WRAPUP 1-Tesco's UK problems exposed by Sainsbury's surging sales
* Tesco Q2 UK lfl sales, ex fuel and VAT, flat
* Sainsbury Q2 lfl sales, ex fuel, up 2.0 pct
* Tesco H1 group trading profit down 7.6 pct to 1.59 bln stg
* Tesco says committed to European markets
* Tesco shares down 3.3 pct, Sainsbury's down 1.5 pct
LONDON, Oct 2 (Reuters) - Tesco, Britain's biggest retailer, posted flat sales 18 months into a 1 billion pound ($1.6 billion) recovery plan for its main home market, a lack of growth exposed by accelerating sales at rival J Sainsbury .
Tesco, the world's No. 3 retailer behind France's Carrefour and U.S. leader Wal-Mart, was once the envy of UK retailers but has been hurt by falling sales, costly failures in U.S. and Japanese markets, and an expensive folding of its unprofitable Chinese arm into a state-run firm.
Weak central European markets and revelations that horsemeat had been found in meat products sold by it and other retailers also took their toll as first-half group trading profit fell 7.6 percent, sending Tesco's shares down 3.3 percent.
Tesco said sales at British stores open over a year, excluding fuel and VAT sales tax, were flat in the 13 weeks to Aug. 24, its fiscal second quarter.
The outcome met analysts' forecasts in a range of flat to down 0.5 percent and represented an improvement on a first quarter decline of 1 percent.
But in stark contrast Sainsbury, the No. 3 UK grocer, said its like-for-like sales rose 2.0 percent, excluding fuel, in its 16 week second quarter to Sept. 28, more than doubling its growth of the previous quarter on the back of strong performances online and at convenience stores.
"The biggest retailer in the UK is having a truly terrible time, but its numbers do not reflect the passion being thrown at it," said Phil Dorrell, director of consultants Retail Remedy.
In Britain Tesco was hit hard by the economic downturn because compared to rivals it sells a higher proportion of non-food items, where consumers have cut back the most and also because of years of underinvestment.
It is also the most affected by the growth of discounters Aldi and Lidl, according to JPMorgan Cazenove, until recently Tesco's house broker.
Though Tesco's recovery plan has seen heavy investment in store upgrades, product ranges, more staff and its online offer for a UK market which contributes over two-thirds of group revenue, its share of the market is still showing a year-on-year decline, monthly industry data showed last week.
Chief executive Phil Clarke said Tesco's UK performance strengthened through its first half.
"We're feeling very positive about the changes that we've made and consumers are reacting very well," he told reporters, pointing to second quarter like-for-like sales growth in food of 1 percent, clothing sales growth of 8.6 percent and online grocery sales growth of 13 percent.
Tesco did manage to retain its UK trading margin at 5.2 percent in the first half and said that was sustainable.
Sainsbury's, whose current grocery market share is at a near decade high of 16.6 percent, just behind No. 2 Wal-Mart's Asda, has also benefited from growth of own-brand sales and a big push into non-food areas such as kitchen electricals.
According to market researcher Kantar Worldpanel, Sainsbury's was the only one of Britain's "big four" grocers, which also includes No. 4 Morrisons, to increase its market share over the last year.
Tesco's group trading profit, down to 1.59 billion pounds in the six months to Aug. 24, was hit by a particularly poor performance in continental Europe, where sales failed to meet expectations and profit slumped 68 percent to 55 million pounds.
Though Tesco has struck a deal to exit its loss-making business in America, chief financial officer Laurie McIlwee told reporters Tesco was committed to staying in its current European markets - Poland, Turkey, Czech Republic, Hungary and Slovakia.
"We're expecting a good improvement in the European region in the second half," he said.
Second-quarter like-for-like sales fell in all ten of Tesco's overseas markets.
Both Tesco and Sainsbury echoed other retailers in taking a cautious view of the UK market even though recent official data and surveys have shown an improving outlook for spending.
"We can of course see all those encouraging signs from economic indicators but our customers tell us that they still don't have extra money in their pocket," Sainsbury's commercial director Mike Coupe told reporters.
(Editing by Mark Potter)