The supermarket industry's next big deal will be the acquisition of Pathmark Stores, Carteret, N.J., by Safeway, Pleasanton, Calif., according to the consensus prediction of a half dozen equity analysts interviewed by SN in late April.
While equity analysts don't pretend to know the future, they willingly speculated on which mergers and acquisitions might be announced before the end of the year, and also offered opinions on whether Wal-Mart Stores is ready to move from its rural stronghold into urban America and if an economic slowdown would benefit the supermarket industry.
While not everyone's crystal ball was in sync, most of the analysts said a Safeway takeover of Pathmark in the next six months appeared likely.
Asked what was the next major merger and acquisition candidate in the industry, Ted Bernstein, high-yield analyst, Grantchester Securities, New York, replied, "I think it will be Safeway buying somebody on the East Coast. I know they're interested in the Northeast.
"Pathmark would be an excellent acquisition. Coupled with their Washington operation, it would give Safeway coverage from Connecticut to northern Virginia."
Deborah Weinswig, food and drug chain analyst, Bear Stearns, New York, offered a similar response. "Everyone keeps talking about Pathmark," she said. "The company has started to turn the corner, so it's now a very attractive acquisition, with well-located stores in the Northeast.
"The acquiring company would probably be Safeway. Buying Pathmark would leverage Safeway's distribution in the East. Albertson's can't do anything at the moment, and Kroger is very interested in doing smaller acquisitions."
Gary Giblen, senior vice president and director of research, C L King Associates, also said Pathmark looked like the industry's most tempting takeover target.
"Safeway is by far the most logical acquirer," he said, adding that Pathmark's recent performance may have awakened the interest of other suitors, including U.K.-based J. Sainsbury, owner of Shaw's Supermarkets, East Bridgewater, Mass.
"Up to now, the potential acquirers have been evaluating Pathmark," he said. "Then, the company had an absolutely breakaway fourth quarter. I think acquirers would say there's no better time than now to buy Pathmark.
"Also, I think Sainsbury has a lot of money after selling Home Base [a U.K.-based chain similar to Home Depot]. It fits perfectly. Sainsbury has been expanding Shaw's south from northern New England. The next stop is Pathmark territory."
Still, Giblen said he is partial for Safeway to do the takeover. "I think Safeway could get so much more out of it," he told SN.
However, some analysts saw Safeway also being attracted by other companies. Lisa Cartwright, director, Salomon Smith Barney, New York, said Safeway "would continue to look at companies on the East Coast to leverage their investment there. I would put Weis Markets or Harris Teeter on their short list."
Another mergers and acquisitions scenario popular among analysts was the acquisition of a drug store chain by a supermarket company. Jonathan Ziegler, San Francisco-based managing director, Deutsche Banc Alex. Brown, New York, said, "This is the rumor we've been hearing -- Safeway and Walgreen. That would be a very interesting combination.
"But they're both strong companies. Who would run it? It would be a nice fit, but I don't think it would happen."
Both Ziegler and Weinswig suggested more likely takeover candidates among the pharmacy chains include two struggling outfits, Rite Aid, Camp Hill, Pa., and Eckerd Drugs, a division of JC Penney, Plano, Texas.
Another takeover scenario several analysts outlined focused on a large foreign food retailer -- France-based Carrefour and U.K.-based Tesco were the most frequently mentioned -- attempting to buy its way into the American market.
Foreign involvement is pretty much the only way any of the analysts could envision a mega-deal happening this year. "Safeway and Tesco, Albertson's and Tesco. The marriage could occur," speculated Ziegler. "Such a transaction wouldn't surprise me."
However, Giblen foresaw a possible mega-deal involving a foreign company that already has a strong U.S. presence, Dutch-retailer Ahold. "The only mega-deal now would be Ahold buying Kroger or Safeway," he said. "Both of them are doing well enough. Ahold has an awful lot going on, but it's been getting a lot out of its recent acquisitions."
