MONTVALE, N. J. - A&P here said strong comparable-store sales growth through the holiday period gives it confidence in the long-term viability of its new strategies - a confidence echoed by some industry analysts as well.
Although the company reported a comp-store sales decline of 0.3% for the third quarter ended Dec. 3 - excluding its stores in New Orleans, where five of its most unprofitable units suffered damage and remain closed - Brenda Galgano, senior vice president and chief financial officer, said comp-store growth reached 1.5% during the closing weeks of the quarter and the beginning of the fourth quarter, excluding New Orleans. The remaining New Orleans stores were experiencing double-digit growth, Eric Claus, president and chief executive officer, said during a conference call with analysts.
Analysts said the company does appear to be on a positive track since the divestiture of its Canadian operations last summer, though its future is not without challenges - some of which could be alleviated through a merger with Pathmark Stores, they suggested.
John Heinbockel, an analyst with Goldman, Sachs & Co., New York, said A&P's early-stage turnaround "is progressing well," with sales momentum improving in October and November "following a significant uptick in promotional activity," combined with the benefits of its supply agreement with C&S Wholesale Grocers, Keene, N.H., and its information services agreement with Metro, Montreal, which acquired its Canadian operations in August. "But the company spent a good portion of [those benefits] back in the form of price and promotion," he said.
Heinbockel said he believes A&P may have a hard time achieving its goal of bottom-line profitability by the end of fiscal 2007. "Even if we give the company credit for the entire benefit of the Metro services agreement ($16 million) and the C&S contract ($40 million), and some benefit from overhead cost reductions ($30 million), we do not get there, so this looks like a stretch goal," he said.
Nevertheless, A&P appears to have a slight edge in its turnaround over Carteret, N.J.-based competitor Pathmark, Heinbockel said. "A combination of the two still makes tremendous strategic sense and would drive significant shareholder value through the creation of as much as $150 million in synergies," he said. "However, given the nascent nature of both turnarounds, this does not seem likely within the next two years."
Karen Short, managing director for Fulcrum Soleil Securities Corp., New York, said she believes a merger sooner rather than later would be most beneficial for the two companies. "It would be more cost effective and efficient to join forces today, vs. ramping promotional activity to fight each other for market share and expending significant duplicative resources on implementing almost identical turnaround strategies," she said, "[whereas] a merger today would make both companies immediately more profitable and powerful through scale, synergies and cost-cutting opportunities."
Any such merger would require the combined company to divest only about 30 stores, according to her calculations, Short said.
Perry Caicco, an analyst with CIBC World Markets, Toronto, said A&P's long-term future will become more apparent "as it positions itself to participate in the probable consolidation of the [Northeast, where] A&P's strong share price and clean balance sheet make it a primary contender to acquire Pathmark."
Efforts by A&P management to turn the company around are progressing, Caicco said. "A&P's new U.S.-only business is undergoing a dramatic transformation, and we're seeing the first glimpse of that as the new management team has sunk its teeth into the business," he said. "Same-store sales, while still slightly negative, turned solidly positive in the last month of the [third] quarter; an immense amount of costs have come out of the business, largely in administration; and gross margins are improving despite strong price investments.
"The key to the early turnaround has been an intense focus on store execution and customer satisfaction and brutal cost-reduction activities in areas away from the customer. Prices have come down and service has been improved, weekly ads have been simplified, stores are more in-stock and store conditions are improving."
Another analyst, who asked not be named, expressed surprise at Wall Street's sell-off of A&P shares immediately following the company's conference call. "It was not a great quarter but it was one that showed the company is back on track," the analyst told SN.
During the call Galgano said A&P expects to boost capital spending by about 33% in fiscal 2006 - to "the level of $200 million," compared with $150 million the company expects to spend this year - to speed up its remodeling programs and fresh-store conversions.
"We slowed down our spending in the second and third quarters to reassess our expectations on returns before the actual investments are made," she said. "Though remodels were showing improved profitability, we determined we need to realize higher returns, so we are shifting our investments to stores with the highest [potential] returns rather than investing in geographical cost curves."
