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FLEMING RETHINKS RETAIL STRATEGY

DALLAS -- Fleming here said last week it is exploring "strategic alternatives" for its 110 retail price-impact stores, a statement that was widely interpreted by industry observers as meaning that the company is looking to sell the units.The move appears to have taken most supermarket analysts by surprise, leading them to wonder whether the price-impact format can succeed against aggressive supercenter

DALLAS -- Fleming here said last week it is exploring "strategic alternatives" for its 110 retail price-impact stores, a statement that was widely interpreted by industry observers as meaning that the company is looking to sell the units.

The move appears to have taken most supermarket analysts by surprise, leading them to wonder whether the price-impact format can succeed against aggressive supercenter competition.

As recently as April, Fleming acquired seven Dallas-area stores from Brookshire Grocery Co., Tyler, Texas, which it reopened in early May under its price-impact Rainbow Foods banner.

Should Fleming divest the stores, it will be the company's second major shift in retail strategy in two years. In 2000, the company started to sell off nearly all its 150 conventional supermarkets.

Shedding the price-impact stores would leave Fleming largely in the distribution business, where the company seems to be satisfied with its decision three years ago to move beyond its traditional customer base of independent supermarkets to a mix that currently includes supercenters, discount stores and convenience units.

Along with its price-impact stores, which operate under the Food 4 Less and Rainbow banners, Fleming has developed a limited-assortment store format, Yes!Less, which it said last week it expects to begin rolling out next year as a franchise opportunity.

During a conference call following the release of results for the second quarter and first half ended July 13, Mark Hansen, Fleming's chairman and chief executive officer, said, "It's becoming clear that our retail operations are becoming less integral to our total performance and results, and our retail results in the quarter were somewhat disappointing."

Comparable-store sales decreased 4.7% in the quarter, a decline Fleming attributed to competitive openings, disruption caused by remodels and meat price deflation. In Fleming's retail segment, earnings before interest, taxes, depreciation and amortization fell 29.4% to $22.8 million in the quarter, while distribution segment EBITDA increased 10.3% to $150 million.

Hansen continued, "Based on the anticipated growth and higher relative returns on investment capital generated by the distribution supply chain business, we are carefully and thoughtfully evaluating how Fleming's existing price-impact retail operations best fit into our overall strategy.

"Consequently, we are evaluating the strategic alternatives available to best enhance overall shareholder value with regard to our price-impact retail stores. A decision is expected to be made in our third quarter this year."

Neil Currie, equity analyst, UBS Warburg, New York, told SN he believed the price-impact format was potentially problematic. "I have some reservations about the concept, because to be a discounter I think you either have to be Wal-Mart or you need to follow Aldi's model, and carry a limited assortment," he said. "Fleming's stores have 10,000 products. That's a lot to service and replenish.

"An extended-range discounter has a relatively high cost-base and can do very badly when you get into price competition."

Steve Chick, equity analyst, J.P. Morgan, New York, voiced similar concerns. "I don't know if price-impact is the right strategy with which to go to bat against Wal-Mart," he told SN. "Is it really differentiated enough? More service and selection may be the better technique."

The sale of the Food 4 Less and Rainbow stores -- concentrated in Texas, Wisconsin, Minnesota and California -- could bring Fleming proceeds of $750 million, according to Bryan Hunt, vice president, high-yield research, Wachovia Securities, Charlotte, N.C. Chick said he believed the proceeds of the sales would be considerably less, probably about $400 million. "It will not be an easy sale, especially with Fleming's performance," he said. "They will have to convince a buyer that there's value there."

Meanwhile, as Fleming prepares perhaps to abandon Food 4 Less, the company was enthusiastic about its 17 Yes!Less units. Hansen, who described Yes!Less as a cross between a limited assortment and a dollar store, noted that the format has "posted a remarkable 56.6% increase in same-store sales," adding that Fleming expects to rollout Yes!Less franchises in 2003.

Fleming said sales for the 12-week quarter were up 14.1% to $3.93 billion, net income was $2.2 million, in contrast with a loss of $13.5 million in second-quarter 2001, and earnings per share were 5 cents, in contrast with a per-share loss of 31 cents.

Year-to-date, sales rose 13.6% to $8.6 million. Net income was $26.8 million, compared with a loss of $1.5 million through the first two quarters of last year, and earnings per share were 57 cents, vs. a loss per share of 3 cents.

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