Keith Gaston is 8,000 kilometres from home in a remote corner of China, three hours' drive from the North Korean border - but the Briton smiles happily as he shovels packets of digestive biscuits and cream crackers into a shopping basket.

"It's wonderful," says the 62-year-old from Basingstoke, southern England. As far as he knows, he is the only British expatriate living in the bleak and grimy industrial city of Fushun, Liaoning province. "I couldn't believe it when Tesco opened a branch out here."

The seven-storey mall - two floors of Tesco groceries and goods ranging from children's toys to motorbikes, and five floors of shop space leased by the British supermarket chain to other retailers - is less than a mile from the home Gaston shares with his Chinese wife.

For the mining industry executive, it has brought home comforts to a largely alien environment where winter temperatures plunge to minus 20 degrees Celsius and the most celebrated denizen was the Mao-era model soldier Lei Feng, who died here in 1962.

"All of a sudden I can get things I haven't been able to buy since I came to China 10 years ago, like baked beans," he says. "Every time I come here, I buy up their entire stock of digestive biscuits, which, admittedly, is usually only about 10 packets."

Unsurprisingly, most of the other groceries in the Fushun Tesco are aimed squarely at the local population of two million. At the fresh fish counter, three aisles from the tiny imported food section where Gaston buys his biscuits, more typically Chinese fare is on sale.

"Would you like these skinned and chopped up?" a white-coated shop assistant asks cheerfully as I pick out two palm-sized live bullfrogs, priced at 15 yuan (HK$18.50) each, from a tank. When I decline, the frogs are handed to me live, in a tied-up plastic bag that hops erratically around my shopping basket all the way to the checkout. Guilt-racked, I later release them to an uncertain future on a polluted riverbank.

Tesco in Fushun is a bizarre blend of Eastern and Western consumerism in one of the most far-flung corners of modern China. But whether it will still be around to keep locals supplied with live amphibians and expatriates with digestive biscuits in five years' time is in doubt.

Opened with no little fanfare in 2010, when the global ambitions of the Hertfordshire, England-based supermarket chain were at their zenith, the so-called Lifespace mall - one of seven operated in the country by Tesco - is the group's biggest outlet in China in terms of floor space. It is also Tesco's easternmost major outpost in the world's largest consumer market and, unless its losses can be reversed, may turn out to be the high-water mark of the company's great march east.

Tesco's Far East empire is faltering - and for a variety of reasons, some of which, if stories are to be believed, are political.

Last month, the group recorded its first fall in profits for 18 years and is reckoned to be losing between £40 million (HK$500 million) and £70 million a year in China, where it has 129 stores and 26,000 employees. It shut down four of its loss-making mainland hypermarkets last summer and has reined in its ambitions, although it still plans to open 16 hypermarkets in China this financial year.

When the Fushun store opened, Tesco boasted of its 200 Chinese outlets and its clean, orderly stores, with their whiff of Western sophistication. It drew hordes of shoppers more used to street markets and smaller, more cluttered supermarkets.

Now, as the mainland feels the effect of the global economic downturn and customers tighten their purse strings, some analysts are speculating that Tesco might be forced to pull out of China altogether.

The ebb and flow of Tesco's fortunes in China reflect those of the other foreign retail giants who have seen rapid expansion and unexpected, sometimes brutal, reversals in the decade since China joined the World Trade Organisation, unlocking the country's retail market.

Tesco's falling sales were announced three weeks after United States retail giant Wal-Mart, which has 387 stores in China and an estimated 11 per cent share of the country's hypermarket business, reported reduced operating income. French chain Carrefour, the first foreign retailer to enter China (in 1995), saw its sales fall 6 per cent in the third quarter of 2012.

In the complex world of Chinese retailing, politics and xenophobia sometimes appear to play a bigger role than simple economics or finance - a point underlined in devastating style last year, when Japanese supermarkets were looted and vandalised during a flare up in the bitter dispute over the Diaoyu Islands in the East China Sea.

