arrive at their exit decision lightly.  We can only assume these effective insiders saw the writing on the wall and concluded that Fresh & Easy was unlikely to achieve critical mass to be viable.

Adding to our concern is the fact that the two acquisitions represent a departure from Tesco's historic approach to retailing.  Tesco has generally eschewed direct ownership of suppliers, preferring instead to forge long-term relationships with suppliers who are committed to meeting Tesco's standards for quality and timely delivery.  The commitment to long-term supplier relationships has allowed Tesco to maintain a high level of influence over the standards its suppliers adhere to, without having to undertake the costs, complications, and distractions of vertical integration.  

Summary

Shareholders have long been concerned by the failure of Tesco's management and board to provide shareholders with concrete targets by which to judge the viability of the U.S. venture and the performance and compensation of its chief executive, Tim Mason.  But there is no question that Fresh & Easy has grown much more slowly than planned and has continued losing money when it was supposed to break even.  With its two key suppliers abandoning the U.S. market, the need to provide shareholders with full disclosure of concrete performance and compensation metrics has become acute.  

By stepping forward at Friday's AGM, not only can you assure shareholders of the board's commitment to enhance disclosure and re-establish the link between pay and performance at Tesco, but you can also take an important step toward restoring investor confidence in the board's independent oversight of Tesco's business strategy.  

We look forward to your response.

Sincerely,

William Patterson

Executive Director

Cc: Tesco PLC Board of Directors

** Note: For additional information or comment please contact Michael Garland at michael.garland@changetowin.org or visit www.ctwinvestmentgroup.com. **

NOTES:

(1) "The Point of No Returns" MF Global Equity Research Report on Tesco, May 5, 2010. p. 1.

(2) "Tesco: The Year Ahead Might Be Difficult Too," Citi Food Retail Report, April 21, 2010, p. 4-5.

SOURCE Change to Win