WHO'S CONSOLIDATING AMERICA?

JAMES FALLON / Additional reporting: ELLIOT ZWIEBACH

U.S. food retailing appears headed for additional consolidation, but it's unlikely that additional European companies will dive in.

Many major European retailers -- who had been expected to seek acquisitions in the United States -- apparently now believe it's better to expand closer to home or to enter less-developed countries and grow with them rather than attempt to take on the world's toughest consumer market, European observers told SN.

"European retailers like [France's] Carrefour and Auchan have gotten seriously burned in the U.S.," David Shriver, a London-based securities analyst with Credit Suisse First Boston, New York, told SN. "From Carrefour's point of view, East Asia and even Japan offer more opportunities than America.

"Is the U.S. market a big one? Yes. Is the U.S. absolutely a must market? No." According to Shriver, European retailers are more interested in market leadership than in global geography. "There is a real rationale for international activities if a retailer has regional market leadership," Shriver said. "It needs to be a big player in whatever market it's in, including the U.S."

Guy Elewaut, investor and financial public relations manager for Delhaize "Le Lion," parent company of Food Lion, expressed a similar opinion, citing market share as a major reason fewer European retailers are likely to enter the U.S. market. "Entry isn't easy because you need to have an important position immediately," he said.

That's why, observers told SN, they believe the European players most likely to grow in the United States are those that are already there: The Netherlands' Ahold, Belgium's Delhaize and Germany's Tengelmann and Aldi. And observers added that some companies may even withdraw from the United States.

It had been thought earlier this year that Delhaize's acquisition of Hannaford Bros., Scarborough, Maine, might open the floodgates for renewed interest by European retailers in seeking acquisitions in the United States. However, the acquisition by Wal-Mart of Asda in the United Kingdom changed that outlook, observers said.

In the wake of Wal-Mart's Asda deal, Carrefour reached a merger agreement with Promodes in France; Ahold has disclosed plans for potential European purchases; Tengelmann is restructuring and talking with German rival Edeka about a merger; Tesco in the United Kingdom and Metro in Germany have shifted their focus more toward European acquisitions, and Sainsbury in the United Kingdom and Auchan, Leclerc and Casino in France are said to be possible takeover targets or merger partners.

According to most observers, the primary focus for European retailers appears to be beating Wal-Mart.

"Wal-Mart is now dictating the agenda in Europe," Richard Hyman, chairman of Verdict Research, a London-based consultant, told SN. "I think what has been happening in North America will definitely happen in Europe now that Wal-Mart has arrived.

"Wal-Mart's purchase of Asda creates a huge philosophical challenge to United Kingdom food retailers in particular because they traditionally have thought less globally than those in contintental Europe," Hyman said. "But unless Tesco and Sainsbury do something within the next six months or a year, they risk being left behind."

Despite a widespread view that European operators will avoid entering the United States, one observer sees the Wal-Mart European challenge actually opening the door for an entry. Gary Giblen, New York-based managing director for Bank of America Securities, San Francisco, told SN he believes Wal-Mart's moves in Europe could prompt Carrefour to take another run at the United States, following a short-lived venture with two Philadelphia-area hypermarkets in the mid-1980s.

"Carrefour is putting its toe back in the water," Giblen said, "with a possible interest in buying something in the U.S. to strike at Wal-Mart and discipline it at the same time Wal-Mart is striking at its European bastion.

"It's the strategy of bombing the bomb factory -- Wal-Mart became the dominant retailer in the general-merchandise universe in the U.S., just as Carrefour is in Europe, so if Carrefour can eliminate Wal-Mart's ability to gain any extra return in the U.S., it could be that much less efficient in Europe."

Jonathan Ziegler, San Francisco-based managing director of Deutsche Bank/Alex Brown, New York, said some American securities analysts would like to see U.S. companies seek out acquisitions in Europe "because it would get some excitement back into the stocks. And it would give American companies great global experience, just as Ahold has gotten in expanding in the U.S."

