High noon on high st as M&S and Tesco slip Over the next year, a key question in the retail industry will be whether these two behemoths can get back on track, and again begin to steal a march on their younger pretenders. Or whether the problems that appear to have besieged both companies in 2013 are too insurmountable to recover from. Neither is likely to set off on the front foot. This week Tesco is expected to report a 2pc drop in like-for-like sales over the Christmas period. Meanwhile, M&S's like-for-like food sales will rise about 2pc, but its all-important clothing business will be down by at least 0.5pc. The results will confirm that it was a challenging Christmas for retailers. Despite signs of a recovery in the economy, and clear winners such as Next and John Lewis emerging, consumers have remained cautious. M&S was caught up in the "sea of red" that Michael Sharp, the chief executive of Debenhams, blamed for his company issuing a profits warning. Fashion retailers went into December with piles of unsold jumpers and winter coats because of milder than average weather in the autumn. Only a handful of retailers, such as Next and Superdry, had the confidence to keep their clothing at full price during December. M&S was not so confident. Unsettled by rivals such as H&M and Gap offering up to 60pc off, it ploughed in with 20pc discounts via its website and then cut prices by 30pc in stores for a "Mega Day" promotion over the weekend before Christmas. As a result, analysts are forecasting that M&S's profits will take a hit in addition to its like-for-like sales. Freddie George, analyst at Cantor Fitzgerald, said: "Our concern is that gross margins have been under pressure from higher levels of discounting in general merchandising. "The strategy of reducing the number of lines and backing the 'winners," which are highly geared to a cold weather environment, including cashmere and coats, appears to have backfired as a result of the milder than expected weather over the last two months." For Marc Bolland, chief executive of M&S, the Christmas results will be a setback. The festive season was earmarked as a key test of his new strategy for the clothing business. However, the retailer appears to have been undermined by the weather, weak consumer sentiment, and its decision to join the "sea of red." The company's clothing range this Christmas was the first created by the new team of John Dixon, executive director for general merchandise, and style director Belinda Earl. It won strong reviews from the fashion press, primarily for the shift upmarket, the return of sleeves to its dresses and the range of winter coats. However, M&S frustrated customers by limiting the availability of key items - particularly a pink coat that featured in a high-profile advertising campaign - to enhance the fashion credentials of the brand. Bolland, though, is likely to reiterate his view that M&S's general merchandise division, which is primarily clothing, is on a "journey" and that it will take time to turn around. To date, investors appear to have bought into Bolland's long-term vision for M&S, which still serves more than 21m customers a week and controls a third of the lingerie market. Despite clothing sales remaining under pressure, M&S shareholders have publicly backed Bolland. Bill Adderley, founder of homeware group Dunelm and the biggest private investor in M&S, said before Christmas that the high street retailer deserved "top marks" for the performance of its food business and that "too big a deal" has been made of the underperforming general merchandise division. Jonathan Pritchard, analyst at Oriel, appears to agree. For much of the last year we have believed that M&S is on the right track. The return to its heritage of quality, design and good fabrication is, in our view, the correct strategy," he said. We believe that prior to this latest downturn in demand, there was evidence of much-needed improvement within the business. M&S's share of the menswear market has grown, as has its dominance within lingerie. Indeed there was even some evidence that its share in the important womenswear category had shown signs of stabilising. None the less, underwhelming Christmas numbers from M&S will be a disappointment and raise new questions about the direction of the company. Shares in M&S rose 30pc in the first nine months of 2013, but then gave up almost half of that gain in the final quarter as investors began to doubt how much progress was being made in clothing. In 2014, Bolland must demonstrate that the financial performance of the clothing business is improving, particularly because May will mark the end of the three-year plan he laid out after taking charge of the retailer. M&S's food business is outperforming the market and now accounts for more than 50pc of its sales. However, clothing offers M&S a higher margin and remains pivotal to its prosperity. Two key milestones over the next year should help Bolland by strengthening the company's online operations. M&S's new warehouse in Castle Donington, one of the biggest buildings in Europe, should ramp up to full capacity, while the retailer will also launch a new website in the spring, which is based on its own systems rather than Amazon's. It is already clear from the early sales figures that retailers with strong online businesses and efficient click-and-collect services - namely John Lewis, House of Fraser, and Next - have emerged as winners of the Christmas period. This was the first Christmas, for example, where Next offered a free next-day delivery service to stores, meaning customers could order online the weekend before Christmas Day and collect it in time. The result was that online sales did not fall off in the same way as they have in previous years. Lord Wolfson, chief executive of Next, said: "Both businesses [stores and online] grew strongly into Christmas. There is a change here. Online sales still peaked in sterling terms in early December, but the fall-off was much smaller. Another senior retail source added: "It is too late for a digital strategy. It has to be part of the business. Tesco is banking on its digital credentials driving growth. Britain's biggest retailer has seen sales in its stores fall, but its share of the online grocery