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Supervalu is Super Cheap as Free Cash Lures LBO: Real M&A

Supervalu Turns LBO Target on Record Cash Flow Yield
An employee at Supervalu Inc. stands in part of a warehouse at a distribution center in Hopkins, Minnesota. Photographer: Ariana Lindquist/Bloomberg

Supervalu Inc. is offering private-equity shoppers the biggest discount of any supermarket chain in America.

The third-largest U.S. grocery store chain fell to a 30-year low this week, reducing its valuation to 3.9 times earnings before interest, taxes, depreciation and amortization. That’s the lowest since at least 1990 and cheaper than all other U.S. food retailers, according to data compiled by Bloomberg.

While Supervalu has seven times as much debt as its market value and is mired in its worst sales slump as Target Corp. and Wal-Mart Stores Inc. grab a larger share of grocery revenue, Barclays Plc says the company could still lure buyout firms with its cash flow and command a 50 percent premium. Supervalu, which analysts say will turn a profit for the first time in three years, has the industry’s highest free cash flow yield, the data show. Asset sales could also help a buyer pay down Supervalu’s debt and boost returns, Highmark Capital Management Inc. said.

“There’s no question about it, these shares are cheap, cheap, cheap,” David Dietze, president and chief investment strategist at Summit, New Jersey-based Point View Wealth Management Inc., which owns Supervalu stock, said in a telephone interview. “It’s been a problem child. It could make a good candidate for private equity. They are trading at such a very small multiple of earnings and cash flow.”

Mike Siemienas, a spokesman at Eden Prairie, Minnesota-based Supervalu, declined to say whether the company is open to a sale or has been approached by any buyers.

History Lesson

Today, Supervalu rose 2.2 percent to $4.27 a share in New York. It was the biggest gain among consumer staples stocks in the Standard & Poor’s MidCap 400 Index, which fell 0.3 percent.

Supervalu, which traces its roots to a grocery warehouse business formed in 1926, operates more than 2,000 stores under brands such as Jewel-Osco in the U.S. Midwest and Shaw’s, which has stores located across the Northeast.

The company’s largest supermarket chain is Albertsons, which Supervalu purchased in 2006. Albertsons has stores in 18 states from California to Florida, according to its website.

Once worth more than $10 billion, Supervalu had plummeted 92 percent in less than five years as the U.S. economy fell into a recession and customers turned to discount stores such as Bentonville, Arkansas-based Wal-Mart, the world’s largest retailer, to buy more of their groceries.

Analysts estimate Supervalu will suffer a fourth straight year of declining sales in the current fiscal year, extending the longest stretch of decreases since at least 1987, according to data compiled by Bloomberg.

The share plunge pushed Supervalu to $4.06 on June 11, the lowest price since 1982. The stock ended at $4.18 yesterday, giving Supervalu $887 million in market capitalization.

Relative Value

Even with debt that exceeds its cash by more than $6 billion, Supervalu was valued at 3.9 times its Ebitda, data compiled by Bloomberg show. That’s a third less than the industry median and about half the multiple for consumer staples companies in the S&P MidCap 400.

Supervalu is now the most appealing leveraged buyout candidate among the three largest supermarket chains in America, according to Meredith Adler, a New York-based analyst for Barclays, who published a report dated June 11 analyzing the LBO prospects for Supervalu, Kroger Co. and Safeway Inc.

Supervalu is the smallest of the three and generates the most cash from its operations, after deducting capital expenses, relative to its stock price, data compiled by Bloomberg show.

The company’s free cash flow yield of 45 percent is more than 10 times higher than the median 4.2 percent for U.S. food retailers with at least $100 million in value, the data show.

Buyout Math

“The stock has gotten awfully cheap,” Adler said in a telephone interview. Plus, Supervalu generates “a reasonable amount of cash flow.”

By her math, a buyer could pay a 50 percent premium for Supervalu and still earn a return exceeding 40 percent, according to her report. That would “clearly be very attractive to private equity,” she wrote.

Based on Supervalu’s price yesterday, the company would then be valued at $6.27 a share in a takeover.

A buyout firm that specializes in retail deals could increase returns by cutting the number of store-brand products the company offers and selling off some of its real estate, said Point View’s Dietze. Supervalu owned about 38 percent of its 64 million square feet (5.9 million square meters) of retail space as of Feb. 25, according to a regulatory filing.

Another option would be to sell one or more of Supervalu’s smaller grocery chains, which would help pay down any additional debt used to finance the transaction, according to Todd Lowenstein, a Los Angeles-based fund manager at Highmark, which oversees about $17 billion.

‘Interesting Assets’

“They do have some interesting assets,” Lowenstein said in a telephone interview. “Everything’s got a price and at some point, the risk-reward will be attractive. For private-equity firms, it’s worth a look.”

Potential buyers may still be wary of pursuing an LBO because Supervalu owes too much money, said John Heinbockel, a New York-based analyst for Guggenheim Securities LLC.

Supervalu’s total debt is equal to 3.5 times its Ebitda, higher than both Cincinnati-based Kroger and Pleasanton, California-based Safeway, and almost five times the industry median, data compiled by Bloomberg show. With more discount retailers selling cheaper groceries, Supervalu’s long-term viability is also being threatened, Heinbockel said.

“You already have a fair amount of debt” with Supervalu, he said in a telephone interview. “The other challenge is cutting through the clutter and differentiating your offerings because there are so many other people out there selling food.”

Bullish Option

Supervalu also has pension and retirement liabilities that exceed $1 billion, which Highmark’s Lowenstein said could keep some potential acquirers at bay.

Still, options-market traders are growing more bullish on Supervalu, a sign they may be trying to anticipate a surge in the company’s value, said Chris Rich, head options strategist at JonesTrading Institutional Services LLC in Chicago.

Open interest on call options rose to 135,990 contracts, about 9 percent higher than the average level this year, data compiled by Bloomberg show.

Supervalu is interesting for an acquirer “with deep pockets who is looking to do a turnaround,” he said in a telephone interview. “The grocery store business is tremendously competitive. But a buyer that has an understanding of retail, would they take a shot at this? Absolutely.”

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