Apologies, this publish is generally for my profit (I attempt to publish on all new positions), there likey are no new ideas beneath on mixture of the nation’s two largest conventional grocery chains, Albertsons (ACI) and Kroger (KR), however I simply needed to acknowledge that I purchased into the merger arb earlier this week. Partially after listening to Andrew Walker and Daniel Biolsi talk about it in a latest But One other Worth Podcast episode.
Almost a yr in the past, the two introduced that Kroger (~2700 shops) was shopping for Albertsons (~2300 shops) for $34.10/share in money (the merger consideration has been adjusted right down to $27.25 for a $6.85 particular money dividend ACI paid in early 2023), shares closed on Friday for $23.63, providing 15% upside to the adjusted closing value for a deal that’s anticipated to shut in early 2024. Doubtlessly a juicy IRR.
On its face, the merger appeares to have a big anti-trust hurdles, however while you study the business, conventional grocers like KR and ACI are going through aggressive strain from large field shops like Walmart, Goal and Costco, plus competitors on the excessive finish from specialty grocers like Sprouts and Entire Meals. They have been share losers to each side. Though others do not all the time see it that approach, regulators took a slender view of the workplace provide business and rejected the tried Staples and Workplace Depot 2014 tie up, regardless of many different channels (notably Amazon) to purchase workplace provides. Each firms have struggled since, hopefully regulators take a extra holistic view right here and notice that conventional grocery chains want a powerful competitor to the massive field ideas (Walmart, Goal) that use grocery as an enticement to get buyers into their shops to purchase larger margin non-grocery items.
From a Chicagoan’s standpoint (they’ve overlap considerably right here), I used to be a bit shocked by the relative lack of overlap within the two chain’s retailer map nationally. Kroger has vital focus within the midwest and southeast the place Albertsons is mostly absent, and Albertsons is extra centered on the west coast and northeast the place Kroger has much less of a presence (apart from Denver, Seattle, Southern CA):
To deal with the areas the place they do have overlap, when the deal was initially struck, the 2 set the stage for a divestiture SpinCo that might home between 100 to 375 grocery shops. Along with the adjustment for the particular dividend (since paid), the money consideration was to be dropped by 3x the four-wall (retailer stage, pre company overhead) EBITDA of the shops assigned to the SpinCo. Conventional merger arbitrage traders do not like uncertainty within the complete consideration, the ACI SpinCo (within the preliminary docs, it appeared that SpinCo could be ACI shops solely) would have doubtless traded poorly or at had some uncertainty as to its public market valuation. This uncertainty (for my part) has partially led to the huge merger arbitrage unfold, together with issues round regulatory approval.
At this time’s information that Kroger and Albertsons had reached a deal to promote 413 shops for $1.9B to C&S Wholesale Grocers (“C &S”) ought to assist in a pair methods:
- Divesting the overlap shops in an arm’s size transaction ought to assist calm fears {that a} SpinCo could be full of the worst shops and be destined to fail. A spin wouldn’t have been arms size and will have been the final word rubbish barge, however now the divested shops will likely be plugged into a longtime operator who has achieved their due diligence and must be able to compete in opposition to the mixed KR/ACI following the closing of the deal. That could not be mentioned for a spin construction.
- If required by regulators, KR/ACI has additionally setup an possibility for C&S to purchase a further 237 shops if wanted. Within the preliminary merger proxy, the 2 events speculated that as much as 600 shops would have to be divested in complete, this feature would agency that up and absolutely remove the necessity for a by-product of unsure worth.
- The unique spin appeared to just for ACI shareholders, this divestiture package deal contains each ACI and KR shops, once more highlighting {that a} third social gathering absolutely evaluated the aggressive place in every market, versus a dump right into a SpinCo that may have failed.
- Much like above, however grocery shops are closely unionized, by promoting in an arm’s size transaction versus a spin, this construction doubtless helps dispel fears {that a} SpinCo would fail or that shops could be closed. C&W has dedicated to protecting shops open as-is which ought to assist political perceptions round this mix.
That is just about my thesis, the divestiture corporations up the merger consideration (should not want the SpinCo any longer) and may appease regulators {that a} sturdy third social gathering (versus a helpless SpinCo) has achieved their due diligence and bought the divested shops in an arm’s size transaction, thus making certain correct competitors. Assuming this deal closes in mid-February, even after this week’s run up, it’s providing a 15% absolute return and a ~38% IRR.
If the merger is blocked or in any other case would not happen, Albertsons is valued at 8x earnings (roughly inline with friends) and is a semi-controlled firm by Cerberus and different PE traders with capital allocation experience. The draw back would not seem too vital.
Disclosure: I personal shares of ACI