But U.S. retailers other than Wal-Mart don't seem interested, he said. "The CEO of one major U.S. chain told me he wasn't interested in Europe because all that would add is volume, and he said his company feels there are still plenty of chances to add volume in the U.S." Ziegler told SN.

The consensus view isn't just that there will be few new European entrants in the U.S. market over the next few years. It's also that some companies will pull out -- as Marks & Spencer, London, will do when it finds a buyer for Kings Super Markets, Parsippany, N.J.

Marks & Spencer said it wants to sell Kings so it can focus on businesses that can be developed internationally, including apparel retailer Brooks Bros.

"Marks & Spencer assessed Kings and decided it wasn't worth the trouble to keep it because its base business [in the U.K.] was under siege, so why spend large amounts of time on one small overseas business?" Giblen told SN.

Observers said they anticipate other European companies may also be poised to withdraw from the United States, while still others may be reluctant to enter due to the high cost of getting in.

For example, some European analysts have long questioned why Sainsbury continues to hang on to Shaw's Supermarkets, East Bridgewater, Mass., given Sainsbury's ongoing challenges from intense competition in its core food-retail business in the United Kingdom. As a result, some analysts are stepping up the pressure on the company to sell Shaw's.

"Does Shaw's give Sainsbury anything?" one analyst asked rhetorically when questioned by SN. "No. So Sainsbury should sell Shaw's and focus on the U.K."

But Sainsbury executives continue to insist the company plans to hold on to its U.S. holdings and to take part in the future consolidation of the U.S. food-retailing industry -- evidenced by its purchase in June of Star Markets, Cambridge, Mass. According to Dino Adriano, chief executive officer of Sainsbury, "Our overseas food-retailing businesses far exceed the performance of the overseas food activities of any of our U.K. competitors."

Sainsbury executives have repeatedly said they believe consolidation in the United States will be a seven-year process and that many regional operators that remain in private hands will become available for purchase.

With most public companies spoken for, U.S. observers told SN, the likeliest longterm acquisition candidates will come from the ranks of privately held companies like Publix Super Markets, Lakeland, Fla.; Wegmans Food Markets, Rochester, N.Y.; Schnuck Markets, St. Louis; and H.E. Butt Grocery Co., San Antonio.

European analysts have also raised questions about the wisdom of Muelheim, Germany-based Tengelmann continuing to own Montvale, N.J.-based A&P, asking how much longer it can afford to operate the U.S. company given the competitive challenges within its core German market from Aldi and Wal-Mart, which has operated German-based stores since early 1998.

"What is Tengelmann about?" Shriver asked. "Tengelmann's talks with [German rival] Edeka indicate how weak it is in Germany -- and if it's weak at home, how can it be strong abroad?"

Tengelmann said in September it is talking with Edeka about a merger that would leave a restructured Tengelmann with four "international core business sectors," including A&P.

Analysts said the pressure on Tengelmann to dispose of A&P will only increase as the pace of U.S. consolidation quickens.

They also told SN they believe Sainsbury and Tengelmann would find eager buyers for Shaw's and A&P, respectively, if they were to put them up for sale. Some leading U.S. food chains might express some interest, they said, while both Delhaize and Ahold would certainly make offers if given the chance.

Observers agreed both Delhaize and Ahold are firmly entrenched in the United States and will continue to grow there.

While both companies are awaiting final approval on recent acquisitions -- Delhaize for Hannaford and Ahold for Pathmark Stores, Cateret, N.J. -- Delhaize said it is unlikely to make another major acquisition in the United States in the foreseeable future. According to Elewaut, "We need some time to digest the Hannaford acquisition.

"But it is possible we will make some fill-in acquisitions of medium- or small-sized companies in markets where we already operate."

The story is different in Europe, Elewaut said. Since Wal-Mart announced it would purchase Asda last spring, Delhaize, like other European retailers, has been keen on becoming a bigger player in Europe.

