SpinCo

[storewanderer]

My basic assumption is that the PNW tranche of SpinCo would have to come with the Kent and Clackamas DCs, dairy plants and bakery. I’m not sure about Clackamas, but Cerberus did a sale-leaseback on the Kent DC, and I’m sure RREEF would be delighted to have a new tenant. My understanding is that the Kroger DC assets are capable of taking on some incremental business, and that one way to stretch the grocery side capacity is to use some of the GM DC for non-food-but-grocery-aisle merchandise like laundry and pet. I don’t see UNFI being able to take on 300ish stores.

The more I think about the optics of it, the more I wonder about some deal that explicitly protects union jobs via a pension-fund type investment and an underleveraged ESOP. Think of it like Winco with unions. The gap in total compensation when you consider Winco’s 20% ESOP contribution isn’t a chasm, and Winco’s secret sauce isn’t low individual compensation.

If Cerberus really wants to cash out (and they should - this investment has been on the books waaaaaaaay too long for PE), and they recognize the value Kroger has assigned to the rest of the assets, not getting top dollar for Spinco may not look so bad and could play well in political and regulatory circles. Just because they can’t sell Spinco to Kroger doesn’t mean they can’t or shouldn’t sell it in one piece, immediately, to someone else. Obviously, capital structure matters immensely here and I’m (deeply) concerned about these net leases being chains around the neck of Spinco - the rent escalator clauses are based on CPI and the first resets are going to come on line Q1 2024.

Looking a little more globally, who besides Ahold Delhaize would have the balance sheet and interest? While “all of Albertsons” is too big of a bite for someone not already in the US, Spinco is interesting enough to be material to earnings and doesn’t require massive efforts to reach viable scale in terms of distribution and reach. The store sizes are also comfortable and familiar to US consumers. Has Tesco got the taste of Fresh and Easy out of their mouths? Auchan? An FM divestiture would be a dream marriage with Carrefour (imagine the cheese departments!). The failures of Carrefour in the Americas were largely around scale and distribution - 2 stores in Philadelphia? 25 stores for all of Mexico? Dabbling. I wonder what the books like at Chedraui? A really good Safeway in the PNW doesn’t look *unlike* a Chedraui Super Selecto. . . El Super is a niche player but Smart and Final seems to be doing (okayish?) under Chedraui? Hrm.

UNFI has a lot of capacity and C&S has new capacity in the Pacific Northwest as well. Both are running way below capacity (especially C&S). I'm not sure how URM's capacity is; they have picked up a number of independent stores from UNFI in the Pacific Northwest.

I do agree part of the terms of SpinCo must be that it will include at least the distribution centers. The food plants are a bit more complicated and it may be too much for SpinCo to bite off all at once. They could structure it in a way to transfer stores and distribution centers to SpinCo first then transfer food manufacturing to them a year or two later after they get the store integration behind them; and in the interim those plants would supply the SpinCo stores under the same general terms as they did in the past (however cost was determined in the past).

Smart & Final is not doing very well and is lost. They have largely stopped expanding from what I can tell. Also they are non-union. That in itself means it won't be them. They also sold the Smart Foodservice off in the Pacific Northwest which signals a lack of interest in the market. They have not done great with the Haggen stores they bought at all, they are absolutely terrible stores. There would also be significant overlap with them in CA/NV/AZ.

A new entry foreign operator would be interesting. That would probably be best case for consumers and employees.

I also like the ESOP-structure idea to help basically "cement" the union status of the stores. There are a lot of ways to structure this deal and make it work.

However you are not quite correct about WinCo; they pay some of the lowest stating wages around. In Reno a few months ago they were advertising hiring all positions $13.50/hr (Wal Mart starts cashiers at $14 and has floor help starting at $15-$16 and fast food places such as McDonalds, Taco Bell and Popeyes in the area are hiring $15-$17/hr to start). That $13.50 at WinCo was including opening a brand new store in Sparks advertising that wage for all positions. They were advertising very low cost health insurance (something around $30 a month) as a key benefit, plus the eventual entry into the ESOP. However only certain chosen employees get to join the ESOP at WinCo. You have to be scheduled a certain amount of average hours to join the ESOP and they seem to sometimes schedule people just few enough hours that they can't qualify. Obviously there are two sides to a story such as employee availability, employee performance, etc. that impact how much a given employee is scheduled... but still. WinCo for much of 2020 was hiring at $10/hr in Reno, a total joke.

