June 13 (Bloomberg) -- Empire Co. surged 11 percent to a record high as investors bet the C$5.8 billion ($5.7 billion) purchase of Safeway Inc.’s Canadian stores by its Sobeys Inc. grocery unit will boost revenue and add to earnings as it expands west.
It was Empire’s biggest jump since March 2001 and took the Stellarton, Nova Scotia-based grocer to its highest level since September 1988, according to data compiled by Bloomberg. Empire closed at C$74.77 in Toronto today.
“We see Canada Safeway’s asset providing Sobeys with critical density to fill in what we felt was a chronically underutilized distribution network and as a result, expect the company to benefit from significant efficiencies,” Michael Van Aelst, consumer analyst with TD Securities in Toronto said in a note to clients. Van Aelst raised his rating on the stock to buy from hold and his target price to C$90 from C$67.
The purchase will give Sobeys 213 stores in Western Canada, 62 gas stations and 199 in-store pharmacies, allowing it to expand from Ontario and Atlantic Canada and take on Loblaw Cos., the country’s largest grocer. Sobeys would add 30,000 employees to the 95,000 it already has with the purchase.
Competition in Canadian retail is heating up as Bentonville, Arkansas-based Wal-Mart and Target Corp. also add stores and expand grocery offerings. Minneapolis-based Target has said it will open 124 locations in Canada this year.
Empire Chief Executive Officer Paul Sobey said he expects any job cuts to depend on a review from Canada’s Competition Bureau. The country’s antitrust regulator will give the transaction a “close review” and may require stores to be divested in Alberta, where Sobeys will have three times as many grocery stores as Loblaw, Andrew Calder, an analyst at RBC Capital Markets said in a note today.
“The big picture is going to be a decision of the Competition Bureau,” Sobey said in a phone interview today. “Any acquisition of this nature in Canada needs to be examined by the bureau. We cannot comment on the decisions the bureau will reach. We expect them to have their decision in the fall.”
The Ottawa-based bureau will review the transaction, according to an e-mailed statement from spokesman Greg Scott.
Metro Inc., the No. 3 grocer in Canada, was “disappointed” they weren’t given a chance to bid on Safeway.
“We’ve always been open and said we wanted to go into Western Canada through acquisition, as going greenfield is almost impossible in this business,” Robert Sbrugnera, Metro’s senior director treasury, risk and investor relations, said in an interview. “It would have been a good fit to integrate these stores, but unfortunately we’re a bit disappointed that we weren’t part of the running -- it was not an option offered to us.”
Still, Metro would not be interested in making a bid above Sobeys’ purchase price as Metro could not realize enough synergies, Sbrugnera said.
“Metro definitely has a lot of dry powder,” Behrak Shahriari, who helps manage C$5.6 billion at Montrusco Bolton Investments Inc., said in a phone interview. Montrusco owns shares in Metro. “There’s cash there and I’m sure they would rather deploy it in better-earning assets than just cash in the bank, but at the same time they don’t want to do anything stupid and we commend them for that.”
The acquisition will solidify Sobey’s position as the No.2 grocer, boosting revenue to about C$24 billion from C$16.2 billion in the 12 months ended May 5 and will immediately add to adjusted earnings per share, Empire said yesterday in a statement. Safeway’s real estate is worth about C$1.8 billion in Canada, it said.
Sobeys plans to pay for the cash purchase in part through a C$1.5 billion equity offering by Empire. It will also take out a C$1.83 billion term loan and sell C$800 million in unsecured notes.
The earnings gain will be moderated by the purchase multiple and share dilution and it may take three years to achieve synergies from the deal, Peter Sklar, an industrial analyst with BMO Capital Markets in Toronto, said in a note, rating Empire the equivalent of a hold.
More consolidation in the grocery sector is likely with Overwaitea Food Group the next “primary target” Perry Caicco, an analyst at CIBC World Markets, said in a note today Overwaitea, owned by closely held Jim Pattison Group Inc., has 125 stores in Western Canada.
“It would be more likely for Loblaw to make an acquisition” of Overwaitea, Shahriari said.
Julija Hunter, a spokeswoman for Brampton, Ontario-based Loblaw, declined to comment.
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