Taking Stock

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Deal Is Good For SVU, Better For Cerberus 

It’s not quite time to place former Supervalu CEOs Jeff Noddle and Craig Herkert into the annals of Russian history – you know, purge them from all permanent records as though they didn’t exist. That likely won’t happen because the damage they inflicted on what once was one of the great American grocery companies cannot be ignored.

But Cerberus’ two-part deal to acquire/control Supervalu’s business provides a ray of hope for Supervalu’s associates, its shareholders and potentially its customers. Given the train wreck that Messrs. Noddle and Herkert created over the past six and half years, the outcome is better than many could have hoped for.

And while this complex “one entity” deal might create the best future scenario for Supervalu shareholders, the deal is even better for Cerberus, the largeNew Yorkbased private equity company that is very experienced in supermarket takeovers. In fact, just the value of the real estate gained in the “AB Acquisitions/New Albertsons” (the former Albertsons Markets LLC) portion of the deal offers Cerberus a huge headstart on making the deal profitable for them even before the real games begin.

Think of it in these terms: as chief executive of Supervalu at the time (2006), Jeff Noddle paid $12.8 billion to acquire the five “crown jewels” of Albertsons (Acme, Shaw’s, Jewel, and the two Albertsons bannered division on the West Coast). That deal also created a debt service of more than $10 billion, perhaps the biggest factor among the many that have led to SVU’s downfall in recent years.

In the new Cerberus “AB” deal, they will acquire the same five banners (albeit fewer stores) for $100 million and additional $3.2 billion in debt. The deal involves 877 stores, many of which will have lease or ownership control by Cerberus.

You can almost bet the ranch (at least my ranch) that once the deal is consummated, Cerberus “AB” will be looking to sell “The Troubled Triad” of Acme, Shaw’s and Jewel. Supervalu has shopped Acme and Shaw’s for several years, but was asking too high a price for so many distressed properties. Now the competitive landscape is even more challenging and there aren’t nearly as many players as there were five years ago (especially when you consider that none of those once sterling banners is a potential play for any other PE firm).

In the case of Acme and Shaw’s, a combination auction/store closure process seems the most logical next step, but even if that outcome were to occur it would take months to take shape. Of course, for you believers in the “one buyer” scenario there’s always Yucaipa Cos. and its brilliant leader Ron Burkle to consider.

This could set up as a Burkle kind of deal on paper given that he’s a proficient bottom feeder who has proven he can leverage efficiencies with labor and supply chain costs. And Burkle is one of the leaders of a “coaching tree” that can be traced back to Bob Miller (chairman of Albertsons LLC and key board member of the new Supervalu organization). In fact, Miller’s connections to many of today’s top retail executives could be compared to Bill Walsh’s future influence on football coaching.

Here’s a sampling of Miller’s “branches” beginning from his days at Albertsons in the 1960s. He mentored Sam Duncan, who will become CEO of the new Supervalu (Symphony Investors). Duncan began his career at Albertsons, then followed Miller to Fred Meyer (which was controlled by Burkle) and from 2005-2010 was CEO of Office Max. Serving as Duncan’s right hand man and COO at Office Max was Sam Martin, current chief executive at A&P. Miller and Martin first hooked up at Fred Meyer. Current EVP-operations of Albertson LLC (soon to become Cerberus AB) is Bob Butler, who may be in line to become CEO of the newly expanded grocery firm. Butler also benefited from Miller’s tutelage at the original Albertsons beginning in 1972. Other Miller connections include John Standley, a Fred Meyer alum, who is now CEO of Rite Aid (where Miller once served as chairman) and who was chief executive of Pathmark under the stewardship of Ron Burkle. Additionally, veteran industry executives Jim Donald (ex-CEO of both Pathmark and Starbucks, who now is chief executive at Extended Stay Hotels) and Ron Dennis (retired president of SVU owned-Farm Fresh) both worked for Bob Miller in the 1970s. And there’s at least another half-dozen retail executives who have a link to Miller.

I certainly would never rule out Ron Burkle from any potential deal, but I’m more skeptical that his interests lie here. First, he’d be facing potential FTC store overlap issues inPennsylvania,New JerseyinDelawarewith his existing A&P, Super Fresh and Pathmark banners. And the new rules of retail now demand that you still have to sell groceries, even after you’ve successfully leveraged most of your labor and distribution clout in the post-bankruptcy period. A&P sales, store conditions and associate morale have improved little since Burkle took over 10 months ago. Then again the A&P situation, the recent Winn-Dixie acquisition by PE firm Lone Star and the Cerberus AB deal all set up as prime real estate opportunities for the acquiring firms.

The other half of the equation concerns what’s left of Supervalu and the role its new operating partner (Cerberus/Symphony Investors) will play. Again, for Cerberus it’s a potentially great deal. With 30 percent equity (and control of six of the 11 future board seats) they will have operating sway over a troubled but still valuable franchise.

My prediction is that Supervalu/Symphony won’t have any trouble gaining that 30 percent stake through its $4 per share tender offer. By this time, thanks to the ineptness of Noddle and Herkert, shareholders have already been beaten up and most will likely tender their shares.