"Our position in Europe is our most demanding challenge," he told SN. "We were in a position in the U.S. where we needed to increase the scale of Food Lion, and we have found a good answer with the purchase of Hannaford. Now our most urgent challenge is finding possibilities in Europe -- either acquisitions or partnerships -- to grow our business here."

Delhaize is also focusing on growth in the Far East, particularly Thailand, as well as in Southern and Eastern Europe, Elewaut said. But growth in those areas is less urgent, he noted, because open-air and other types of non-Western-style markets still account for 70% to 90% of sales there, and in Southern and Eastern Europe Delhaize already is well represented, with plans to grow organically.

One difficulty for Delhaize and other companies seeking to expand in Europe is the cost of acquisitions. "U.S. companies are much cheaper than European ones," Elewaut said. "Since the beginning of the year there have been diminishing multiples for food retailers in the U.S., while in Europe they have been increasing. And in some countries, such as France, the companies are so expensive that it is much better to invest in the U.S."

To some observers, the $3.6 billion Delhaize is paying for Hannaford might indicate that Shaw's and A&P would go for high prices if they are sold, but others warn not to count on it.

"Delhaize paid a huge financial multiple for Hannaford, but Food Lion was under huge pressure to take part in the consolidation in the U.S.," one European analyst told SN. "So Delhaize got into a bidding situation and ended up paying a high price. But just because one company paid a large multiple doesn't mean others will have to. It's not economical to pay those prices, and companies now recognize it."

Elewaut dismissed suggestions his company paid too much for Hannaford. "We paid 12.3 times EBITDA [earnings before interest, taxes, depreciation and amortization] for Hannaford and, compensating for losses in Hannaford's Southeast division and elsewhere, it was actually 11.5 times. In contrast, Ahold paid 12.1 times EBITDA for Giant Food [Landover, Md.] and Kroger paid 11.3 times for Fred Meyer.

"In Europe Wal-Mart paid 12.3 times EBITDA for Asda, while in the Carrefour-Promodes [merger] deal, it was 9.5 times."

According to Giblen, the high multiple in the Delhaize-Hannaford deal -- compared with a norm of 9 to 9.5 times EBITDA -- was an aberration that is unlikely to have any effect on future acquisitions.

"Unique circumstances drove the Hannaford deal," Giblen said, "because Delhaize wanted to catch up as a global player and it perceived Hannaford to be a most desirable property, so it may not be representative of what companies would normally pay."

Giblen said the U.S. stock market punished Delhaize for paying the high multiple "by keeping its share price down, to discourage others from paying up for an acquisition." According to observers, one of the driving forces behind the anticipated round of mergers and acquisitions in Europe is a cold, hard one -- cash.

Ahold, for example, needs to find a European "cash cow" to buy or merge with so it can get the money to make more acquisitions, some observers suggested.

"Ahold's big problem is cash," one European analyst told SN. "Its major strategic priority is to regain market leadership in Europe, and it needs a big European acquisition, and that probably will be in France. Both Casino and Auchan throw off lots of cash, and if Ahold struck a deal with either one, it could use that money to buy more companies."

Cees van der Hoeven, president and chief executive officer of Ahold, said earlier this month the company has its eye on 10 global chains as potential acquisition targets -- three in the United States, four in Europe and three in South America. "There have already been discussions with most of these candididates, some of which have reached a serious phase." Van der Hoeven said, "[and] we will be very surprised if we don't realize at least one such transaction next year."

In an SN interview, Hans Gobes, Ahold's senior vice president of communications, told SN, "We will continue to grow, not only in the U.S. but also in Latin America and definitely in Europe. We think the consolidation process in Europe will speed up, and Ahold definitely wants to be part of it."

Another European player with global goals is Tesco, the U.K.'s largest food retailer, which recently said its goal is to be "in the front rank of world retailers," with annual profits of $250.5 million (150 million pounds) from its overseas operations by 2002.

