A message in Arabic was reportedly found on the victim's head, which had been pinned to a fence.
Two attackers arrived at a gas factory near Grenoble in a car, bearing banners written in Arabic, and set off explosions.
France's anti-terror prosecutor said the attack was carried out by "a terrorist group" and it is understood one man has been arrested.
Prime Minister David Cameron expressed his sympathies over the incident to French President Francois Hollande.
The two leaders spoke in Brussels, where they are attending a European Council summit.
A Downing Street spokeswoman said: "He expressed his sympathies for what looks like an appalling incident.
"Details are still emerging, so we wait to see those. But it clearly looks an extremely concerning situation and our thoughts are with all those affected by it."
French officials said the attack began mid-morning in the Isere region when the men crashed the car into the entrance of the factory and into gas canisters sparking an explosion.
Several other people are reported to have been injured.
The man arrested is said to be known to authorities.
The body and banners with Arabic writing on were found near the factory entrance.
France went on high alert in January after extremist brothers Said and Cherif Kouachi killed 12 people - including two police officers - in attacks on satirical magazine Charlie Hebdo in Paris.
A security official said the torso was found near the site of the explosion but that the victim was not decapitated by the blast.
Two flags, one white and one black and both with Arabic inscriptions, were found at the scene.
Police are searching for anyone else possibly involved in the attack.
Speaking in Brussels, President Hollande said the incident had "all the hallmarks of a terrorist attack" and the suspect in custody had been identified.
He said there was "no doubt" the terrorists, one man and an accomplice, meant to cause an explosion at the factory using gas cannisters.
He added: "The attack has all the hallmarks of a terrorist attack.
"A decapitated body was found with inscription written on it. There is one dead and two injured.
"The suspect was arrested and identified."
He said France would "never give into fear" and the attack must not "create unnecessary division".
Speaking at the scene, French interior minister Bernard Cazeneuve said one of the suspected attackers had previously been under investigation for "charges of radicalisation".
He said authorities were searching for possible accomplices.
"The person who has taken part in this hideous crime is under arrest," he said.
"The identification of the victim is still under under way."
Asked whether Britain was taking additional security measures in response to the attack, the Number 10 spokeswoman said the authorities were "looking at the situation closely" but had nothing further to add.
A spokesman for Air Products, which runs the gas factory, said all their employees at the site had been accounted for.
He said: "Our priority at this stage is to take care of our employees, who have been evacuated from the site and all accounted for.
"Emergency services are on site and have contained the situation. The site is secure. Our crisis and emergency response teams have been activated and are working closely with all relevant authorities."
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