Deals

Brooke Sutherland is a Bloomberg Gadfly columnist covering deals. She previously wrote an M&A column for Bloomberg News.

Canada is a wilderness best navigated with a native partner. At least that's what Lowe's is betting.

Oh, Canada
Lowe's shares slid after the home-improvement retailer announced it would buy Canadian rival Rona.
Source: Bloomberg

The home improvement chain announced on Wednesday that it's acquiring the Canadian chain Rona for C$3.2 billion ($2.3 billion). The combination was a long time coming: Lowe's scrapped a previous attempt to acquire Rona in 2012 after the company resisted its advances and some politicians in Quebec slammed the deal. Lowe's own shareholders weren't too thrilled about it either, and it appears they still aren't: They sent the stock down as much as 9.5 percent Wednesday.  

Lowe's earlier efforts to woo Rona earned some raised eyebrows from investors who saw it as a distraction when the company should be focusing on issues at home -- like the fact that same-store sales growth has lagged behind that of Home Depot for years now. Their fears don't seem to have dissipated. 

You can't really blame their apprehension. Lowe's is taking pretty much the exact opposite strategy of its bigger, faster-growing U.S. rival Home Depot, which last month said it won't build a bunch of new stores or use large acquisitions to buy sales. Home Depot is already in Canada, but says it won't invest in any overseas expansion. Instead, it's going to focus on milking more from its existing stores. Why shouldn't Lowe's also just make more with what it's got?  

Canada hasn't exactly been the friendliest place for U.S. retailers, either. Target took the country by storm, adding more than 100 stores in less than two years in an attempt to capitalize on the droves of Canadian shoppers traveling across the border to its U.S. outposts. But the Minneapolis-based retailer didn't deliver the bargains shoppers were expecting and irked customers with its poorly stocked shelves and a failure to adapt to the local culture. After racking up more than $2 billion in operating losses, Target decided to shutter its Canadian operations last year.

Target's problem was that it jumped too fast and largely on its own into a small and very competitive market. Turns out, the U.S. is a lot different than its northern neighbor and plopping stores down in Canada isn't as easy as it looks. In that respect, Lowe's is different. It's been slowly adding Canadian stores over the years, with about 40 in the country to date. And now it will have the help of a local to show it how to do things the Canadian way.    

Wal-Mart has used this same tactic. The company opened locations in Canada in 1994 through the acquisition of the Woolco chain and has since built its presence there to around 400 stores. Its Canadian operations are faring pretty well. Home Depot also helped kickstart its Canadian expansion with an acquisition, striking a deal in 1994 for a controlling stake in the local chain Aikenhead's Home Improvement Warehouse.  

Focusing on Canada may be a distraction, but it's a distraction that could pay off for Lowe's. While the home-improvement company has benefited from a rebounding real estate market, the maturing U.S. retail landscape and the rise of online shopping puts a cap on the growth opportunities for big-box vendors. Many are shuttering stores, or at least slowing down expansion.

Lowe's, for example, had 1,793 U.S. locations as of January 2015 -- a gain of about 76 from a year earlier, much of which could be explained by the acquisition of Orchard Supply Hardware. The way to keep growing its store base is to make more acquisitions and push harder into adjacent markets such as Canada, where Home Depot currently has almost five times as many locations as Lowe's. With Canada's home improvement industry valued at C$45 billion, Lowe's can't really afford to sit on the sidelines.

Putting Up Drywall
Acquiring Rona will allow Lowe's to gain a much larger footprint in Canada.
Source: Bloomberg, corporate filings, corporate websites.
Figures are rounded and based on most recently available numbers.

The retailer will still have a lot to do to make this endeavor successful. Turnaround efforts at Rona have brought uneven results and the stock has gone essentially nowhere over the last few years. Just two of eight analysts tracked by Bloomberg recommended buying the company before the deal news.  

At least Lowe's is getting some help from the strong U.S. dollar. The retailer is offering Rona common shareholders C$24 a share -- more than double what the stock was trading for Tuesday and a juicy enough premium to make the Canadian company more amenable to a deal this time around. When you convert that bid to U.S. dollars though, it's more like $17. That's not all that much more than the about $15 (C$14.50) that Lowe's was offering for the company back in 2012.

The time was right for a deal, but time will tell if it was a smart deal. 

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Brooke Sutherland in New York at bsutherland7@bloomberg.net

To contact the editor responsible for this story:
Beth Williams at bewilliams@bloomberg.net