[Romr123]

Carrefour or Loblaw could be verrry interesting, as their expansion into the US could also let Meijer cash out. Essentially a snowbelt hypermarket chain(bisected only by Minneapolis/Minnesota; and a tranche of Super Targets in Minnesota connecting the PNW and GL regions could be a graceful exit for Target) could be a really interesting counterbalance to Walmart.

There was talk several years ago of Carrefour sniffing around Meijer, but nothing came of it.... they also share a certain continental European sensibility which might ease the path.

If the Euro was stronger at the moment I'd think Carrefour might be an interesting suitor.

[VibeGuy]

Winco’s ESOP requires 500 hours in the first six months and 1000 hours in subsequent fiscal years. The contribution is 20% of gross. Combined with a higher than average healthcare contribution, they aren’t that far off UFCW labor costs. Silverdale and Bremerton were recently promoting 17/hr and that’s slightly more than the three closest Walmarts.

But what about union stores? Here’s the UFCW table for Kitsap County: I remain convinced it’s not so much of a gulf that a unionized employee-owned retailer would be uncompetitive, and the ESOP can be as initially healthy as Cerberus and the union pension plans choose to make it. Drop the ESOP contribution to closer to 12-15%, reflect some of that in the UFCW retirement trust contributions, you’re not looking at a wildly unlevel playing field.

Smart Foodservice was never great under the first Apollo era of Smart and Final, and it never looked any different than it was under United aside from First Street house brands. I don’t think divesting was primarily driven by a distaste for the PNW market so much as the stores being radically different than Smart and Final California locations and US Foods being interested in reaching small food service operators who weren’t already using them as a broadline, in an era of increasing delivery costs (labor and fuel). I have a lot of respect for Chedraui as a mutiformat operator, much more so than I do for Apollo in the grocery space, and think they’ll be able to improve what’s left of Smart & Final.

The PNW chunk of Spinco isn’t a smoking crater - it’s a good and vibrant business that simply can’t be acquired by their number one competitor. The store fleet is high quality and decently maintained, the CapEx has been reasonable. They’ve got density and scale proportionate to the geography and demographics. They don’t need a transformational savior - they need a competent steward with deep capital and some patience to ride out the chaos of the ownership change, eventual rebranding and organic growth.

I know it’s getting compared to Haggen, but it’s so vastly different. Current employees of Future Spinco should be glad to get out from under the weight of Cerberus’ expectations and business practices.

[pseudo3d]

My basic assumption is that the PNW tranche of SpinCo would have to come with the Kent and Clackamas DCs, dairy plants and bakery. I’m not sure about Clackamas, but Cerberus did a sale-leaseback on the Kent DC, and I’m sure RREEF would be delighted to have a new tenant. My understanding is that the Kroger DC assets are capable of taking on some incremental business, and that one way to stretch the grocery side capacity is to use some of the GM DC for non-food-but-grocery-aisle merchandise like laundry and pet. I don’t see UNFI being able to take on 300ish stores.

The more I think about the optics of it, the more I wonder about some deal that explicitly protects union jobs via a pension-fund type investment and an underleveraged ESOP. Think of it like Winco with unions. The gap in total compensation when you consider Winco’s 20% ESOP contribution isn’t a chasm, and Winco’s secret sauce isn’t low individual compensation.

If Cerberus really wants to cash out (and they should - this investment has been on the books waaaaaaaay too long for PE), and they recognize the value Kroger has assigned to the rest of the assets, not getting top dollar for Spinco may not look so bad and could play well in political and regulatory circles. Just because they can’t sell Spinco to Kroger doesn’t mean they can’t or shouldn’t sell it in one piece, immediately, to someone else. Obviously, capital structure matters immensely here and I’m (deeply) concerned about these net leases being chains around the neck of Spinco - the rent escalator clauses are based on CPI and the first resets are going to come on line Q1 2024.

Looking a little more globally, who besides Ahold Delhaize would have the balance sheet and interest? While “all of Albertsons” is too big of a bite for someone not already in the US, Spinco is interesting enough to be material to earnings and doesn’t require massive efforts to reach viable scale in terms of distribution and reach. The store sizes are also comfortable and familiar to US consumers. Has Tesco got the taste of Fresh and Easy out of their mouths? Auchan? An FM divestiture would be a dream marriage with Carrefour (imagine the cheese departments!). The failures of Carrefour in the Americas were largely around scale and distribution - 2 stores in Philadelphia? 25 stores for all of Mexico? Dabbling. I wonder what the books like at Chedraui? A really good Safeway in the PNW doesn’t look *unlike* a Chedraui Super Selecto. . . El Super is a niche player but Smart and Final seems to be doing (okayish?) under Chedraui? Hrm.

