Federal government should move swiftly to thwart Kroger/Albertsons merger

Once upon a time, the gro­cers Fred Mey­er, Qual­i­ty Food Cen­ters, Kroger, Albert­son’s, and Safe­way — which col­lec­tive­ly have a pret­ty dom­i­nant pres­ence in the Pacif­ic North­west — were dif­fer­ent com­pa­nies with dif­fer­ent ownership.

Start­ing in the 1990s, that began to change. Fred Mey­er bought QFC and was then itself bought by Kroger. Albert­sons, mean­while, went through a num­ber of trans­for­ma­tions before it com­bined with Safe­way in the mid-2010s.

Today, Kroger and Albert­sons are giants. But their exec­u­tives aren’t con­tent. They want to build an even big­ger gro­cery empire. Accord­ing­ly, they have struck a deal for Kroger to buy Albert­sons and form a food retail­ing mon­stros­i­ty:

Kroger (NYSE: KR) and Albert­sons Com­pa­nies, Inc. (NYSE: ACI) today announced that they have entered into a defin­i­tive agree­ment under which the com­pa­nies will merge two com­ple­men­tary orga­ni­za­tions with icon­ic brands and deep roots in their local com­mu­ni­ties to estab­lish a nation­al foot­print and unite around Kroger’s Pur­pose to Feed the Human Spir­it. Through a fam­i­ly of well-known and trust­ed super­mar­ket ban­ners, this com­bi­na­tion will expand cus­tomer reach and improve prox­im­i­ty to deliv­er fresh and afford­able food to approx­i­mate­ly 85 mil­lion house­holds with a pre­mier omnichan­nel experience.

A pre­mier omnichan­nel expe­ri­ence… now there’s some cor­po­rate mumbo-jumbo!

Lat­er on, the press release says:

Togeth­er, Albert­sons Cos. and Kroger cur­rent­ly employ more than 710,000 asso­ciates and oper­ate a total of 4,996 stores, 66 dis­tri­b­u­tion cen­ters, 52 man­u­fac­tur­ing plants, 3,972 phar­ma­cies and 2,015 fuel cen­ters. The com­bi­na­tion cre­ates a pre­mier seam­less ecosys­tem across 48 states and the Dis­trict of Colum­bia, pro­vid­ing cus­tomers with a best-in-class shop­ping expe­ri­ence across both stores and dig­i­tal chan­nels. Both Kroger and Albert­sons Cos. are anchored by shared val­ues focused on ensur­ing asso­ciates, cus­tomers and com­mu­ni­ties thrive. The com­bined com­pa­ny will dri­ve prof­itable growth and sus­tain­able val­ue for all stakeholders.

Notice the use of the word “stake­hold­ers” here instead of “stock­hold­ers.” Kroger and Albert­sons are try­ing to claim that their merg­er is in the pub­lic interest.

But it’s not.

This pro­posed tie-up isn’t going to make any Amer­i­can fam­i­ly’s life bet­ter. There will cer­tain­ly not be any ben­e­fits from econ­o­my of scale. These two gro­cery com­pa­nies are already huge, as they them­selves admit.

In truth, if this merg­er goes through, the gro­cery sec­tor will have more con­cen­trat­ed own­er­ship and less competition.

Con­sid­er these snip­pets from the Wikipedia entries for these companies:

Kroger: The Kroger Com­pa­ny is the Unit­ed States’ largest super­mar­ket oper­a­tor by rev­enue and fifth-largest gen­er­al retail­er. The com­pa­ny is one of the largest Amer­i­can-owned pri­vate employ­ers in the Unit­ed States. Kroger is ranked #17 on the For­tune 500 rank­ings of the largest Unit­ed States cor­po­ra­tions by total revenue.

Albert­sons: With 2,253 stores as of the third quar­ter of fis­cal year 2020 and 270,000 employ­ees as of fis­cal year 2019, the com­pa­ny is the sec­ond-largest super­mar­ket chain in North Amer­i­ca after Kroger. Albert­sons ranked 53rd in the 2018 For­tune 500 list of the largest Unit­ed States cor­po­ra­tions by total revenue.

So, if you’re keep­ing score, the largest gro­cer by rev­enue in the Unit­ed States of Amer­i­ca wants to buy the sec­ond largest and cre­ate a retail colossus.

On that basis alone, the deal should be scuttled.

The Depart­ment of Jus­tice should fight this merg­er — includ­ing in court if nec­es­sary — to uphold our antitrust laws, defend U.S. house­holds from anti­com­pet­i­tive busi­ness prac­tices, and pro­tect the share­hold­ers of these com­pa­nies from exec­u­tives’ coun­ter­pro­duc­tive empire-build­ing ambitions.

We can say from a share­hold­er point of view that this merg­er isn’t a great idea because past research has shown that the vast major­i­ty of merg­ers — yes, the vast major­i­ty — either don’t cre­ate val­ue for share­hold­ers or worse, destroy value.

As I men­tioned before here on the Cas­ca­dia Advo­cate, a 1999 study by account­ing giant KPMG (PDF) found that eighty-per­cent of merg­ers “failed to unlock val­ue”. What’s more, half of the merg­ers exam­ined destroyed val­ue.

Merg­ers also com­mon­ly involve over­pay­ment, a Wall Street-dri­ven ten­den­cy can­did­ly dis­cussed by authors Dan and Chip Heath in their book Deci­sive.