Carrefour, which has an estimated 8 per cent share of the mainland's hypermarket business, was boycotted in 2008 in retaliation over pro-Tibet protests in Paris ahead of the Beijing Olympics. And it faced more bad press last month, when it was accused of overcharging shoppers in a store in Taiyuan, Shanxi province. Xinhua reported that Carrefour could be fined up to 500,000 yuan after admitting some prices at the checkout did not match those on the shelves.

In another case of a legislative sledgehammer being deployed to crack a nut, officials in Chongqing temporarily closed stores and arrested Wal-Mart employees in 2011 after allegations that ordinary pork had been labelled as a more expensive organic variety.

The heavy-handed policing of foreign retail chains has left some employees suspicious as to the reasons for their ailing fortunes. At a number of Tesco stores, staff say their prices are being undercut and operations undermined by rivals - and even officials - jealous of the success of a foreign brand and determined to see Tesco fail. In one of its biggest superstores - in Qingdao, Shandong province - a 32-year-old section manager claims Tesco supplies are periodically cut off by the owners of a rival supermarket with powerful political connections.

Whether his concerns are rooted in reality or paranoia, the effect of the slump is clear. The once-thriving Qingdao Lifespace complex is struggling badly and was described by a Tesco executive who visited it last year as being "like Chernobyl on a winter's day".

Standing in a near-deserted grocery section on a Friday afternoon, the section manager tells Post Magazine: "Our rival's bosses have told major suppliers that if they want to carry on supplying them, their products cannot be sold in Tesco or other supermarkets. This means supplies are cut off and customers come to Tesco and find no milk or vegetables when they want them. People remember that and they don't bother to come again." (In 2000, there were suspicions ParknShop and Wellcome had used similar tactics to force Carrefour out of Hong Kong, where the French retailer had had five stores.)

The rival supermarket has also used its influence to ensure major companies give shopping vouchers for its store to workers at Lunar New Year, to help draw customers away from "the foreigners' store", the manager claims.

Shoppers, on the other hand, tell me they choose local supermarkets over Tesco because they offer better value for money - but there is an underlying distrust in some of their explanations.

"I like it in Tesco because it's cleaner and the queues are not as long," says grandmother Cai Wenfang, 64. "But I don't think they always tell the truth. I bought a desk and chair for 179 yuan. When we got it home we found the chair was missing. We took it back and got a refund but it wasted a lot of my time and I won't trust them again."

In Fushun, shoppers show a similar wariness. Wang Chun, 73, says: "Daily necessities are cheaper in the local supermarket. You can't trust Tesco on prices. They cheat people."

Nervousness has begun to spread in the quiet aisles of many Tesco stores as employees fret over job security. In every store I visit, I am followed and implored not to take pictures: staff seemingly fear I am spying for rivals.

Everyday mishaps are interpreted as sabotage. In Fushun, on the morning we visit, a sewage pipe explodes next to a bus terminal on the street outside the store entrance. Shoppers arriving on free Tesco shuttle buses are hit by the stench as soon as they alight, and scurry to New Mart, a rival 300 metres away, across an intersection.

"This is the kind of thing we have to put up with all the time," a Tesco trolley collector says, with a handkerchief clamped over his mouth and nose, convinced the incident is part of an elaborate plot to ensure Tesco fails. "They'll do anything to see us fail. But it's our livelihoods they are playing with."

In New Mart, a run-down but bustling two-storey supermarket, grocery vendors bellow out their best prices and shoppers jostle impatiently for position in the check-out queues.

"It's all about value for money - that's all," says 55-year-old office clerk and New Mart devotee Zhou Hua. "The ginger in Tesco costs 1.59 yuan per kilogram but in New Mart it costs 1.38 yuan. Why should we pay more to shop in smarter surroundings?"

When it is pointed out that other items are cheaper in Tesco than in New Mart, she says: "There are other reasons. At every Lunar New Year and festival, we get 200 yuan in New Mart shopping coupons from our bosses. It happens in a lot of companies and it's always New Mart coupons - never Tesco ones. So coming here gets to be a habit for a lot of people."

