Delhaize Gains Strength as Potential Consolidator

JON SPRINGER

SALISBURY, N.C. — The buzz around Delhaize Group recently might be summed up by the theme song playing in television commercials now airing for the company's Bloom stores: “C'mon, Get Happy.”

Buoyed by positive sales momentum, an improving financial picture and rave reviews for its new store formats, Delhaize is attracting shoppers and investors like it never has before.

Its stock last week, trading near $95 a share, was reaching all-time highs and had improved by more than 50% from a $61.98 low point during the past 52 weeks. Analysts said the rising stock price reflects improved market confidence in a retailer that is still trading at a discount to its peers and is viewed increasingly as a potential consolidator on the East Coast.

Its value may also prove attractive to private equity investors, with some reports speculating last week that Delhaize could become a takeover target itself unless it fattens up on acquisitions. Not all analysts agree with that sentiment, however.

“I think the private equity attraction is going to be somewhat limited,” Mark Husson, analyst for HSBC Securities, New York, told SN in an interview last week, citing Delhaize's improving but considerable debt load, its heavy capital spending requirements, and a less valuable real estate port-folio than other retailers.

Husson, however, believes Delhaize is likely to be an acquirer of other supermarkets. A takeover of Albertsons LLC's stores in Florida, for example, would continue the momentum Delhaize built by flipping stilted Kash n' Karry locations there to the vibrant Sweetbay brand.

“The most obvious potential acquisition is buying the Cerberus-Albertsons stores in Florida,” Husson said. “Once they finish converting Sweetbay, which should be by the middle of this year, they'll have a team of people in Florida very adept at taking stores and turning them around. They'll be finished with one job and ready for another meal.”

While Delhaize and Ahold reportedly held talks last year to discuss Ahold's U.S. properties, analysts said they don't believe a combination of the two is imminent. For now, they would expect Delhaize to target smaller companies in or near its current operating areas.

“My conversations with the company about acquisitions have been that they will look more like the Victory acquisition or the Harvey's acquisition, where they're making tuck-in, or adjacent market acquisitions without stepping out of their comfort zone,” Bryan Hunt, a debt analyst at Wachovia Securities, Charlotte, N.C., told SN. “That's a different approach than they may have taken in the past.”

The conversion of Kash n' Karry to Sweetbay is resulting in estimated one-year sales increases of around 15%, Husson said. Though sales have tended to be flat in year two, Husson called the initial performance “miraculous” and a demonstration of innovation needed to succeed in U.S. food retailing today.

“Food retailing in America today is about scale and innovation. It used to be only about showing up. You can tell with what they've done with Sweetbay and Bloom that Delhaize is clearly an innovative company trying to solve consumer needs,” Husson said. “And they also have some scale on the East Coast.”

Delhaize is promoting Bloom's arrival in the Washington market with a new series of television advertisements utilizing the “Get Happy” theme from “The Partridge Family” television show of the 1970s: The ads illustrate engaged employees, a bright look and feel, and the ease of shopping that are hallmarks of Delhaize's convenience-influenced format, which took over 29 former Food Lion locations in Virginia and Maryland where demographics indicated the chain could skew upscale.

Husson described Bloom as performing similarly to Safeway's “lifestyle” stores — same-store gains of around 10% in the first year and an additional 4% to 5% in the second year as shoppers increase their frequency and new customers roll in.

While producing promising results — including a 4.5% sales increase in fiscal 2006 — Delhaize's transformation is an expensive one and is still in its early stages. The company spent $663 million in fiscal 2006 capital expenditures and plans $755 million in capital spending this year as it addresses the roughly 60% of its store base still in need of renovations. And while its debt situation has improved some — Standard & Poor's still has a junk rating on Delhaize but recently raised its outlook to “positive” — Delhaize still carries $3.2 billion in debt, it said.

Those figures ought to scare off potential financial acquirers for the time being, said Hunt.

“If there is pressure from private equity groups to take this company private, those overtures would be made near the end of this cycle of capital expenditures, so the free cash flow of the business could be used to make debt repayments,” Hunt said. “We're too early in the cap-ex cycle to think about that.”

At the same time, Delhaize does possess some characteristics attractive for a takeover, sources said, including a 95% stock “float,” or shares not under control of the parent, and the fact it was trading cheaper than its peers as measured by price-to-earnings. In a frothy market for dealmaking, where supermarket cash flow and real estate are seen as valuable investment attributes, interest in Delhaize wouldn't come as a surprise, said Neil Stern, senior partner of McMillan Doolittle, Chicago.

“The way things are going at this point, anybody is a candidate,” Stern told SN. “There doesn't seem to be a size limit as to what could go, and supermarkets are attractive because they have proven cash flow. People talked to me this week about Supervalu being in the same league [of takeover candidates]. Anything is possible.”