UNFI has a lot of capacity and C&S has new capacity in the Pacific Northwest as well. Both are running way below capacity (especially C&S). I'm not sure how URM's capacity is; they have picked up a number of independent stores from UNFI in the Pacific Northwest.

I do agree part of the terms of SpinCo must be that it will include at least the distribution centers. The food plants are a bit more complicated and it may be too much for SpinCo to bite off all at once. They could structure it in a way to transfer stores and distribution centers to SpinCo first then transfer food manufacturing to them a year or two later after they get the store integration behind them; and in the interim those plants would supply the SpinCo stores under the same general terms as they did in the past (however cost was determined in the past).

Smart & Final is not doing very well and is lost. They have largely stopped expanding from what I can tell. Also they are non-union. That in itself means it won't be them. They also sold the Smart Foodservice off in the Pacific Northwest which signals a lack of interest in the market. They have not done great with the Haggen stores they bought at all, they are absolutely terrible stores. There would also be significant overlap with them in CA/NV/AZ.

A new entry foreign operator would be interesting. That would probably be best case for consumers and employees.

I also like the ESOP-structure idea to help basically "cement" the union status of the stores. There are a lot of ways to structure this deal and make it work.

However you are not quite correct about WinCo; they pay some of the lowest stating wages around. In Reno a few months ago they were advertising hiring all positions $13.50/hr (Wal Mart starts cashiers at $14 and has floor help starting at $15-$16 and fast food places such as McDonalds, Taco Bell and Popeyes in the area are hiring $15-$17/hr to start). That $13.50 at WinCo was including opening a brand new store in Sparks advertising that wage for all positions. They were advertising very low cost health insurance (something around $30 a month) as a key benefit, plus the eventual entry into the ESOP. However only certain chosen employees get to join the ESOP at WinCo. You have to be scheduled a certain amount of average hours to join the ESOP and they seem to sometimes schedule people just few enough hours that they can't qualify. Obviously there are two sides to a story such as employee availability, employee performance, etc. that impact how much a given employee is scheduled... but still. WinCo for much of 2020 was hiring at $10/hr in Reno, a total joke.

They have explicitly said that SpinCo would be owned by stockholders (i.e. Cerberus/friends), and with Cerberus ready to torch Albertsons Cos. and run, SpinCo being a viable, union-friendly company is realistically not going to happen, much less there being an ESOP.

[VibeGuy]

Kroger has said that SpinCo would never be part of Krogersons. The distribution of SpinCo shares and the fact Kroger never exerts management control over those assets is foundational to the legality of the merger. So the fact that most of the ownership of Albertsons who is eligible to receive SpinCo stock is Cerberus is nothing more than an accounting and legal fiction to draw a clean line about what Kroger isn’t buying. It’s merely creating two distinct assets from one whole, and Kroger only has dealings with one.

So, absolutely, never an ESOP under Cerberus
management, at all. My operating thought here is, though, that Cerberus wants to be out of low-margin retail and find a better use for their capital, period. So while they’ll possibly own SpinCo seconds after the merger (unless a buyer is identified sooner and closes simultaneously), they won’t be the owner of SpinCo for *long*, even if that means not getting top dollar for them. Getting SpinCo out of Cerberus is just as important as getting the rest of the asset base in to Kroger, for all stakeholders.

[storewanderer]

Kroger has said that SpinCo would never be part of Krogersons. The distribution of SpinCo shares and the fact Kroger never exerts management control over those assets is foundational to the legality of the merger. So the fact that most of the ownership of Albertsons who is eligible to receive SpinCo stock is Cerberus is nothing more than an accounting and legal fiction to draw a clean line about what Kroger isn’t buying. It’s merely creating two distinct assets from one whole, and Kroger only has dealings with one.

So, absolutely, never an ESOP under Cerberus
management, at all. My operating thought here is, though, that Cerberus wants to be out of low-margin retail and find a better use for their capital, period. So while they’ll possibly own SpinCo seconds after the merger (unless a buyer is identified sooner and closes simultaneously), they won’t be the owner of SpinCo for *long*, even if that means not getting top dollar for them. Getting SpinCo out of Cerberus is just as important as getting the rest of the asset base in to Kroger, for all stakeholders.

The only reason Cerberus kept Albertsons as long as it did, then bought Supervalu and Safeway assets, is because they did see the large cash flows the grocery industry generates, and they got to like that. Bob Miller sold Cerberus on that. You could say Bob Miller is the entire reason Cerberus did what they did at least to the point that he retired.

Cerberus and friends have made very satisfactory returns on their Albertsons investment. They have received large dividends and some have even talked up how happy they are with it in their own earnings calls (Kimco perhaps) multiple times over time.