Whatever conspiracies officials and business rivals may or may not cook up to thwart Tesco, however, it is clear that some of its problems in China are of its own making. In its determination to push east, its lines of command appear overstretched.

In the Fushun store, a section manager acknowledges: "Business isn't so good here, and there are a lot more shoppers in New Mart. Some of this is our own fault.

"New Mart spies come here often to check our prices and if they find our prices are lower, they immediately cut their prices, even if only to make it 10 fen lower. We check their prices, too, of course, but … we have to get permission from our headquarters in Shenyang before changing our price and that takes days, which makes the whole process pointless."

In Shenyang, the provincial capital, 65 kilometres away, the perceived enemy is another foreign operator.

Standing in the aisles of an eerily quiet Tesco, the store manager says Wal-Mart "staff come and check our prices and if they find the price in Tesco is lower, they call their bosses and they lower the price immediately. But if our staff go to Wal-Mart and find the price is different … we have to send an e-mail with a picture copied to [head office in] Shanghai to request a price cut. By the time we get a decision, it's too late and the customers have already gone to Wal-Mart to do their shopping."

The rise and fall of Tesco's fortunes mirror the experience of another giant British retail chain with a presence in the country. B&Q made huge inroads into the mainland market after opening its first DIY stores in 1999. However, its mainland operations suffered losses of more than £50 million in 2008-2009 and it has since closed a third of its China-based stores, downsized many others and slashed staff numbers in the country by more than a half.

From a peak of 63 stores and more than 10,000 staff in China in 2008, B&Q now has some 40 stores and less than 5,000 employees in the country. Those cuts have helped it trim losses to about £3 million a year while remaining the mainland's market leader in its field.

Dr John Foster of the Kingston Business School in London, who has written papers on the fortunes of both B&Q and Tesco in the mainland, says part of the former's problems result from obstacles put in its path by suppliers and government officials at the peak of its success. In 2007, B&Q was forced, at the insistence of central government officials, to renegotiate perfectly legal contracts with suppliers in a way that ate into its profits.

"This is what happens in China," Foster says. "They were dealing with the government …"

Tesco's experience appears similar in some respects, Foster adds. "In China, if someone decides to make life difficult for foreigners, it can be made difficult for them and there are all sorts of ways of doing it."

Since cutting its cloth, B&Q has reversed a policy of preferring local managers and employed more expatriates, and switched its focus to tier-one cities. The chain hopes to break even in the mainland this year.

Marks & Spencer is another British retailer to have found the mainland a difficult market to crack. Its flagship Shanghai store was beset by supply problems and largely shunned by shoppers until a management and policy overhaul gradually made it a success, although it can still seem eerily quiet compared with the Hong Kong branches.


TESCO'S CENTRAL PROBLEM IS THAT it offers what is perceived as a superior shopping experience at a time when mainland shoppers are seeking to cut costs, says Clive Black, one of Britain's leading stockbroking analysts in the retail food industry. It is Black who suggests the store's losses are in the £40 million to £70 million range.

"[Tesco] is too big, too grand and too ahead of its time," he says. "As the economy has turned down, Chinese consumers have gone back to traditional and local brands."

However, "Tesco is going to tough it out," he predicts, "because it still sees the strategic potential of China. Tesco has 10 million square feet of [retail] space in China. They have done a lot of hard yards and they still feel there is something to capture there."

One key difference between Tesco and other foreign retail chains operating in China is that it has focused on second- and third-tier cities, such as Fushun. While smaller, less developed cities may have more upside potential for growth, they also have less sophisticated bureaucracies and more tolerance for the kind of corrupt practices that might ultimately derail Tesco's operations in China.

It is a danger that the Fushun Tesco's only British customer is keenly aware of. As a businessman whose wife runs a major wine distribution network, Gaston believes Tesco and other foreign retailers will have to adapt in order to survive.

"If you aren't going to dinner with top officials once a week, you aren't going to be in the game," he says. "You have to know these people and you have to be friends with them. That's just the way it works.

