Kroger's M&A Path To Grocery Dominance

(Bloomberg Gadfly) -- America's largest grocery store is still hungry for deals.

Kroger Co., with $110 billion in sales last year, has become America's second-largest seller of groceries after Wal-Mart Stores Inc., thanks to 51 straight quarters of positive sales growth, along with acquisitions such as supermarket chain Harris Teeter. But sales growth has slowed lately, and investors -- worried that competition and falling food prices mean Kroger's best days may be behind it -- have pushed the stock down 23 percent this year.

The grocer's shares jumped 5 percent Wednesday, after Kroger soothed some of those worries by confirming its full-year earnings guidance at its annual investor meeting. But the more telling part of the day came near the end of the meeting, when Kroger executives talked about a potential change in their M&A strategy. It could make investors even happier in the long run. 

Kroger suggested it was eager for deals but has struggled to find another can't-miss target like Harris Teeter -- the successful Southeastern grocery chain for which Kroger shelled out $2.5 billion in 2014 and quickly absorbed without much trouble. CEO Rodney McMullen assured investors that, if there's such a potential target out there, Kroger has looked at it. 

Perhaps the lack of prize performers is why Kroger decided nearly a year ago to stray from its typical M&A formula and try its hand with a company that needed a little more love: Roundy's, whose Midwestern grocery stores Pick 'n Save and Mariano's were steadily losing market share. The $800 million purchase raised eyebrows because it wasn't exactly a trophy asset. 

It's still early, but so far the dozen or so Roundy's stores Kroger has finished revamping have shown positive sales results. That could encourage Kroger to look for similar opportunities among other bruised retailers.

In turn, that could usher in Kroger's next wave of sales growth.

Executives on Wednesday said there's $100 billion in potential revenue from companies characterized as turnaround projects. "The thing we don't know is whether we have the skill or not to do a turnaround," executives said, characterizing the Roundy's purchase as merely "shining up a slightly tarnished star."

Kroger didn't name potential targets. But some possibilities for Kroger include publicly traded Ingles Market and Sprouts,  now-bankrupt Fairway and privately held Fresh Market, which has drawn Kroger's attention in the past. These are fresh-focused chains with high-income customers and good business models, which could benefit from better management.

Kroger could also make a play for a meal-kit maker or food-delivery company such as Blue Apron or Door Dash, which could give it an edge over competitors. 

If Kroger was really ambitious and decided not to worry about its elevated debt levels, it could even consider Whole Foods. That chain has been hammered over the past year as shoppers turned off by its high prices defect to Kroger and other grocers to buy their organic fruits and vegetables.

On Wednesday, Whole Foods announced the retirement of co-CEO Walter Robb and CFO Glenda Flanagan -- with the company for more than 25 years -- and declared its fifth straight quarter of sales declines. As of Wednesday's close, its shares were down 15 percent so far this year. 

Kroger's appetite for acquiring downtrodden companies will likely depend on how the Roundy's acquisition plays out over the next year. If Kroger's plan to revamp stores, management, and merchandising drives sales over the next few quarters, then Kroger should have more confidence to take on bigger turnaround projects.

And the more potential targets struggle, the cheaper they become for Kroger. That combination of confidence and M&A bargains could be the recipe for Kroger to re-accelerate sales, steady its stock price and resume its climb to the top of the grocery heap.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

1. Kroger said part of what made Roundy's attractive was that it had good real estate assets and many locations in Chicago, where Kroger was trying to build market share. 

To contact the author of this story: Shelly Banjo in New York at sbanjo@bloomberg.net.

To contact the editor responsible for this story: Mark Gongloff at mgongloff1@bloomberg.net.