The issue they are having is the "exit" from this investment. They have money tied up in this investment they want to set free and invest elsewhere. And this is also part of the motivation behind paying that special dividend now. It frees up some of their money so they can go after other opportunities now (not in 2024 or whenever the merger closes).

What I will be interested to see with SpinCo is will Cerberus or some of Cerberus friends stick around in SpinCo longer than others? Or will everyone exit at the same time? That is where I think we may see something distinctly interesting with SpinCo. Different groups have different investment motivations. What Cerberus may want out of, Kimco may decide to stay in longer, or less time, etc.

[VibeGuy]

Kimco sold 29% of their Albertsons shares subsequent to the announcement of the sale, which is (absolutely not) coincidentally the premium in the merger. This implies that they cannot hold any more common stock in their portfolio than they did on the announcement date. Further, they are free to sell their other 71% at some point in the next seven months, so I don’t see them being too sentimental about Spinco long term. Their CEO said it best:

“Our sale of a portion of our investment is consistent with our stated goal to monetize our stake at the right time, and also provides a meaningful source of capital at a time when capital is at a premium for the industry. This investment is another key differentiator for the company and will not only further strengthen our already strong balance sheet but will also provide an additional capital source to fund new investments and unique opportunities, as we continue to create shareholder value.” For REITs, it’s not a capital source until it’s sold.

REITs are severely restricted in how much operating company stock they can own and still enjoy the regulatory and tax advantages of being a REIT. The sudden change in the value of their Albertsons stake and the impending cash dividend have immediate consequences. The cash nature of this merger is a little messy for them and they have a limited window to reinvest those gains. Still, they can probably find uses for this sudden cash influx that are stronger long-term than a 300-unit grocery operator (and it’s not like they’re giving up their bets on SpinCo entirely - shopping center REITS will still be SpinCo’s landlords). They made their money by virtue of having the pre-IPO stock and they’ve held on to it due to decent performance, but that’s no sign they want to stay in the sector when they’re getting cashed out on 80% of their investment and the SEC is going to be on them to limit their cash and common stock holdings relative to the RE portfolio.

The minority-holder PE side is admittedly a different story, and it’s entirely possible that they would happily keep SpinCo common stock as a portfolio investment, but their real gains were also from having pre-IPO shares and there’s just not that much upside potential in SpinCo - both in terms of percentages and real dollars - it’s a company 85% smaller than today’s Albertsons. PE may like the cash flow but they’re ultimately looking for asymmetric equity appreciation.

[buckguy]

Kimco sold 29% of their Albertsons shares subsequent to the announcement of the sale, which is (absolutely not) coincidentally the premium in the merger. This implies that they cannot hold any more common stock in their portfolio than they did on the announcement date. Further, they are free to sell their other 71% at some point in the next seven months, so I don’t see them being too sentimental about Spinco long term. Their CEO said it best:

“Our sale of a portion of our investment is consistent with our stated goal to monetize our stake at the right time, and also provides a meaningful source of capital at a time when capital is at a premium for the industry. This investment is another key differentiator for the company and will not only further strengthen our already strong balance sheet but will also provide an additional capital source to fund new investments and unique opportunities, as we continue to create shareholder value.” For REITs, it’s not a capital source until it’s sold.

REITs are severely restricted in how much operating company stock they can own and still enjoy the regulatory and tax advantages of being a REIT. The sudden change in the value of their Albertsons stake and the impending cash dividend have immediate consequences. The cash nature of this merger is a little messy for them and they have a limited window to reinvest those gains. Still, they can probably find uses for this sudden cash influx that are stronger long-term than a 300-unit grocery operator (and it’s not like they’re giving up their bets on SpinCo entirely - shopping center REITS will still be SpinCo’s landlords). They made their money by virtue of having the pre-IPO stock and they’ve held on to it due to decent performance, but that’s no sign they want to stay in the sector when they’re getting cashed out on 80% of their investment and the SEC is going to be on them to limit their cash and common stock holdings relative to the RE portfolio.

The minority-holder PE side is admittedly a different story, and it’s entirely possible that they would happily keep SpinCo common stock as a portfolio investment, but their real gains were also from having pre-IPO shares and there’s just not that much upside potential in SpinCo - both in terms of percentages and real dollars - it’s a company 85% smaller than today’s Albertsons. PE may like the cash flow but they’re ultimately looking for asymmetric equity appreciation.

Interesting point about the minority share holders and their role here. There will be an issue of exposure if SpinCo isn't viable and that also will be true for landlords, esp. because some smaller ones have attempted to grow on the basis of supermarket-anchored centers.

