Is some quiet buyer kicking shopping cart tires at Sobeys?

Who is squeezing the produce at Sobeys? The grocer's stock, which sold off a little yesterday, seemed to be attracting a lot of attention last week.

The Globe and Mail
Novermber 27, 2001

Is some quiet buyer kicking shopping cart tires at Sobeys?

Sobeys
Source: Thomson Financial Datastream

Who is squeezing the produce at Sobeys? The grocer's stock, which sold off a little yesterday, seemed to be attracting a lot of attention last week.

In the six trading sessions between Nov. 13 to 20 a total of 1.6 million Sobeys shares changed hands, about 3½ times more than average. Block trades were also conspicuous.

The stock price registered the interest, climbing 8 per cent in three days. It seems plausible that someone might want to kick the shopping cart tires.

Based on enterprise value to earnings (before interest, taxes, depreciation and amortization), Sobeys is relatively cheap, trading at a discount of 40 per cent to Loblaw, 20 per cent to U.S. grocers and 8 per cent to Metro Inc. Sobeys is also in tough against its rivals in the tight food retailing and food service industries, a situation that could be quickly remedied by judicious consolidation.

With increased competition in food retailing coming from the likes of Wal-Mart and Costco, the regulatory burden of a takeover of merger might not be too onerous. Whether controlling investors of Sobeys would part with the company is another question. Given its relatively recent acquisition of shawa Group, the Sobey family seems interested in building rather than selling. But everything has a price.

What price might Sobey fetch in a sale? Sobeys trades at a discount for a reason.

The company's attempts to stay competitive in a fast-changing industry created a far-flung, loosely linked chain operating under different banners and with different strategies. Management grew distracted, efficiency suffered and performance slipped.

By the numbers, the company's disadvantage is obvious. The chain's trailing EBITDA margin, for example, is half that of both the U.S. industry and Loblaw, and 35 per cent lower than that of Metro. Worse, profitability has slipped in recent quarters. Sobey's sales growth lags, as well.

The company's bright spot is in Western Canada, where, as CIBC World Markets explains in a recent report, its IGA Garden Market format stores have done well. Management wants to deploy the model in the rest of the empire, which is struggling.

Trouble is, the model involves small and relatively upscale stores, which won't do as well when consumers concentrate on value in a recession. Plus, Sobeys doesn't have a well-developed private label business, such as Loblaw has.

In Sobey's food service business — which represents 14 per cent of EBITDA — the picture is worse. Its neglected Serca unit, which services restaurants, is a laggard, with profitability that falls well short of most other operators in the industry. The recession is also taking a toll, crimping business with higher-end eateries, which are more profitable customers.

This catalogue of gloom would seem a deterrent to a buyer, but it isn't necessarily. Sobeys management is seen as unfocused and slow to act. Rivals that fancy themselves more decisive and nimble might justify a premium to have a go at fixing the company's problems.

If Serca could be sold for, say, $550-million, a takeover of Sobeys might yield $5-$8 a share over the current stock price. Without an offer, though, the shares look a little bruised.


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