Deals

Gillian Tan is a Bloomberg Gadfly columnist covering deals and private equity. She previously was a reporter for the Wall Street Journal. She is a qualified chartered accountant.

You've heard it before: Mergers often trigger a domino effect. And with U.S. grocery chains poised for further consolidation, their suppliers should consider following suit.

One likely participant in any potential deal is SuperValu Inc., which my colleague Tara Lachapelle has pointed out may warrant a look from suitors including buyout firms or closely held rival C&S Wholesale Grocers. Its sale of the Save-A-Lot grocery chain to Canadian private equity firm Onex Corp. in December freed up the company to both pay down debt and focus on its wholesale-distribution business.

On the Rebound
After shrinking due to customer losses, SuperValu's wholesale business has aggressively expanded and is set to return to growth
Source: Company data, RBC Capital Markets estimates

SuperValu's fiscal 2018 revenue from that business is set to grow by as much as $1 billion, or more than 10 percent, according to some analysts' estimates, thanks to new contracts to supply produce to Fresh Market Inc., America's Food Basket and others.

Winning
SuperValu's wholesale distribution business has been winning contracts, which may add to its appeal as a merger partner
Source: RBC Capital Markets, based on company reports, FactSet, Census Retail, Progressive Grocers, Private Label Manufacturers Association and Food Marketing Institute

Its shares, however, are moving in another direction -- they've been pummeled more than 30 percent in the past 12 months as stiff competition and food deflation have eaten into profits.

Time to Swoop?
On average, Wall Street analysts reckon Supervalu shares will gain more than 50 percent over the next year. Potential merger partners could capitalize on the disconnect.
Source: Bloomberg

One potential merger partner that could take advantage of the valuation mismatch is SpartanNash Co. The Grand Rapids, Michigan-based company could strike an all-stock transaction at a generous 50 percent premium and have a deal be immediately accretive even without accounting for cost savings, according to data complied by Bloomberg.

While SpartanNash just snapped up smaller rival Caito Foods Service Inc. for $218 million in January, it seems receptive to another deal. On an earnings call in February, President and soon-to-be CEO Dave Staples said the company's M&A focus was on distribution, an area where it would be "proactive." Outgoing CEO Dennis Eidson added that its transaction pipeline was "pretty robust," and that "for the right kind of transaction, we will be at the table." 

If the two were to merge, the combined company would have a debt-to-Ebitda ratio of about 2.5. That'd basically allow SpartanNash to keep its promise to shareholders regarding leverage, where it has left itself some wiggle room. (The company pledged to maintain a leverage ratio of under 2.5 by year-end, excluding any new M&A activity). 

Another would-be suitor is United Natural Foods Inc., whose CEO Steven Spinner said this month that M&A would continue to play a "major role" in its long-term growth. (One caveat here: It's inclined to take a breather while it completes the integration of Haddon House Food Products, a smaller rival it bought last year.) An all-stock merger at a generous premium would also boost its earnings, even without accounting for synergies. 

Stocking Up
SuperValu's publicly-traded rivals have the currency to make a merger work, and may be driven towards such a transaction by a desire to fatten their margins
Source: Bloomberg

Neither of these deals would likely raise antitrust concerns:

Lay of the Land
A merger between Supervalu and either United Natural Foods or SpartanNash would create a player that would continue to trail C&S Wholesale Grocers
Source: Company filings and websites; reflects results from most recent fiscal year where data is available
*Closely held companies ^Note: Supervalu's revenue figure also reflects contribution from its Save-A-Lot and retail businesses; SpartanNash's figure similarly reflects the contribution from its supermarkets and retail businesses.

Whether these suitors, or others, decide to make a move, they'd be wise to do so sooner rather than later. SuperValu should bounce if and when food deflation pressures abate, scuttling some -- but not all -- of a merger's value.   

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

To contact the author of this story:
Gillian Tan in New York at gtan129@bloomberg.net

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