By Richard Tomlinson

Vickerstaff does her e-shopping at a Tesco supermarket more than ten miles away that she used to visit in person. That in itself isn't especially remarkable. Some 12 million people shop at Tesco's stores every week, and 250,000 now regularly buy their groceries over the Internet, a figure the company aims to quadruple by the end of the year. What is remarkable is the sheer range of nongrocery products and services that Tesco offers. For a start, when Vickerstaff goes online, she uses Tesco.net, the supermarket's free Internet service provider, which has around 450,000 members and ranks fourth among Britain's ISPs. Once she has connected to Tesco's portal, she could--if she wished--buy one of 1.2 million books from Tesco's branded online store or choose from a stock of thousands of CDs and videos. Alternatively, she could click on Tesco's financial services Web site--a fifty-fifty joint venture with the Royal Bank of Scotland--and apply for a Tesco home-insurance policy, a Tesco savings account, or a Tesco Visa credit card.

Vickerstaff hasn't tried any of those options yet, which illustrates the distance Tesco still has to travel to make its nongrocery businesses take off. But she's impatient for Tesco to launch its Internet clothes store (due this summer), even as she wonders how the supermarket can possibly make money from a home-delivery grocery service that costs just $8 on top of the price of the goods. "The service is great for me," muses Vickerstaff, "but what's in it for Tesco, unless it's to provide them with the customer base to launch something else?"

Touche. At Tesco's headquarters in the drab northeast London suburb of Cheshunt, e-commerce director Tim Mason, a seasoned retailer, resists the idea that selling food is a boring, low-margin business. In fact, he maintains that the online grocery division is profitable. For good measure, he adds that Tesco is the world's leading e-grocer. When Mason talks about Tesco's Internet competitors, he's less inclined to mention domestic supermarket rivals like Sainsbury and Asda than a certain dot-com called Amazon. That American e-tailer launched its service in Britain in October 1998 and is now ranked by research group MMXI Europe as Britain's top retail site, with net sales for the first quarter of 2000 of $45.6 million.

Mason, however, doesn't seem flustered: "Amazon developed a book business and then diversified into a whole load of other services, including groceries. We're doing it the other way." Mason believes that Tesco's online model is superior. "We argue that groceries is a much better relationship-building service than almost any other," he says, "because of the frequency with which you use it and the amount that you spend." Indeed, Tesco is so bullish about the group's Internet prospects that on April 11 it announced the launch of Tesco.com, a wholly owned e-commerce subsidiary that will combine all of the supermarket's burgeoning online ventures. Mason says that Tesco eventually aims to reap between 45 percent and 50 percent of its online sales from products other than groceries.

On a rainy morning in Cheshunt, it's easy to dismiss Tesco's dreams of Internet grandeur. Consider, for instance, the survey of 8,200 British online shoppers conducted late last year by retail consultants Management Horizons Europe and market data group Taylor Nelson Sofres. More than a third of the respondents said their last transaction had been at Amazon.co.uk, the local arm of Jeff Bezos' leviathan. BOL, the Internet bookstore owned by German publishing giant Bertelsmann, came in a distant second, with 3.7 percent, and Tesco came in fourth, with 3 percent.

Learning from the competition

So what is one to make of Mason's contention that "Amazon see themselves as being competitive with us"? Over at Amazon's London office, managing director Steve Frazier refuses to discuss any competitor but does own up to having ordered his Tesco groceries over the Internet (Amazon doesn't yet offer the service in the U.K.). Maybe that counts as reconnaissance work, but while the U.S.-born Frazier says there are many different ways of selling goods online, he adds pointedly that Amazon has no plans to change its "books first, then everything later" business model.

