PLEASANTON, Calif. -- In a bid to continue fattening its earnings, Safeway here last week proposed to acquire Vons Cos., Arcadia, Calif., for about $1.65 billion in stock.
Vons' management, apparently caught off-guard by the unsolicited merger proposal, said Safeway's offer "will be studied by a committee of outside directors of Vons, which will respond in due course." Safeway gave Vons two weeks to respond. Observers said if Vons agrees to the proposal, a merger would be unlikely before early spring.
The merger would add Vons' 325 stores and $5 billion in 1995 sales to Safeway's 1,050 units and 1995 sales of $16.4 billion, boosting Safeway from the third-largest U.S. chain to No. 2, with sales of $21.4 billion -- behind Kroger's $23.9 billion but ahead of American Stores' $18.3 billion. In stating the volume of the combined operations last week, Safeway used a figure of $22.5 billion, which it said was based on the chains' combined sales for the last 12 months.
Safeway's terms involve a stock-for-stock merger in which each share of Vons' common stock Safeway doesn't own would be exchanged, tax free, for 1.34 shares of Safeway common stock. Safeway also would assume $600 million of Vons' debt on top of its existing indebtedness of $1.8 billion, said Steve Burd, Safeway president and chief executive officer. Last Wednesday, when the offer was disclosed, Safeway's stock fell $1.25 a share to $42.13, while Vons' shares rose $11.22 a share to $54.34. Based on that closing price of Safeway shares, the deal would be worth about $56 for each Vons' share. The final price may vary, depending on Safeway's stock value at the time a deal would be made or on any interim talks between Vons and Safeway, observers said.
Burd told reporters in a teleconference call last week that Safeway has "no reason to suspect that Vons would have a hostile reaction [to the offer] because we think we have put forward a fair price. We have no interest in a protracted process, so we made what we regard as a full and fair offer right from the opening bell."
He said he expects Vons to accept the proposal but declined to speculate what action Safeway would pursue if it's rejected. "It is our strong preference to work with you toward a negotiated transaction," Safeway wrote in a letter proposing the merger to Vons' directors. "To that end, Safeway will not acquire additional shares of Vons' common stock except on a basis offered to all of your shareholders.
"We are committed to working with you to negotiate and sign a definitive agreement and to complete this transaction as soon as practicable thereafter. Although we understand that you will need some time to consider carefully our proposal, we would appreciate hearing from you within two weeks regarding your willingness to negotiate the terms of our proposal," the letter said.
Safeway operated in the southern California market from 1926 until 1988, when it sold most of its stores there to Vons and received a large stake in Vons' equity -- currently 34.5% of Vons' stock. A standstill agreement preventing Safeway from adding to its total expired several years ago, and since then there has been industry speculation that Safeway ultimately would re-enter the market via a merger with Vons.
Jonathan Ziegler, a securities analyst with the San Francisco office of Salomon Bros., New York, said the timing of the proposed deal was dictated by Safeway's timetable for getting its own house in order. "Making an acquisition any earlier would have been dilutive of management's time and effort and would have required management to take its eye off the ball," he said.
"But now, with Safeway's margins within shooting distance of its 8% objective, the company wants to continue to grow, and it has to make an acquisition of a less profitable company so it can apply its own best practices to another company. And with Vons operating in adjacent geography, with a good management team, the No. 2 market share in southern California and operating cash flow of just under 6.5%, it is a logical acquisition candidate."
Ed Comeau, an analyst with Donaldson, Lufkin & Jenrette, New York, said he expects Vons to accept Safeway's offer, possibly after some term negotiation. The offer's timing is logical, he said, since Vons' earnings have shown strong gains in the last two quarters -- including third-quarter results, released the day after the merger proposal was disclosed -- following sales increases in Vons' last four or five quarters. "Safeway is better off buying Vons now, because the longer it waits the more it might have to pay as Vons' earnings continue to increase."
For the 16-week third quarter ended Oct. 6, Vons said net income climbed 59% to a record $29.4 million. Sales rose 7.1% to $1.68 billion, and same-store sales were up 5.2%. In the 40-week period, net income rose 48% to $69.6 million, sales increased 7.7% to $4.14 billion and same-store sales were up 5.5%. Vons attributed the strong performance to improved customer service, competitive pricing, an effective marketing program and trimmed operating expenses.
Burd is one of four Safeway directors on Vons' 11-member board. However, he said, Safeway did not inform Vons of its merger proposal until after it filed a Schedule 13-D, outlining its acquisition plans, with the Securities and Exchange Commission last Wednesday.
Burd said he does not contemplate pursuing other acquisitions until the Vons proposal is settled. "Vons is a sizable company, and we are a focused management group. And it would be a distraction to take something else on while we're absorbing this combination."
Vons' 325 stores include 309 southern California and 16 Las Vegas units. If a merger is completed, Vons would operate as a Safeway division and retain the Vons and Pavilions names on its stores "because they've built great equity into their name, and we want to retain that," Burd said.
He said Safeway expects Dick Goodspeed, Vons' president and chief operating officer -- who was scheduled to succeed Larry Del Santo as chairman and CEO when Del Santo retires in May -- would be named manager of the Vons division if the merger goes forward. Burd said the impetus for the proposed acquisition came from Safeway management and not from Kohlberg Kravis Roberts & Co., the New York-based investment firm that has the largest equity position in Safeway. A spokesman for KKR, which owns 52% of Safeway's stock, told SN last week that Safeway management determined on its own that the acquisition of Vons would be the best strategic course for the company and presented that proposal to the board. "The KKR directors on Safeway's board, along with the rest of the board members, evaluated the proposal and are supportive of it," he said.