"I'll be very sad if Tesco pulls out," he sighs. "But while the store is still here I'm hoping they'll start stocking breakfast cereal like Corn Flakes, Rice Krispies and Cocoa Pops. That's what I miss the most."





Accounting for tastes


Just south of Beijing's Forbidden City, past Mao Zedong's mausoleum and across the road from Tiananmen Square, there is a more contemporary monument to Chinese life: the country's first KFC, established in 1987.

Over its threshold, the atmosphere is every bit as chaotic as the city itself. A moustachioed teenager tries to sell a fake Rolex to a woman with a Prada handbag. Two old men in paint-spattered khakis laugh over coffee. A toddler sticks fries into her ice cream cone.

It was with this outlet that KFC pioneered Western fast food in the mainland. Its parent company, America-based Yum! Brands - which also owns Pizza Hut and Taco Bell - operates almost 4,500 mainland outlets, of which four out of five are KFCs: the company plans to open another 700 outlets in the country this year. McDonald's, its closest competitor, has about 2,000.

Recent months have not been kind to KFC in China, however: the chain's same-store sales dropped 6 per cent year on year in the past quarter.

Conversations with KFC customers suggest a changing relationship between the Chinese and Western fast food. "This place is quick, it's convenient, it's sanitary, it's safe," says retired official Mrs Wang, 73, biting into a spicy chicken sandwich. Huang Chong, a 26-year-old teacher, is less enthusiastic. "Originally people thought KFC was great because it was from the West and really expensive," she says. "But now people just think it's junk food."

Many of the reasons for KFC China's recent troubles may be macroeconomic - the country's gross domestic product growth is slowing, even as labour costs and property prices rise, but analysts believe a number of other factors are at play. Consumers are buying more online, leaving once-lucrative shopping malls empty; as they grow richer, they have come to regard eating at KFC as less of a sign of status; and they are also becoming more health-conscious.

Then there was the recent "45-day chicken" scare - an episode that laid bare the fragility of brand reputations. In November, the media accused one of KFC's Shanxi-based suppliers, Suhai, of pumping its chickens full of chemicals to ensure they were fully grown within 45 days. Last month, Chinese Central Television aired a report accusing another KFC supplier, Liuhe Group, of feeding its chickens a cocktail of illegal drugs and antibiotics.

KFC denied the allegations about Suhai and authorities have concluded the supplier's meat passes national standards. The chain severed its ties with Liuhe and has agreed to co-operate with a government investigation into its use of antibiotics.

The damage, however, had already been done. "American people don't eat it, so they take their poisonous garbage and bring it to China," wrote one Sina Weibo microblogger.

Meanwhile, the competition KFC faces is fierce, and not just from the likes of McDonald's and Burger King. Chargrilled burger chain Carl's Jr has popped up in Shanghai, and Californian chain Fatburger in Beijing. And there are Asian competitors, too: Dico's, a Taiwanese chain that sells cumin-flavoured chicken fries and pineapple-chicken-mayonnaise sandwiches; Chongqing-based fried chicken and rice restaurant Country Style Cooking; and Hehegu, which specialises in slow-cooked pork and bamboo shoots over rice.

Yum! Brands seems confident of continued dominance, however. Warren Liu, its former vice-president, says KFC's success in China comes from a long-standing ability to adjust to the country's vagaries and idiosyncrasies: in the late 1980s, for instance, it partnered with state-owned enterprises and established its own distribution centres at a time when the country wasn't traversed by reliable roads. Moreover, nowadays its menu is tailored to Chinese tastes: customers can order rice congee, egg custard tarts and tree fungus salad.

Sales aside, KFC-style fast-food chains have made their mark on the fabric of everyday Chinese life. Sun Hongxia, 28, says she visits KFC to chat with friends, read and study. When there's no KFC nearby, she goes to McDonald's. When there's no McDonald's, she goes to Dico's. But she rarely orders any food.

"Nobody ever bothers you here," she says. "It's just a good place to come and sit."


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