Discount supermarkets, Aldi and Lidl, have shaken up the Irish market since entering in the late 90s and have rapidly expanded with new stores regularly opening at locations all over the country. It’s good news for Irish shoppers, who hit by recession, are discovering that using the German retailers can mean significant savings when it comes to balancing the household budget. But what does it mean for traditional supermarkets such as Tesco PLC (ADR) (OTCMKTS:TSCDY) (LON:TSCO)?

Tesco plc

To answer that, you only have to look at Tesco PLC (ADR) (OTCMKTS:TSCDY) (LON:TSCO)’s most recent results. Trading profits fell by a massive 71% in Europe, with much of the damage occurring in the UK and Irish markets, as Lidl and Aldi entire customers away with lower prices.

Time to act for Tesco

Clearly, profit drops of this magnitude aren’t sustainable. Tesco needs to respond and respond quickly or its shareholders could go the same way as its shoppers – to Aldi and Lidl. Nevertheless, Chief Executive of Tesco PLC (ADR) (OTCMKTS:TSCDY) (LON:TSCO), Philip Clarke sounded optimistic even while announcing a worldwide profit loss of 23.5%:

‘Despite continuing challenges, we have made further progress on our strategic priorities. Our performance in the UK has strengthened through the half, particularly in our food business, as we have continued our work to Build a Better Tesco.’

But as shares fell 3.5%, the company issued a statement acknowledging that consumers were facing further pressures on household budgets and its discounting rivals had fared better. However, the spokesperson also stated:

‘We have plans to address this in the second half. Despite the challenging conditions, Ireland, like Hungary, remains a high-returning business.’

The party is over for Tesco

The problem for Tesco PLC (ADR) (OTCMKTS:TSCDY) (LON:TSCO), as many customers know, is that the company has been able to price products comparatively higher in Ireland than in the UK, mostly due to less competition in the Irish market. That’s all changed with the arrival of Aldi and Lidl.

Tesco has made some effort to compete with the discounters. Like other supermarkets, Tesco PLC (ADR) (OTCMKTS:TSCDY) (LON:TSCO) has been taking part in the ‘fruit and veg’ wars whereby supermarkets vow to undercut their rivals on several products each week. The result has been massive loss leaders, but Lidl/Aldi have always been able to match, if not better, its peers.

The suggestion from Tesco PLC (ADR) (OTCMKTS:TSCDY) (LON:TSCO) is that a price war could be ahead, but Valuewalk contacted head office to ask what they could do to take on the discounters, they were unwilling to divulge what plans they had to do this.

Competing on more than just price

The problem is it may already be too late. Fussy Irish consumers have been discovering that the quality of cheaper products at Lidl and Aldi are just as good if not better than their more pricey equivalents at Tesco. The arrival of Aldi and Lidl wasn’t just about cheaper food. They changed what people were eating too. Marketing manager with Donnelly Fresh Foods, Alan Waters, explains how Aldi introduced new tastes to the Irish market:

‘You can’t have a credible vegetable line now without butternut squash and it’s because shops like Aldi were doing it. We started off supplying them with butternut squash.’

Aldi has the customer who likes to buy Irish covered too. More than 50% of Aldi’s fresh produce is sourced from Irish suppliers. And small local suppliers are happy to work with the discounters saying that they don’t underpay. Bill Shaughnessy of Divilly Meats says Aldi offers better value thanks to cut overheads and lower distribution:

‘It’s not down to suppliers taking less.’

With all these factors in Aldi’s favour, it’s not surprising to see sales up 28.7% in the past year. The retailer opened its 100th shop in Ireland in April and now has just 20 fewer stores than Tesco PLC (ADR) (OTCMKTS:TSCDY) (LON:TSCO).

With Lidl and Aldi’s combined marketshare expected to hit 15% by the end of 2013 with many customers expected to do the majority of their Christmas shopping at the discount stores, Tesco could be in for a very unhappy new year.