Nonetheless, Amazon, BOL, and other leading European e-tailers would be foolish not to watch Tesco's online rollout closely. After all, the grocer has deep pockets, a strong brand, and retailing savvy--all the ingredients necessary to succeed in e-commerce. First, Tesco is no pipsqueak; it is ranked 107th in the FORTUNE Global 500. Founded in 1924 by Jack Cohen, a grocer from London's East End, Tesco has surged past Sainsbury in the past five years to become Britain's No. 1 food retailer, with a 15.5 percent market share. British sales in the fiscal year that ended in February reached $29.3 billion. The group also had revenues of $3.2 billion from stores in Hungary, Thailand, and South Korea.

Second, Tesco makes real profits in the real world--which is more than you can say about Amazon. In the same accounting period, Tesco's pretax profits rose 10.8 percent, to almost $1.5 billion, at a time when the rest of Britain's supermarket chains struggled to keep their margins from shrinking. Third, Tesco owns one of Britain's most powerful brands. For decades the title of Jack Cohen's autobiography, Pile It High and Sell It Cheap, summed up Tesco's cut-rate approach to retailing. But under Ian MacLaurin, chairman from 1985 to 1998, Tesco moved upmarket and mastered the art of selling Camembert to yuppies as well as economy packs of washing powder to the masses. The result: Without losing its traditional appeal to bargain hunters, Tesco has stolen Sainsbury's now-tarnished premium image. Says Nick Jones, a London-based analyst with Internet consultancy Jupiter Communications: "When dot-coms of any type in the U.K. ask me whom they should watch, I tell them they should be worried if Tesco decides to move into their space."

So listen to Mason as he reels off just a few of the items Tesco.com aims to sell in the future: baby clothes, home furnishings, cars, electrical goods--in fact, "potentially anything." At which point you can't help wondering why--if groceries make such a great portal platform--none of Tesco's competitors has yet rolled out a comparable nationwide home-delivery service. The answer, of course, is that these players are still skeptical about whether the economics of e-groceries adds up.

The growth curve for Internet grocery shopping looks spectacular. According to Verdict Research, a British retail consultant, online grocery sales in the country rose from $19.2 million in 1998 to $264 million last year, or 0.2 percent of the market. Tesco accounts for more than 50 percent of these sales and is far ahead of its peers in the U.S. and on the Continent. By 2004, Verdict estimates, online sales will reach 2.3 percent of the total market, or $3.7 billion. In the European Union as a whole, management consultancy Roland Berger forecasts that by 2010 "more than 10 percent" of all Western European grocery sales will be online, forming an e-commerce market worth almost $100 billion annually.

That sounds impressive, but it doesn't make it any easier for a food retailer to figure out how to make a profit. Consider, for instance, the infernally complex logistics of e-groceries. Says Mike Godliman of Verdict Research: "If you have a van going from a Tesco store to a dozen local customers, it's a logistical nightmare. You've got to choose the route so that you can do the drop-offs in an efficient sequence, make sure you load the right food, picked in the correct order, and then, if customers are out, you have the problem of not being able to deliver the food."

Even more frustrating, most of these Internet shoppers have--like Vickerstaff--simply migrated from the local supermarket to the Internet. "For the food retailers, there's not the risk, but the certainty, of cannibalization," says George Wallace, chief executive of Management Horizons Europe. Jones of Jupiter Communications reckons that "at least 90 percent" of all Internet grocery business in Britain comes from existing customers.

True, there are potential bonuses for supermarkets that encourage shoppers to go online. Safeway, Britain's fourth-largest food retailer, is running an experimental project using software developed in collaboration with IBM's research laboratory in Hawthorne, New York, and installed in Palm organizers that are distributed free to customers. The software enables customers to e-mail their orders to the local supermarket. For Safeway, the benefit is that the system allows the company to build a database of individual shoppers' preferences. Safeway can then send back special offers tailored to a customer's needs (the same idea, incidentally, behind Tesco's PC-based model). Carol Wilshaw, a Safeway Palm shopper in the southern English town of Basingstoke, is one such target. Says Wilshaw, a lecturer at the local technology college: "If I had to go shopping, my golf would go out the window." Even so, Wilshaw has to collect her prepicked groceries from the local store, because Safeway says a home-delivery service would cost too much. And that same concern helps explain why Sainsbury and Asda--second and third in Britain's grocery market--are currently behaving like e-commerce wallflowers.