For the most part, the analysts said the most likely acquisition targets were regional chains. Chuck Cerankosky, equity analyst, McDonald Investments, Cleveland, told SN, "As the supermarket companies get larger, the anti-trust issues become more of a problem. Thus the rifle-shot approach of buying regionals is probably the best fit."
Cerankosky also noted that companies like Safeway and Kroger have acquired an expertise in negotiating takeovers. "The buyers know what the prices need to be for them to make their returns-on-assets," he said. "They've been through enough of these. They know that the idea you can wing it as you integrate an acquired company is highly risky."
Cartwright also observed that many regionals could become more amenable to takeovers in the near future. "I think as competition increases and Wal-Mart continues to roll out supercenters, you're going to see these companies sell out at reasonable prices," she said.
While Wal-Mart Stores, Bentonville, Ark., continues to spread its supercenters across rural and, to a lesser extent, suburban American, it has largely avoided big cities. Most analysts did not see that strategy changing dramatically this year.
Giblen commented, "Wal-Mart will keep on coming up with more supermarket-like formats, but they're limited to where they can go. Safeway will never have to worry about Wal-Mart going into the San Francisco Bay area. The people there will never permit that kind of sprawl."
Instead, Giblen noted, Wal-Mart is spreading into rural and suburban markets it hasn't saturated yet. "They haven't really announced it, but they're going heavy into Florida," he said.
Meanwhile, the analysts said Wal-Mart appears to consider its conventional supermarket Neighborhood Market format as not-ready-for-prime-time. The company has 20 Neighborhood Markets currently operating, the oldest ones in northwestern Arkansas along with newer stores in Dallas, Houston and Oklahoma City.
Ziegler observed, "Neighborhood Market is still in research and development. They're experimenting with types of marketing, types of merchandise, stores fixtures, locations. I don't think they're going from 20 stores to 200 this year. I think you're going to see a gradual ratcheting up."
Cartwright also noted that Wal-Mart is continuing to adjust the Neighborhood Market format. "They're still trying to figure out the right mix and the right pricing," she said. "That's difficult, especially considering they're going to have to deliver the message that they are priced like a Wal-Mart Supercenter but able to deliver fresh product to a more expensive location."
Wal-Mart is under no immediate pressure to push into unfamiliar urban territory, Cartwright noted. "I think there're still in their traditional markets."
Weinswig wondered if the company was really committed to city life. "They haven't opened any Neighborhood Markets this fiscal year," she said. "They're asking themselves, 'Can you get the same return on investment from a smaller format that you get from a supercenter?"'
Wal-Mart has yet to answer that question to its satisfaction, she added. "That's why they've gone abroad," she said. "It'll be a real relief for supermarket companies if they never roll out Neighborhood Markets."
Without actually welcoming a recession, the analysts said that an economic slowdown could benefit supermarkets.
"In the early 1990s, you had a recession, and sales were good," said Giblen. "People traded down. You didn't go to restaurants, but treated yourself to a steak at home. That's why I'm pretty sanguine about second half 2001."
Weinswig said, "We haven't seen a slowdown yet. If there is a real slowdown, people aren't going to be going out to eat. They'll move to private label.
"If gas goes to $3 a gallon in California, people will use supermarkets like discount stores. They'll buy general merchandise there. You've had the addition of general merchandise in supermarkets, and supermarkets are continuing to improve pharmacy operations. The addition of ancillary business is changing the face of the supermarket."
A slowdown could also make supermarkets a more attractive investment, according to the analysts. "People have had a good scare," said Giblen. "You do have a change in the boom mentality, but the good supermarket chains remain a good investment."
Cerankosky said, "Investors are rediscovering some food retailers."
Bernstein, who specializes in high-yield supermarket stocks, said come boom or bust, investors will be eager to put their money into supermarkets. "In high-yield, the supply of paper into the market has been almost non-existent, and investors have an appetite for it."