Terry Leahy, Tesco's chief executive officer, said his company expects to invest $5.01 billion (3 billion pounds) in its overseas businesses in Central Europe and the Far East over the next three years to increase the number of overseas hypermarkets from 38 in seven countries to about 120, with annual sales of $7.9 billion to $8.4 billion (4.7 billion to 5 billion pounds). He did not indicate if the United States figured in Tesco's longrange plans.

Giblen told SN he believes one factor likely to depress European interest in the United States is the amount of coordination necessary to make the synergies work. "For big players like Tesco or Carrefour to merge with any major U.S. company would require a lot of coordination, and coordinating such a merger globally would mean it would take a while to derive the benefits," he said.

"For example, a company like Delhaize can immediately combine its buying power on something like grocery bags but not as much on food products because there would be different product requirements. And it's unlikely global mergers would be driven by the desire to save a few cents on grocery bags."

In the short term, Giblen said, the potential savings for such commonly used items may be a driving force for cross-Atlantic consolidation, "but beyond that, global sharing of best practices may take a much longer time."

He also noted that vendors are country-based in Europe, "which makes it hard to strike a pan-European deal, let alone one that includes the U.S. Even if two countries use the same products, vendors might want to maintain a share in the U.S. and build share in Europe, so the goals of retailers and vendors could be so different that one-size doesn't fit all."

Eastern Congregation

European-based retailers operating in the U.S. have focused mostly on the Eastern part of the country.

Following are the names of foreign owners, the chains they own and the states in which those chains operate.

AHOLD:

Stop & Shop Cos., Quincy, Mass. -- operates stores in Massachusetts, Connecticut, New York and Rhode Island.

Tops Friendly Markets, Williamsville, N. Y. -- operates stores in New York and Ohio (Cleveland area).

Giant Food Stores, Carlisle, Pa. -- operates stores in Pennsylvania, West Virginia, New Jersey, Washington D. C. and Maryland.

Giant Food, Landover, Md. -- operates stores in Maryland, Delaware, Washington D. C., Pennsylvania and Virginia.

Bi-Lo Foods, Mauldin, S. C. -- operates stores in South Carolina, North Carolina, Georgia and Tennessee.

Pathmark Stores, Woodbridge, N. J. (pending) -- operates stores in New Jersey, New York, Connecticut, Delaware and Pennsylvania.

DELHAIZE:

Food Lion, Salisbury, N. C. -- operates stores in North Carolina, South Carolina, Georgia, Washington D. C., Kentucky, Maryland, Pennsylvania, Tennessee, Virginia, Delaware and Florida ( Kash n' Karry Food Stores).

Hannaford Bros., Scarborough, Maine (pending) -- operates stores in Maine, Massachusetts, New Hampshire, New York and Vermont.

TENGELMANN:

A&P, Montvale, N. J. -- operates stores in New Jersey, New York (including Waldbaum's, Central Islip, N. Y.), Connecticut, Massachusetts, New Hampshire, Vermont, Pennsylvania, Delaware, Maryland, Virginia, West Virginia, North Carolina, South Carolina, Wisconsin (Kohl's Food Stores, Wauwatosa, Wisc.), Michigan (Farmer Jack, Detroit), and Canada (Food Basics).

MARKS & SPENCER:

Kings Super Markets, West Caldwell, N. J. -- operates stores in New Jersey only.

J. SAINSBURY:

Shaw's Supermarkets, East Bridgewater, Mass. -- Massachusetts (including Star Markets), Connecticut, Maine, New Hampshire and Rhode Island

ALDI:

Aldi, Batavia, Ill. -- operates stores in Illinois, Ohio, Indiana, Missouri, Kansas, Wisconsin, Arkansas, Iowa, Kentucky, Michigan, New Jersey, Pennsylvania and West Virginia.

Trader Joe Co., South Pasadena, Calif. -- operates stores in California, Arizona, Washington, Oregon, Nevada, Massachusetts, New York, Connecticut, Virginia, New Jersey and Maryland.

AUCHAN:

Auchan, Houston, Texas -- single store operation.