So, what’s in store down the road? Much like its “AB” offset, Supervalu/Cerberus’ real estate portfolio remains very valuable and became foundational in this deal. So, with a backbone of solid property control, the new organization will revert to a more decentralized, local division decision making strategy (bye-bye SuperFusion, the worst centralized merchandising model that was ever conceived and executed. Maybe that will become part of Russian history, too?). Good news for Shoppers, Farm Fresh, Shop ‘n Save, Hornbacher’s and Cub which will be receiving increased cap-ex and additional staffing to help them improve.

With SuperFusion essentially being emasculated, look for a major reduction in force at SVU’s headquarters in Eden Prairie, MN. Not only will there be a thinning of the herd at corporate, the new management team will almost certainly be bringing in some of its own desired executives to supervise key aspects of the new organization.

And don’t underestimate the talent of the new management team. The aforementioned Bob Miller has had a stellar track record for almost 50 years in the industry. Besides Albertsons and Fred Meyer, Miller has enjoyed success as CEO of Wild Oats, COO of Kroger and currently serves on several boards. Miller is an operator by nature and a man with a sterling reputation of getting things done.

On a parallel plane, look at Miller’s accomplishments (versus Noddle’s) in running Albertsons LLC, comprised of  the other stores that Noddle (who ironically we’re told became an advisor to Cerberus in this process) and Supervalu didn’t take in the 2006 deal. From a base of approximately 600 units six years ago, LLC has deftly managed to sell and in some instances, close, about 400 stores. Today’s Albertson’s LLC (whose stores trade as Albertsons Markets) operates 192 stores and the company is very profitable.

With Miller, Sam Duncan and their grocery-oriented team improving the ground game and Cerberus providing the capital and strategic savvy, the new Supervalu will be much improved.

But it won’t be easy. SVU’s neglect of its once strong regional banners has left scars. With the economy still shaky, more stores in every market with a greater divergence of styles and marketing, pricing and merchandising lacing consumer credibility, former highly profitable banners like Shoppers, Farm Fresh and Cub aren’t going to regain their strides that readily.

As for Save-A-Lot, that’s a potential wild card that the new Supervalu has chosen to hold on to, at least for now. Speculation that KKR was going to acquire the company’s extreme value division as part of this announcement just weren’t true. And for SVU/Symphony, despite S-A-L’s recently declining ID sales performance, there’s a lot of value there. Don’t be surprised if SVU sells its 1,300 store discount unit, but only if the right offer comes along.

And then comes the third leg of the stool – Supervalu’s independent retail division, which for years has performed solidly, only to be treated like a red-headed stepchild, especially under Herkert’s watch (I apologize to all red-headed stepchildren). Suddenly, independent retail becomes very important to the new Supervalu (about 48 percent of sales). Both outgoing CEO Wayne “Show Me the Money” Sales and incoming chief executive Sam Duncan acknowledged as much during a conference call with Supervalu’s existing independent retailers in which both executives said that the transaction costs would not cause fees to increase.

There are a few other facts that were gleaned during the past 10 days (more details will be known about the Supervalu/Symphony when the SEC data is filed and the tender offer begins; as for the Cerberus- AB deal, they are a private company and won’t have to reveal very much). The deal is supposed to close in March (we hear March 1) and Sam Duncan will continue to work with Wayne Sales and SVU’s management team during the transition. Cerberus AB will be based in Boise, ID and will take over self-distribution and logistics of the banners that it acquired (the one exception is the distribution center in Denver, PA, which Cerberus AB will own and Supervalu will manage and continue to serve AB owned Acme and Supervalu supplied independents). That arrangement is part of a Transaction Services Agreement (TSA) which will also see Supervalu oversee private label procurement for both organizations. In his conference call to financial analysts following Supervalu’s third quarter results, outgoing CEO Sales acknowledged the regional chains will need greater capital investment, but not nearly at the level that the chain stores did and that Cerberus AB is much better positioned to upgrade those chain stores based on deeper pockets and greater industry expertise. In his conference call to the independents, Duncan noted that one of his priorities will be to focus on perishables, adding that he hoped to meet many of Supervalu’s independent retailers in person during the next few months.

And in the end, Supervalu will look strangely just like it did before that fateful day in June 2006 when Jeff Noddle believed that a primary wholesale model needed to be replaced by a greater investment in bricks and mortar. The idea was sound, the execution, as we know now, was pitiful.

And except for the likely attrition of staff (especially in Eden Prairie) this is a win-win situation all around. Supervalu gets saved by a private equity company that’s more patient than most (Cerberus has held on to its Albertsons LLC investment since 2006) and will install quality, experienced management to run the show. Shareholders can decide if they want to continue to roll the dice with Supervalu (or will invest in the company in the future), knowing that Cerberus/Symphony will probably look to increase its stake, too. The associates who remain will be allowed once again to view their glasses as “half-full” after a miserable six years of broken promises, corporate spin and greed. Even vendors have told us they are willing to reclassify Supervalu from  “underperform” to” neutral” with the recent changes. For Cerberus as a whole, it is essentially gaining control of Supervalu for $250 million (not including the new loan and credit agreement that was announced at the same time the bigger deal was) and gaining a portfolio of 877 stores whose real estate value alone should cover the cost of the “AB” transaction. For advisors Goldman Sachs and Greenhill & Co., there will be millions of dollars in fees that will be reaped and Wayne Sales will also be able to redeem a healthy dividend for what amount to a little more than six months of work (not counting his oversight as a SVU director since 2006 when the debacle began).

No matter what your previous thoughts were about Supervalu, it no longer matters. It’s a new dawn, a new day and a new company. We wish them well going forward.