Is Tesco about to start a price war?

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Tesco store

We could be about to see Tesco cut prices dramatically. The chain has faced disappointing results recently, and investors expect something drastic in response. Experts are suggesting this drastic response could involve the company abandoning its profit targets and kicking off a major round of price cuts.

But why, and what will it mean for shoppers?

Profit target cut

Tesco has been targeting an impressive 5.2% profit margin - the highest in the industry. However, as a result it has struggled to compete on price with the discounters. It has seen its market share fall from 30% to 29.2% this year, as stores such as Aldi and Lidl take a bigger slice of the weekly grocery shop.

For other companies a 29.2% market share might be enough, but not for the country's biggest supermarket chain, which is apparently planning to take drastic action and cut its profit margin.

This was first mentioned as a possibility in October, when the company hinted that it could be more flexible about profit margins. Since then we have seen sales figures for Christmas lower than the same period a year earlier, and The Guardian reported there has been further deterioration at the beginning of 2014.

One retail analyst, Bruno Monteyne of Bernstein Research, said in a recent note to investors that in response Tesco would drop the target. A report in the Daily Mail said that the strategy would be confirmed tomorrow.

Price war?

The good news is that this would mean a major 'repositioning' of Tesco prices, so for those wedded to the brand for reasons of loyalty or convenience, their weekly shop will get less expensive.

The question is whether this will spark a price war among its competitors. On the one hand, some are already much cheaper. Monteyne says that Asda is already between 5% and 6% cheaper on brands, so will have no need to cut prices in order to remain competitive.

Aldi and Lidl, meanwhile, use their incredible buying power, restricted range and low-cost model to keep prices even lower, so won't need to worry about cutting prices to compete.

Sainsbury's, on the other hand, may be in too vulnerable a position not to respond. The supermarket has always sought to distinguish itself by being a bit more upmarket than Tesco - underlined by its 'value of values' marketing campaign. It doesn't want to be drawn into a price war in case this differentiation is lost, and instead relentlessly highlights its quality. However, Justin King, the CEO who has led the company for a decade, is standing down this summer, and there's no knowing if his successor will take the same approach.

As the discounters continue to grow, and the rest of the middle ground gets cheaper, there are analysts who believe that Sainsbury's won't have a choice, and will be forced to join the price war.

And once the country's biggest supermarkets are all vying to be the cheapest, there's a real chance that British shoppers could all be a little better off.