market in the UK is a dominant 47pc, a greater proportion than the 30pc it holds of the entire market. The company, led by chief executive Philip Clarke, has sought to establish its digital strengths further by launching the hudl tablet computer, which proved a success in the run-up to Christmas. Other initiatives are planned for 2014, including the launch of more devices - which is likely to include a Tesco smartphone - the launch of an e-book store through blinkbox, and the creation of an e-wallet that will merge Tesco's retail services with Tesco Bank's new current accounts and debit cards. These projects have been up to four years in the making and are central to Tesco's plan to serve a new generation of shoppers who have grown up with smartphones and Twitter. The challenge for Tesco, however, is that doubts remain about the attraction of the products it is actually selling. Much like M&S, it has become lost in the middle ground. On the one side is upmarket Waitrose, and on the other are the discounters Aldi and Lidl. Analysts have forecast that Tesco's like-for-like sales could fall by around 2pc for the five weeks to January 4. This performance would compare with a 1.8pc increase in like-for-like sales in the same period last year and is also likely to be beaten by Sainsbury's, which should report a small uptick in like-for-like sales. James Collins, analyst at Deutsche Bank, warned it is likely to have been a slow Christmas for all the leading supermarkets. "Underlying all of our forecasts is the assumption that industry growth should pick up from the very low levels seen running into December, as consumers spend up for the big occasion, as has been the case over recent Christmases," he said. However, the only firm Christmas trading data point we have so far, a sales update from Waitrose, suggests that this might not have been the case, with four-week sales growth to December 28 of 4.3pc versus 6.1pc for the prior four weeks. Tesco's sales are under extra pressure because Clarke is unwinding the retailer from low-margin non-food categories - such as widescreen televisions - and refocusing on homeware, cookware and clothing. This process has dragged down sales but not profits, meaning that Tesco has been able to focus investment on improving its food range and stores. The revamped non-food range should be in 600 stores by April. It is part of Clarke's drive to "Build a Better Tesco," a £1bn plan to turn around the company after a profits warning in 2012. On the basis of Tesco's Christmas sales, the programme has had mixed success. However, 2014 will be its acid test. It is understood that Clarke and Tesco now plan to put their foot on the accelerator and speed up the pace of store revamps. The company has unveiled impressive new-look stores in the South East, such as a convenience store in Regent Street that now has a fresh sandwich and salad bar, and an overhauled hypermarket in Watford that includes a Giraffe restaurant and Harris + Hoole coffee shop. The stores that have been revamped have been well received by customers and enjoyed an uplift in sales of as much as 7pc. However, for a company with more than 3,000 stores this is not enough to shift the dial. In 2013, Tesco modernised almost 300 stores. However, it is thought that number will increase significantly for 2014 and there will also be a greater focus on the company's 850 largest stores. It is still likely to take as long as four years for Tesco to reshape its entire portfolio, but an acceleration of the overhaul appears vital if the retailer is to remain competitive against Waitrose and the discounters. At the same time as revamping stores, Tesco is also looking to downsize 110 sites. The company has cut the size of a hypermarket in Stockton-on-Tees from 120,000 sq ft to 80,000 sq ft by installing a gym, while part of a store in Inverness has been handed over to Dobbies, the garden centre chain that Tesco bought in 2007. The supermarket giant will seek further deals to sub-let space in its stores over the next year, with the company considering clothing, electrical, and restaurant brands. A deal with M&S may even be a possibility. Clarke's strategy for its large stores has won praise from rival retailers. Mark Price, the boss of Waitrose, said: "I think that supermarkets will have to be rethought. To give Phil Clarke some credit, I think he understands that with their massive megastores they have got to do something different. So my hat's off to him for being brave and doing a few things. As Tesco's new ideas spread across the country, the potential of Clarke's masterplan - evolving Tesco into a differentiated retailer that offers consumers digital services but also proximity through convenience stores and click-and-collect points - will become clear. James Grzinic, retail analyst at Jefferies, said: "Tesco's April finals should confirm that trading momentum has improved in 2014 relative to a tough end to 2013, both internationally and in the UK. Domestically the scaling up of the refurbished store base and a more advanced stage of phasing out large ticket non-food items should allow improvements in food trading to become more apparent. However, while Tesco and M&S's strategy have won backing from the industry, it is Britain's shoppers who will ultimately decide whether the retailers get back on track in 2014. Today, consumers are faced with more choice than ever before, thanks to the internet and the arrival of foreign challengers in the UK. The days of a retail behemoth controlling 30pc of the market could well be over. The clothing and homewares retailer paid out a £75m special dividend after performing ahead of expectations in December Buoyed by its Christmas advert starring an animated bear and hare, the department store chain grew sales 7.2pc Enjoyed its best-ever Christmas period with like-for-like sales up 7.3pc in the three weeks to December 28 and online sales up 58pc Issued a major profits warning on New Year's Eve after discounting hit its profits The supermarket group does not report sales figures until January 20 but City analysts believe like-for-like sales could be down by almost 3pc Expected to have underperformed rival J Sainsbury Its clothing business is forecast to have fallen by at least 0.5pc