“It is an unwrit­ten law of the stock mar­ket that cor­po­ra­tions must keep grow­ing, year after year, and for the exec­u­tives of a com­pa­ny strain­ing to meet these growth expec­ta­tions, buy­ing anoth­er com­pa­ny can look like an awful­ly attrac­tive short­cut,” they observe in the open­ing pas­sage of Chap­ter 5.

“But it’s an expen­sive short­cut. For pub­lic com­pa­nies, the aver­age pre­mi­um paid in an acqui­si­tion is 41%, which means that if the tar­get com­pa­ny is val­ued by the stock mar­ket at $100 mil­lion, the acquir­er will bid $141 mil­lion for it. Or, to trans­late that into human terms, the acquir­ing CEO is basi­cal­ly say­ing to the tar­get CEO, ‘I can run your com­pa­ny at least 41% bet­ter than you can.’ ”

Giv­en that merg­ers and acqui­si­tions rarely live up to the grand promis­es that exec­u­tives and the P.R. flacks work­ing for them make in cor­po­rate press releas­es, you might won­der why merg­ers and acqui­si­tions con­tin­ue to be so common.

The answer is twofold: The busi­ness world is full of exec­u­tives who are deeply enam­ored with deal­mak­ing and there is mon­ey to be made “advis­ing” them.

M&A “advi­sors” are most com­mon­ly invest­ment banks and law firms, but they can also include con­sult­ing shops and busi­ness coach­es. The Kroger/Albertsons has a dis­clo­sure of the Wall Street play­ers in this par­tic­u­lar deal:

Advi­sors

Citi and Wells Far­go Secu­ri­ties, LLC are serv­ing as finan­cial advi­sors and Weil, Got­shal & Manges LLP and Arnold & Porter Kaye Scholer LLP are serv­ing as legal coun­sel to Kroger.

Gold­man Sachs & Co. LLC and Cred­it Suisse are serv­ing as finan­cial advi­sors and Jen­ner & Block LLP is serv­ing as cor­po­rate legal coun­sel and White & Case LLP and Debevoise & Plimp­ton LLP are serv­ing as antitrust legal coun­sel to Albert­sons Cos.

So, if you’re keep­ing score, two banks and two law firms are mak­ing mon­ey on this deal on the Kroger side, while two more banks and three more law firms are mak­ing mon­ey from it on the Albert­sons side. And again, those are just the banks and law firms… there could be con­sul­tants involved too.

Kroger and Albert­sons exec­u­tives know their pro­posed merg­er is unlike­ly to sur­vive reg­u­la­to­ry scruti­ny with­out divesti­tures, so they have cooked up a plan at the out­set to deflect crit­i­cism and objec­tions to their deal. This plan involves — and no, I’m not kid­ding — cre­at­ing a new com­pa­ny called “Spin­Co”:

In con­nec­tion with obtain­ing the req­ui­site reg­u­la­to­ry clear­ance nec­es­sary to con­sum­mate the trans­ac­tion, Kroger and Albert­sons Cos. expect to make store divestitures.

As described in the merg­er agree­ment and sub­ject to the out­come of the divesti­ture process, Albert­sons Cos. is pre­pared to estab­lish an Albert­sons Cos. sub­sidiary (Spin­Co). Spin­Co would be spun-off to Albert­sons Cos. share­hold­ers imme­di­ate­ly pri­or to merg­er clos­ing and oper­ate as a stand­alone pub­lic com­pa­ny. Kroger and Albert­sons Cos. have agreed to work togeth­er to deter­mine which stores would com­prise Spin­Co, as well as the pro for­ma cap­i­tal­iza­tion of SpinCo.

The estab­lish­ment of Spin­Co, which is esti­mat­ed to com­prise between 100 and 375 stores, would cre­ate a new, agile com­peti­tor with qual­i­ty stores, expe­ri­enced man­age­ment, oper­a­tional flex­i­bil­i­ty, a strong bal­ance sheet, and focused allo­ca­tion of cap­i­tal and resources to pro­vide cus­tomers with con­tin­ued val­ue and qual­i­ty ser­vice and asso­ciates with ongo­ing com­pelling career opportunities.

That last para­graph in par­tic­u­lar has a truck­load of cor­po­rate mum­bo jum­bo, like the phrase new, agile com­peti­tor with qual­i­ty stores.

A bet­ter idea would be for the fed­er­al gov­ern­ment to say “no” to this plan. Past gro­cery chain merg­ers have been allowed, but as we have seen, exec­u­tives are nev­er sat­is­fied. Enough is seem­ing­ly nev­er enough. This is one of those times where it’s very impor­tant for the Depart­ment of Jus­tice to say no.

Kroger and Albert­sons should focus them­selves on being “agile” com­peti­tors with “qual­i­ty stores” and “to pro­vide cus­tomers with con­tin­ued val­ue” rather than try­ing to get a merg­er past the feds with the divesti­ture of a few hun­dred stores as a peace offer­ing. The response needs to be a firm and emphat­ic fuhgetaboutit.

POSTSCRIPT: Paul Roberts has a good arti­cle in The Seat­tle Times look­ing at the poten­tial impact of the merg­er on the gro­cery mar­ket in the Pacif­ic North­west.