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Carrefour In A Corner


If there's any foreign retailer that can hold a candle to Wal-Mart Stores Inc. (WMT), it's Carrefour. With $86.5 billion a year in revenues, the Paris company ranks No. 2 worldwide behind the U.S. giant. In the early 1960s, while Wal-Mart founder Sam Walton was still laboring in obscurity in Bentonville, Ark., Carrefour was opening the world's first hypermarkets, cavernous retail temples selling everything from lettuce to lawn mowers. Since then it has used fat profits from its French hypermarkets to build the globe's most far-flung retail empire, encompassing more than 10,400 stores in 29 countries. Wal-Mart, by contrast, operates in only 10 countries.

But now the foundation of Carrefour's empire is looking shaky. More and more French consumers are spurning its hypermarkets in favor of discount chains such as Germany's Aldi and Lidl. That's squeezing Carrefour's bottom line, just as the group is facing tougher competition abroad. Carrefour signaled recently that it will pull out of some countries where it has struggled, to concentrate on key markets in Asia and Latin America. There's also talk that CEO Daniel Bernard could be replaced -- or even that Wal-Mart could make a bid for the beleaguered French retailer.

Carrefour's biggest problem is at home in France, which accounts for half the group's sales and two-thirds of profits. In late September, Carrefour shares tumbled nearly 7% after a report by researcher Secodip showed that its French hypermarkets lost an additional 0.7% market share in July and August, despite a price-cutting push. CEO Bernard plays down the slippage, predicting a strong upturn as the all-important holiday season approaches. "We are doing everything necessary to revive the market," he says.

Perhaps. But five years after its acquisition of French rival Promodès propelled Carrefour to the global No. 2 spot, the numbers look discouraging. With $4 billion in operating profits last year, Carrefour's operating margin was only 4.6%, vs. 6.2% at Wal-Mart. Same-store sales at its French hypermarkets fell 4% during the first quarter of this year, and an additional 3.8% during the second.

That's especially worrisome as Carrefour gears up for a $3.6 billion expansion over the next year, much of it in China and Korea where it competes head-to-head with Wal-Mart. For the moment, Carrefour is well ahead of Wal-Mart in Asia. But it has yet to catch up with Wal-Mart in supply-chain management, the intricate process of working with suppliers to get the right merchandise on the shelves at the right moment, at the lowest cost. The risk is that Wal-Mart could start underselling Carrefour not only in Asia but also in Brazil where it recently acquired the Bompreço chain of 118 stores from Dutch retailer Ahold (AHOLD).

Government regulation is the main cause of Carrefour's French troubles. In the mid-1990s, France passed legislation requiring food wholesalers to offer the same prices to all retailers. The goal was to protect food producers and mom-and-pop stores by preventing big chains from leveraging their size to extract deep discounts from wholesalers, à la Wal-Mart. But the law created an opening for discount chains, which skirt the restrictions by stocking private-label brands that aren't sold anywhere else. Some of those items are priced 40% below comparable products at Carrefour.

To fight back, Carrefour is rolling out more in-house brands and building up its own chain of discounters, which operate under the name Ed in France and Dia elsewhere. It added 227 discount outlets just in the first half of 2004. But so far, that hasn't slowed rivals.

Little wonder there has been talk of a takeover: Carrefour's stock has shed half its value since 1999, including a 12% decline in the past year. Still, industry watchers think it's unlikely Wal-Mart would make a bid for the French group in the near term. Integrating the two groups would be tough, because Carrefour operates thousands of relatively small food stores that don't fit Wal-Mart's bigger-is-better model. "There would be enormous operational, cultural, and possibly governmental challenges," says Bryan Gildenberg, a retail analyst at Management Ventures Inc. in Cambridge, Mass. Wal-Mart declined to comment.

But even if a takeover threat is remote, pressure on CEO Bernard is mounting. Early this year, a group of family shareholders who control 30% of the voting rights named former Marks & Spencer CEO Luc Vandevelde to Carrefour's board. The 53-year-old Belgian, who ran Promodès until it was bought by Carrefour, is widely seen as a CEO-in-waiting.

To reassure shareholders, Bernard on Sept. 1 announced plans to buy back up to 5% of shares over the next two years while boosting dividends. He also promised to sell off $1.2 billion in poorly performing assets. Although Bernard hasn't said which divisions will get the ax, analysts are betting he will spin off the Mexico and Japan operations. In Mexico, Carrefour badly lags market leader Wal-Mart, which acquired top Mexican retailer Cifra in 1997 and now commands revenues of $11 billion a year through 650 outlets. Carrefour has only 27 stores in Mexico, generating $668 million in sales last year. Its seven Japanese hypermarkets also have performed poorly.

For all of its woes, Carrefour remains a formidable player. With 35 years' experience operating outside its home market, it has often fared better abroad than Wal-Mart, which opened its first foreign store just 13 years ago. The French retailer is renowned for tailoring its format and offerings to local tastes. That has been key to its success in China, where it has more than 100 stores -- twice as many as Wal-Mart -- and is adding at the rate of almost one a month. The produce and fish departments at Carrefour's Chinese hypermarkets resemble traditional outdoor markets. "There are ladies calling out to the customers, saying: 'Come here, this is fresh and good,' just like in street markets," says Sherry Ding, a retail analyst with A.T. Kearney Inc. in Shanghai.

Carrefour says it expects earnings to grow 10% this year, with global sales up 5%. And with more than $4 billion in annual cash flow, Bernard can afford to keep opening stores, even while paying down 20% of its $11.8 billion debt over the next two years. "We have a base to grow globally, and we have a team capable of managing it," he says.

Investors remain skeptical. "I see no catalyst for improvement," says Tony Campione, a fund manager at Paris investment group Agilis Gestion who says he unloaded his Carrefour shares months ago. Things could get even uglier in the next few months. The French government recently approved a modest loosening of the wholesale-pricing curbs, which could spur a price war between Carrefour and the other French hypermarket chains. That would compress margins further. Looks like Carrefour will continue to be a hard sell with investors -- even at a discount.

By Carol Matlack in Paris, with Wendy Zellner in Dallas and Frederik Balfour in Shanghai


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