You make interesting points about cash flow and clearly this is a situation where selling off the asset was probably always the plan rather than relying on the cash flow for income. The cash flow is important for paying down debt and the various costs created by PE ownership (like consulting fees), though. If PE is hoping to monetize through asset sales, then cash flow is necessary to keep the ship afloat while they do that.

As for the Haggen thing. It informs the legal issues here--something I did not mention but knew when I posted previously. But there's something about Haggen that it always gets mentioned in the context of this board's "fantasy football" aspect whether it's relevant or not.

The biggest overlap between Kroger and Albertson's is on the West Coast but it may be that the viability of SpinCo will depend on the assets it gets elsewhere and how they manage a more or less national but widely spaced chain. Kroger as a truly national chain may ultimately not work for Kroger----regionals have always been the most profitable, do the best on customer satisfaction surveys and are usually the most innovative. Kroger does not perform well against strong regionals and they will have them in some of their new markets. They also will have Ahold which has shown signs of life and run better stores than the average Kroger even though I wouldn't say they are a great operator.

The fragmentation of the business also will make Kroger less significant now than if they did this 20 years ago. Kroger seems to benefit from markets like Atlanta that have, oddly, not had as much fragmentation as others----Atlanta is a national chain haven for a lot of things and a surprisingly lackluster place for shopping. In contrast, a place like DC with all kinds of competition will make Kroger's job more complicated---as it is they own a niche player with a lot of odd locations and small market share. Kroger taking over Jewel might actually open the door to expansion by niche players in Chicago because they know how mediocre Kroger is as an operator. Kroger would have been a poor match for Dominick's, but that chain would have died more slowly than it did under Safeway.

[VibeGuy]

I don’t see SpinCo keeping a fragmented footprint any longer than for the divestiture wire transfers to post. Any Kroger assets going into SpinCo might change the calculus a bit, but I go back to the notion it’s nothing but Kroger playing offence on antitrust concerns and being able to beam broadly and say they had nothing to do with who these competing assets ended up with - it’s all Cerberus and the other Albs shareholders! They’re the ones who sold to undercapitalized, out-of-their-depth patsies! Kroger can do the onesie-twosie store divestitures and closures from their legacy ops without it rising to materiality and avoid tainting SpinCo. The upside potential of SpinCo as an operating, intact business isn’t PE-level and nothing changes that.

I’m admittedly focused on the duopoly markets in the PNW and SoCal where SpinCo is a nice little definable contiguous business, but strategically, there’s only two realistic options for the archipelago that remains.

Shrink: sell off atolls, islands and island groups to regional operators that can pass FTC muster, digest an island-size purchase operationally, and qualify for debt financing in the current rate environment.

Grow: fatten up logical chunks of the archipelago by buying said regional operators, up to about 40% market share.

My spidey senses say Spinco isn’t going to have the balance sheet to do the latter. They’re not going to be on life support from day 1 like last time, but every dollar spent strengthening SpinCo’s launch balance sheet takes cash out of legacy-albs shareholders’ pockets today.

Big picture, if I were Kroger brass, I’d be looking at the same things you mention after all the shouting of the doing the deal is over, and the heartburn of actually running this bigger, more heterogenous company is burning off the top layer of stomach lining. SpinCo brass just needs to worry about how to get rid of the islets, cays, atolls and sand bars.

[storewanderer]

What if the investment group that owns Save Mart and Cost Plus World Market ends up taking much of this SpinCo thing over or entering it as controlling? They appear to be interested in these types of businesses, and they are former Cerberus people, who seem to be following parts of the old Albertsons LLC playbook with Save Mart (recruit old Albertsons people in to run it, and now post signs about now selling USDA Choice Beef that I'd swear were lifted directly from Albertsons LLC's old sign program when it took its stores over in 2006... because that was their first print advertising move when they took over the stores to shift to USDA Choice Beef).

SpinCo does not have to remain controlled by Cerberus and friends after the initial divests enter SpinCo. Other investment groups may end up taking the lead there as Cerberus and friends exit SpinCo, assuming they look for a quick exit.

The one thing that concerns me about this Save Mart group is they closed all of those pharmacies. It would be unfortunate for these stores that get divested to end up losing their pharmacies. But it could be a significant number of the stores being divested are stores that do not have a pharmacy in the first place. Many SoCal Stores lack a pharmacy, as do a number of Las Vegas Stores since ASC would build a Lucky and a separate Sav-On next to each other to maximize the number of slot machines they controlled (limit machines per store so a combo food and drug store gets fewer machines than a separate Lucky and a separate Sav-On got even sharing a wall).