E-commerce wallflowers

Asda, the cheap and cheerful supermarket chain bought last year by Wal-Mart, offers a patchy online service in the greater London area using two dedicated warehouses in the suburban towns of Croydon and Watford. The service isn't even advertised in Asda stores (guess why). How many customers use the Net to order from Asda? Octavia Morley, the supermarket's e-commerce director, will say only that "the depots break even at about 500 orders a day, and we are making significant progress toward that figure." In other words, not many.

Not far from Asda's Watford depot, Sainsbury is about to open what it claims will be Europe's largest grocery home-delivery picking center. The center is scheduled to start operations this summer. Even so, Peter Davis, Sainsbury's new chief executive, has ordered a complete review of his company's Internet strategy. (In the meantime, he has forbidden the new e-commerce director to talk to the press.) Davis has an e-commerce track record. As head of Britain's Prudential insurance company, he launched Egg, Britain's first major Internet bank, which boasts more than 700,000 savings-account holders and around $11.2 billion in deposits. For now, though, Sainsbury, like Asda, is barely out of the starting block, with its online reach still restricted to parts of London and the southeast.

By contrast, Tesco is racing ahead, all guns blazing. Mason estimates that online sales will double this year from $200 million to $400 million. That's enough to cover a $56 million investment. Mason, in fact, claims that Tesco's e-grocery division is now profitable, in the sense that the service "covers the cost of distribution of goods to the store and makes a contribution to branch profitability." But exactly how profitable is unclear--the company won't say.

At Tesco's main supermarket in Hammersmith, in west London, Andrew Shapcott, the branch manager, figures that his staff processes around 500 Internet orders per week, worth an average of $152 per basket. That's almost four times as much as Shapcott's 25,000 conventional customers (some of them repeat shoppers) spend per visit. This confirms Mason's view that online customers represent premium business.

But making big money on food isn't the overriding goal. Tesco can most likely live with e-groceries as a marginally profitable operation, even a loss leader, as long as its large premise is correct: that a sufficient mass of customers like the Vickerstaff family will eventually click on to buy car insur-ance or--even better--cars, after ordering their toothpaste and cheese. Gerhard Hausruckinger, a partner at Roland Berger's London office who supervised the consultant's recent Internet food-retailing survey, says that Tesco is ideally placed to extend its offer of groceries to other goods and services. He points out that 78 percent of European grocery shoppers are women--so expect Tesco to roll out its baby-clothes service before branching out into power tools.

But nobody (not even the upbeat Mason) is suggesting that moving the brand beyond groceries will be easy. In sectors like mobile phones, books, CDs, and computers, Tesco is a late arrival. Mason wouldn't supply figures for his company's nongrocery products, but even financial services, which he did cite as Tesco's "most successful" nongrocery Internet venture, are part of a financial-services division that had an operating loss of $6.4 million last year.

On the other hand, can you name a single European dot-com retailer that is turning a profit? (No, you can't.) In the end, a bet on Tesco is a bet on whether a single-minded retailer--one that has already reinvented itself once in the real world--can perform the same trick in cyberspace. After an afternoon in Nonnington, that bet seems a lot less risky than, say, putting your money in e-tailing startup stocks. Says Kirsty Vickerstaff: "All my girlfriends in the village keep muttering about getting on the Web so that they can do their grocery shopping." Now, if the soon-to-be-wired women of Nonnington could only be persuaded to buy a bit more than groceries--a $192 kitchen trolley, perhaps? Maybe that's another Internet fantasy, but for Tesco, unlike most of Europe's aspiring e-tailers, the online dream might just be grounded in reality.