Claus echoed her remarks. "With 80% of our stores not having been renovated in the last five years, we realized we could take an old, tired store in a high-income neighborhood with little competition and get a better return than if we spent capital in [geographic] clusters, and that's what we'll do."
Rather than pursuing a banner strategy in dealing with its store base, as it has in the past, Claus said A&P will pursue a format strategy, encompassing the following:
Remodeling 70 stores with a fresh format, including five new locations, by the end of fiscal 2006. By combining the best elements of its U.S. and Canadian fresh stores, "we've just nailed the concept," Claus said. The stores will have "a bright, very contemporary look, with more emphasis on products and less on fixtures," with a bakery closer to the Canadian model but a deli based on the U.S. model, he said.
The first new fresh prototype store is scheduled to open later this month in Midland Park, N.J., he said, with a format "that's adaptable to most store configurations."
Opening additional Food Basics stores, with new prototypes scheduled for two shuttered A&P locations in New Jersey in February. The company operates 11 Food Basics, "and there will probably be less than 20" by the end of 2006, Claus said.
New stores will be closer to the Canadian model in terms of their approach to discounting and other features, Claus said. "Food Basics is a fantastic vehicle if it's well executed, but the stores [in the U.S.] were not well-executed like the ones we have in Canada, and they were not really discount stores," he said.
"For one thing, they lack a price-entry private-label line, which should account for more than 30% of sales, and at least 70% of private label should be a price-entry line, and we will probably begin rolling that out in three months.
"Saying we ran a third-rate meat program would probably be a complement, but the new prototype will offer all Choice beef. Produce has to be a signature line, and it has to be expanded by at least 30%. Bakery was a non-entity in those stores, and the [stockkeeping unit] count was probably double what it should be."
Converting six Food Emporiums in high-end sections of Manhattan in New York and a couple of locations in the Hamptons on Long Island into gourmet stores, at a cost of $4.5 million to $4.7 million each. "We want to restore Food Emporium to what it once was; eventually open one or two locations in major cities like Baltimore, Philadelphia and Detroit, and then possibly leverage the name in the deli and bakery sections of our fresh stores with a line of Food Emporium products," Claus said.
For conventional stores, Claus said A&P is committed to recasting itself as a price-driven operation. "By working more closely with vendors, we've been able to reduce the cost of goods by $19 million since October, and all those savings have been reinvested in price," he said.
"However, we've done away with obsessing about our competitors and are focusing on our own plans and strategies. We're working very hard to change the high-priced image we've created with our customers over many years. Even our own store-level people are asking us when we will back off our aggressive stance, but this isn't temporary. These changes are a fundamental and sustainable part of our daily culture and part of a long-term strategy to rebuild consumer confidence."
That could be a problem in Detroit, he noted, where the company converted stores to the Food Basics format, then put the division up for sale before opting to hold onto it when it couldn't find a buyer. "We blew our opportunity to do Food Basics there, so we may have to do some sort of a hybrid store that really cuts back the SKUs and really focuses on price."
Claus said A&P is looking at growth opportunities. "It's time to start growing the company, not shrinking it anymore, and before we sell off anything, we have to make sure we buy something or create something that has at least the same volume," he said.
For the 12-week third quarter the company lost $71.2 million on sales of $1.6 billion - a decline of 37.4% including the Canadian operations that were sold this past summer. For the 40-week year-to-date period, the chain reported net income of $431.7 million, vs. a loss in the comparable period, while sales were $7.1 billion - a decline of 14%.
3RD-QUARTER RESULTS
Qtr Ended: 12/3/05; 12/4/04
Sales: $1.6 billion; $2.5 billion
Change: -37.4%
Comp-store: +1.8%; (U.S.)*
Net Income: ($71.2 million); ($75.3 million)
Inc/Share: ($1.74); ($1.96)
40 Weeks: 2005; 2004
Sales: $7.1 billion; $8.3 billion
Change:-14%
Comp-store: 0% (U.S.)*
Net Income: $431.7 million**; ($182.4 million)
Inc/Share: $10.62; ($4.74)
*Comps in the U.S., excluding New Orleans, declined 0.3% for the quarter and 0.6% for the 40-week period.
