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Here's Why Safeway Wants to Sell

Source: Elvert Barnes 

Shares of grocery giant Safeway (NYSE: SWY  ) were up 4% after-hours recently after the grocery chain announced that it was in discussions with potential buyers. Safeway -- the second-largest grocery chain in the country after Kroger (NYSE: KR  )  -- has struggled to keep up as the industry becomes more crowded with organic stores such as Whole Foods (NASDAQ: WFM  ) and discount retailers from Wal-Mart Stores (NYSE: WMT  ) to Dollar General (NYSE: DG  ) . Is selling itself the best move for Safeway? 

The news of a potential sale came during the fourth-quarter report, which featured $11.3 billion in revenue with EPS of $0.35. Both numbers missed analyst estimates of $11.5 billion and $0.48, respectively.Safeway has now missed on revenue estimates in four of the past six quarters. Same store sales rose 1.6% but were offset by a decline in fuel sales.  

How poorly has Safeway performed against its competitors? 

Profits weaken as competition gains 
Safeway faces competition from Kroger and other traditional grocery stores, health food chains such as Whole Foods, Wal-Mart and other retail brands, and discount stores like Dollar General. Safeway has one of the worst profit margins in the batch.

SWY Profit Margin (Quarterly) Chart

SWY Profit Margin (Quarterly) data by YCharts

Wal-Mart and Dollar General both benefit from the ability to sell consumables at a loss or near-loss to get customers through the door to buy other products. Whole Foods has carved out a beloved niche in the health-foods market. 

Kroger hasn't performed much better on profit margin than Safeway. However, Kroger's same-store sales excluding fuel increased by over 3% for the first three quarters of 2013 and that trend will likely continue in the fourth-quarter report in early March. Safeway's same-store sales growth excluding fuel didn't exceed 1.9% all year. Compare those numbers to the over 5% comps gain that Whole Foods recently reported and it's evident that traditional grocery stores are feeling the pinch.

It's a reasonable time for Safeway to find a safer harbor in a potential buyer. The potential sale shouldn't come as a surprise to anyone who has watched the company's actions over the past year.  

Writing on the wall 
Safeway didn't divulge any details as to potential buyers or terms. The news comes after a busy 2013 when the company focused on trimming operations as rumors began of an eventual sale. 

In June, Safeway sold its Canadian operations for $5.7 billion to help pay off some debts and complete a stock buyback. In the fall the company began to sell its Dominick's stores in Chicago; Safeway plans to have offloaded all 72 Dominick's by early this year. Rumors of an impending sale swirled when Reuters announced that Safeway had hired Goldman Sachs to begin fielding offers from private equity firms.  However, then the company turned around and instituted a "poison pill" to keep an activist investor from pushing for a sale.

Safeway still has some deals on the table that it plans to carry through as sale talks continue. The company plans to distribute its 37.8 million shares of prepaid card provider Blackhawk Network Holdings to shareholders, which represent over 70% of Blackhawk's outstanding shares. Safeway is also exploring ways to monetize its 49% ownership in Mexican grocery chain Casa Ley.

Foolish final thoughts 
Traditional grocery stores face a deeply competitive market where the other players have advantages in either pricing or niche. Safeway's the second largest grocery store in the country and its comps and profit margins look pallid. A well-backed buyer could help the company at least pull up to Kroger's level with careful product changes and pricing initiatives. 

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Read/Post Comments (4) | Recommend This Article (1)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On February 23, 2014, at 1:00 PM, expoiltthespread wrote:

    a deal could bring as high as $56, representing a hefty premium to today's price. If you take a multiple of 7 times ebitda of $1.7 billion, you get $11.9 billion , then add in $300 million for casa ley and $900 m for Blackhawk holdings and the total is $13.1 billion...divide the $13.1 b by 230 million shares outstanding and you get $56 per share. A more realistic range is $45 to $52

  • Report this Comment On February 23, 2014, at 1:58 PM, expoiltthespread wrote:

    the company is brilliant. they sell their Canadian division for an ungodly sum ( $5.7b) and as a result, have a cash hoard of $4.6 billion. Their cash now is $1 billion higher than their debt.

  • Report this Comment On February 25, 2014, at 12:30 AM, Lefty10is wrote:

    A Hugh concern that ur article does not make any distinction between union and non-union grocers. The whole financial model is different and Safeway with union workers can't possibly be compared to Whole foods or Walmart. SW answers to the unions and their financial model take this all into account. Target Costco all non-union can't possibly operate on the same profit margins. Your failure to even point this out in your analysis would lead me and as it should others to believe that you have no idea what your comparing or talking about. Unions are a part of the grocery business that can't be over looked. Safeway would do well to let their consumers know that they support Unions and operate very very differently than a Walmart who pay their workers at less than a living wage. Target and Whole foods do not operate considering any Union wages for their workers.

  • Report this Comment On March 10, 2014, at 12:53 PM, Edog wrote:

    I worked at a Safeway and was in the Union. They start everyone off at Min wage, then you pay monthly Union Dues. So really all the workers are working below the Federal Min Wage. This practice should be against the law. This why Safeway is going down. Huge turnover rate and the ones that are still working could care less. The workers look at a job with Wallmart or Target and then the best of the best is Costco. Safeway has long standing contracts with suppliers that no wants anymore. Yet week after week they bring in more. Stores are dirty and are understaffed. So congrats current Management you guys have done a great job.

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Brandy Betz

Brandy Betz has written for The Motley Fool since 2011 and primarily covers health care, ETFs, and dividend stocks. You can follow her on Twitter @BrandyBetz.

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