Safeway’s Big Gains Spark Speculation
The converted warehouse, a five-story building sandwiched between a poultry processor and a hog-packing plant in a seedy industrial district, hardly seems fitting for the headquarters of a major company, let alone the world’s largest supermarket chain.
But there are no complaints about the dowdy quarters from officials of Safeway Stores Inc. In a business as fiercely competitive as food retailing, where big chains eke out little more than a penny of profit for every dollar of sales, cost control is the name of the game.
Besides, notes Harry D. Sunderland, executive vice president and chief financial officer, “we don’t derive any sales from this office.” At Safeway, he says, “we’d rather put our money into stores.” This year, for example, Safeway will pump $750 million--more than three times last year’s earnings--into sprucing up old stores and building new ones.
It is a philosophy that has served Safeway--and its shareholders--well. Net income rose 25% last year, to a record $231.3 million, or $3.83 a share, on essentially flat sales of $19.65 billion. (1985 sales were hurt by a long strike in Southern California, store closings and low food-price inflation.) Return on equity climbed to 14.96% from 12.94% and the dividend was increased for the fourth year in a row. Not bad for a company that as recently as 1982 was derided by Forbes magazine as “A&P; West” due to stodgy management and slumping profits.
Safeway’s turnaround--and the potential for additional gains--may have won the company some unwanted attention. Trading in Safeway’s shares has been unusually heavy in the last four weeks, and speculation about a takeover attempt abounds. It is the third time Safeway’s name has cropped up as a possible takeover candidate in the last year.
Rumored buyers this time include the Belzberg family of Canada and Dart Group of Landover, Md., though neither will comment. And while no potential raider has yet filed a form 13-D with the Securities and Exchange Commission indicating a stake in the company of 5% or more, the stock is trading near its all-time high of $45.25 a share, about triple the level of three years ago.
The improvement in Safeway’s fortunes has been guided by a pair of executives whose divergent backgrounds are as unlikely as Safeway’s modest offices. Chairman and chief executive is Peter A. Magowan--Stanford, Johns Hopkins and Oxford-educated--whose grandfather, Charles Merrill, was a founder of the Merrill Lynch brokerage empire and whose father once headed Safeway. James A. Rowland, president and chief operating officer, is a one-time Safeway chicken plucker whose formal education went no further than high school in Little Rock, Ark.
Since taking over a somewhat tired chain in 1980, Magowan, 44, and Rowland, 64, “did all the things that needed to be done for years,” says Robert M. Raiff, an analyst with Cyrus J. Lawrence Inc., a New York brokerage firm.
With Magowan mapping strategy and Rowland directing operations, the pair--belatedly, some competitors say--shifted the chain’s emphasis from small supermarkets to “superstores” of 45,000 square feet. These giant emporiums feature copious quantities of fresh produce attractively displayed under tent-like structures to evoke country markets, along with such boutique-like specialty departments as delis, salad bars, pharmacies, seafood counters, bakeries and flower shops.
“In many of our markets, our research indicates that freshness, quality, selection and ambiance are more important than price,” Sunderland says. The delis and salad bars boast fatter profit margins and appeal to the growing ranks of two-career households and busy singles. In the rich but highly fractionalized Los Angeles and Orange County markets, Safeway is primarily adding specialty departments to its existing stores rather than building big new ones. “Land there has become so scarce and expensive that developing the ideal new store is very hard,” Sunderland says.
Partly as a result of Safeway’s slow adoption of superstores, the chain has slipped to fifth place in the Los Angeles market with a 6.6% share of the market behind Ralphs, Vons, Lucky, Alpha Beta, according to Supermarket News. (In contrast, Safeway holds a commanding 32% share of the market in Northern California.) Sunderland vows to “redouble our efforts in Southern California,” conceding “a certain lack of aggressiveness there in the past.”
Magowan and Rowland also enhanced productivity by computerizing warehouse operations and introducing optical scanners at checkout counters. They slashed bureaucracy by cutting the number of non-store employees by 26%. They got rid of unprofitable foreign operations, selling off a West German unit and swapping their Australian supermarket chain for a 20% stake in that country’s Woolworths Ltd.
Converting Some Stores
They have cannily exploited favorable long-term leases on obsolete supermarket locations by converting over 100 of them to discount Liquor Barn stores. And they have experimented with such new formats as Bon Appetit food stores for upscale consumers to Pak N’ Save warehouses for the budget- conscious. Meanwhile, they’ve overseen an empire that includes 2,343 stores, 165,000 employees and 87 processing plants that make everything from milk to bread to pasta for Safeway and other supermarkets.
But perhaps most importantly, they are taking a very hard line against unionized butchers, truckers and clerks as competition from low-cost, non-union supermarket operators pinched, or even eliminated, profit margins in some regions. Magowan signaled his resolve to the unions early during his tenure in 1982, when he shut down the unprofitable 70-store Omaha, Neb., division.
“In a 1% margin business, it doesn’t take too much in the way of extra costs to eliminate the profit,” Magowan said in a speech at the annual meeting last month. (Magowan declined interview requests last week; he was in Australia attending a board meeting of Woolworth Ltd.)
“We have told the unions, and we are telling our employees, that we must have parity (in wages, benefits and work rules) in the marketplace if we are to be successful and, if we cannot achieve parity, we will be abandoning such markets,” Magowan said.
Sunderland says the ultimatum applies to workers in stores in Arkansas, Kansas, Oklahoma, Texas, New Mexico, Colorado, Montana, Utah and Virginia. The executive even blames Safeway’s high labor costs--which average 20% to 30% higher than its non-union competitors--for Safeway’s emergence as a possible takeover target.
“One of the reasons why Safeway’s name is mentioned speculatively is because there is the potential of addressing the parity problem through a bust-up of the company,” he says. Under such a scenario, a buyer of the company might sell off Safeway’s unprofitable operations and keep such “crown jewels” as its strong divisions in Washington, D.C., northern California, Washington state, Canada and Great Britain.
Safeway refuses to comment on acquisition rumors, though Sunderland says that there are no internal corporate developments that would account for the unusual trading and recent run-up in the company’s stock price. Speculation on a takeover has boosted the company’s price-to-earnings multiple to about 12, compared to an average multiple of 7.1 during the last five years. Of course, there is no guarantee that a bidder will emerge. Some analysts say the recent jump in Safeway’s stock could discourage potential raiders. “I honestly don’t see the rationale for someone wanting to pay much more than the current market value,” says one longtime Safeway watcher on Wall Street.
“There are no hidden assets,” he adds, noting that most of Safeway’s stores are leased, not owned. This analyst suspects that whoever’s been buying up Safeway’s stock may be doing so in an attempt to extract “greenmail” from the company--the buyback of their stake at a premium.
Analyst Raiff agrees that Safeway’s current $45-a-share price seems high for a takeover. “We were buyers at $22,” he says, adding that “$45 seems plenty.”
In any case, the takeover speculation disturbs Safeway’s executives, most of whom began their careers with the chain and might be out of a job if the company were taken over and its various divisions sold off.
“We look upon this company as an operating entity, and that’s how we’d like to see it valued in the marketplace,” Sunderland says. SAFEWAY AT A GLANCE
Oakland-based Safeway Stores Inc. is the world’s largest supermarket chain with 2,343 stores.
1985 1984 1983 Sales $19.7 $19.6 $18.6 (in billions) Net income $231 $185 $183 (in millions)
Assets: $4.8 billion
Employees: 164,385
Shares outstanding: 60.4 million
12-month price range (NYSE): $29.62 1/2 -- $45.25
Friday close: $$44.87 1/2
