Empire Offers Big Premium to Take Sobeys Private

JON SPRINGER

STELLARTON, Nova Scotia — Canadian grocery industry observers were waiting for another shoe to drop following Empire Co.'s announcement that it would buy the shares of Sobeys it did not already own at a 53% premium and take the retailer private.

The deal, which one analyst called “stunning,” left observers speculating how Empire would fund the nearly $1 billion (U.S.) purchase, which values Sobeys stock at $58 (Canadian) a share at a time it was trading at around $38 a share. Also left open to question was whether as a private company Sobeys would be better positioned to make acquisitions — its officials said it would — or could become an acquisition target itself, all while working through a difficult time for Canadian supermarket retailers, particularly in Ontario.

Bill McEwan, chief executive officer of Sobeys, in a conference call said it would be “better than business as usual” as Empire — an investment group controlled by the Sobey family and owner of 72.1% of the outstanding Sobeys stock before the announcement late last month — takes complete control.

“Our strategy is intact, and our call to action is the same tomorrow as it is today,” Mc-Ewan said. “We intend to out-food, out-fresh, out-service, out-market our competitors. It's doing what we are committed to doing, only with even stronger support.”

Though officials of Sobeys and Empire said they expect the deal will close in mid-June, they said they had not finalized financing. Standard & Poor's put its ratings of Empire and Sobeys debt on review, with negative implications in the event the deal is funded completely with debt. Empire could also sell some of its other holdings — investments in a real estate developer, or a theater chain — to raise the money, analysts noted.

Empire officials said the purchase price was based on the results of an independent valuation study that determined a fair market value of $56 to $64 per share. Perry Caicco, an analyst for CIBC World Markets, Toronto, in a sharply worded research note, remarked that this was “a valuation we would love to read.”

Caicco was critical of the bid, arguing that it came while Sobeys' operating results “have begun to deteriorate.” Most recent quarterly results showed a 27% decline in net income as the chain struggled amid a price war and structural issues in Ontario.

Those results, announced in late March, sent Sobeys' stock price tumbling and may have sparked Empire's interest in buying it at a discount, another analyst speculated.

“I think there's a chance the independent valuation blindsided them, because it came in so high,” said the analyst, who asked not to be identified. “I think Empire decided ‘Sobeys is our biggest asset; we've invested a lot of money and time in fixing the problems it had; and we can see out 18 to 24 months, when the food industry doesn't have such a beleaguered outlook, our earnings power is going to be pretty good.’ I think they liked the idea of owning 100% of that, rather than 72% of that.”

Bill Chisholm, an analyst at MacDougal MacDougal and MacTier, Toronto, said he wondered why the company didn't continue buying shares on the open market, as it had in the past.

“They've been increasing their ownership of Sobeys ever since they took it public to finance the acquisition of the Oshawa Group [in 1998],” Chisholm said. “They've gone from 62% to 72% in that time. They obviously felt now was a good time to take it to 100%, but my personal feeling was they could have kept adding to their position on the open market.”

McEwan said the deal would enhance Sobeys' ability to “take advantage of new opportunities when they arise,” though analysts said they didn't feel the acquisition of a smaller player, such as Safeway Canada or Overwaitea, was likely in the near term.

Another possibility would be Empire considering an offer for Sobeys down the road, an analyst said.

“People are wondering whether there's something bigger than what we're seeing,” the analyst told SN. “Maybe there's an international player, like Tesco, or an international and local player, like Wal-Mart, that might be interested in owning Sobeys because it's the least unionized of the three national grocery players.”