Safeway’s $5.8-billion price, fit were right for Sobeys, analysts say

TORONTO • While most industry analysts had predicted it was only a matter of time before the prized Safeway banner was sold to a larger Canadian chain, Empire Co.’s acquisition of the western Canadian retailer was the easiest, most logical alliance in the consolidating grocery sector, analysts say.

Empire’s grocery chain Sobeys will enjoy additional geographic heft, bolstering the Stellarton, N.S.-based retailer’s presence in the West to become market leader in Alberta and doubling its presence in Manitoba, Saskatchewan and British Columbia.

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It brings the merchant even closer to Loblaw in size — the post-transaction Sobeys will have 1,538 locations and $24-billion in annual revenue, versus Loblaw’s 1,058 stores and $32-billion in revenue.

Both Safeway and Sobeys use the Air Miles loyalty program in key markets, and Sobey’s core business will be helped by the likely acceleration of its centralized purchasing program.

But more important, the price was right.

Given that Safeway Inc. did not hold an auction for its Canadian assets and despite having received multiple expressions of interest from Canadian grocery retailers in the past, the California-based retailer “agreed to what it considered a very good price,� Keith Howlett, retailing analyst at Desjardins Securities, wrote in a note to clients.

“Our view is that Safeway had a good appreciation of the potential bidders, what they might be willing to pay and how steep the Competition Bureau hurdles for each might be,� he said.

In the absence of a bidding war, Sobeys was able to pull off what analyst Perry Caicco of CIBC called “a magical deal.�

“We believe Safeway could have gone for more,� he wrote in a note to clients.

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The acquisition does not bode as well for third-place market rival Metro Inc., said retail analyst Peter Sklar of BMO Nesbitt Burns, who rates the Quebec-based grocer’s shares at market perform with a target price of $68 per share.

“Metro alone does not have the procurement scale of Loblaw or Sobeys, and participates in the UGI buying group, whose largest participants are Metro and Canada Safeway.�

As a result of the Empire acquisition, “Canada Safeway will obviously pull itself out of the UGI buying group, which will significantly curtail the buying clout of the group, and is a negative development for Metro.� Mr. Sklar, who rates Empire at market perform, raised his target price on the shares to $75 from $65.

Safeway’s exit from the buying group will likely increase the purchasing costs for the remaining members, including the No. 2 independent chain in the Western market, Overwaitea.

Sobeys puts pressure on the market to make similar move, and likely at higher prices

“It is not impossible that a few minutes after the announcement, Overwaitea got on the phone and started a bidding process for their assets,� said Mr. Caicco, who sees this transaction, expected to close in the fall, as a first step towards further inevitable consolidation in the Canadian grocery market. The analyst rates Empire’s shares at sector performer with a target price of $75. “By making the first move, and doing so at a reasonable price, Sobeys puts pressure on the market to make similar move, and likely at higher prices.�

But, according to analyst Andrew Calder of RBC Capital Markets, Empire’s acquisition is unlikely to have a meaningful impact on overall competitive dynamics in the sector, “considering what is likely to be a close review from the Competition Bureau, and Sobeys’ focus on post-transaction integration and deleveraging.�

Nevertheless, Sobeys could use its larger footprint to become more price-aggressive with rivals in markets in which it has a stronger presence.

That could mean an easing of prices to consumers in Western Canada, where food prices are higher on average than in the East.

“We have been predicting for a couple of years that prices would begin to fall as Target builds out grocery square footage and Walmart keeps pressing forward with stores,� Mr. Caicco said. “We do not see this deal, in and of itself, triggering any price wars.�

Article source: http://www.canada.com/Safeway+billion+price+were+right+Sobeys+analysts/8522450/story.html