Safeway Makes $1.7-Billion Offer for Vons

Safeway Inc., dropping a bombshell on the grocery industry Wednesday, made an uninvited bid to buy Vons Cos. for $1.7 billion and return to the Southern California market it left eight years ago.

The deal would give Safeway annual sales exceeding $22 billion, making it the second-largest U.S. grocery chain behind Kroger Co. of Cincinnati. Vons, with 325 stores under the Vons and Pavilions names, is the No. 2 chain in the Southland behind Ralphs Grocery Co. Ironically, it was Vons that had bought out Safeway’s Southern California operations in 1988.

Despite that sale, Safeway has become one of the biggest chains nationwide, with about 1,050 outlets, including dozens in Northern California. Safeway, based in Pleasanton, Calif., is three times as big as Arcadia-based Vons in terms of sales.

Safeway’s offer--which a cautious Vons said it would study but analysts predicted would be accepted--would be the latest in a spree of recent merger deals that have consolidated the state’s grocery industry. It also comes as the remaining, larger chains are enjoying stronger sales because of California’s economic rebound.

But in a business still notorious for its fierce competition and paper-thin profit margins, chains are continuing to merge in order to slash costs, become more efficient and to remove competitors.

Safeway has been one of the industry’s biggest success stories in recent years, but it admitted Wednesday that to keep posting such sparkling results it has to expand its reach by gobbling up other chains.

“That extra growth our shareholders have enjoyed will slow unless we acquire more assets,” Safeway President Steve Burd said in a teleconference with reporters.

Industry experts said Safeway’s purchase of Vons would not radically change the grocery landscape in the Southland, but that it would make Vons a more formidable rival. Ralphs leads the region with about 27% of the market, and Vons is second at 19%, analysts said.

“The Southern California marketplace has been the most competitive in the nation and this would make it more competitive,” said George Golleher, chief executive of Compton-based Ralphs.

Both Vons and Safeway are “promotional” chains that attract consumers with big mark-downs on certain items and heavy advertising. A Safeway-controlled Vons would be even more promotional and build more stores, Golleher said.

Safeway said the merger should not result in any significant layoffs among Vons’ 28,000 employees because the chains have no overlapping stores serving the same markets. Using Safeway’s management at Vons “should mean a continued increase in jobs at Vons stores,” Burd said in a letter to Vons’ board of directors.

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Safeway’s financial muscle and other resources also should help Vons cut retail prices and bolster its position in the market, analysts said. By combining their buying power, Vons could negotiate lower prices for items such as produce, meat and health and beauty aids and pass those savings on to shoppers, said Andrew Berg, an analyst at Bear Stearns & Co. in New York.

“Additional buying power would make Vons a slightly stronger competitor,” Berg said.

In addition, Safeway has increasingly produced and packaged its own private-label groceries, which carry higher profit margins than items bought from outside manufacturers. Presumably, Safeway also would supply the 90-year-old Vons--which has its own private label--with more of those goods and shave Vons’ costs.

Analysts cautioned that Southern California remains an intensely competitive arena, and Safeway/Vons would still be fighting with such heavyweights as Ralphs, Lucky (which is owned by American Stores Co.), Hughes and Albertson’s; specialty chains such as Bristol Farms and Whole Food Markets, and low-priced warehouse chains including Food 4 Less (owned by Ralphs), Smart & Final and Price/Costco.

Indeed, early this year the Salt Lake City-based Smith’s Food & Drug chain abandoned a five-year bid for prominence in Southern California, selling its stores to its more entrenched rivals.

Safeway also has improved its position by strictly defining responsibilities for its workers, a move that has increased their productivity and cut costs, said Jonathan Ziegler, an analyst at Salomon Inc. in San Francisco.

Safeway will make the same changes at Vons, “and Vons would pass this on to consumers in the form of small price cuts,” Ziegler said. “Lucky and Ralphs would not be happy campers with this deal. However, it won’t heat up the competition too much.”

Even Vons’ rivals were impressed with Safeway’s maneuver. Jack Brown, chief executive of the Colton-based Stater Bros. chain, said Vons’ strong performance the past two years was a major factor in Safeway’s decision to bid.

“I don’t believe it will affect the competitive environment in Southern California,” Brown said. “But if the deal is completed, Safeway will have acquired an extremely valuable asset.”

But first Vons has to accept the deal.

In his letter to Vons, Burd said “it is our strong preference to work with you toward a negotiated transaction.” But he also hinted that if Safeway is rejected, it won’t give up, saying, “We want you to know that we are fully committed to completing this transaction.”

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And Safeway knows how to play hardball. The company is 50% owned by the famous corporate buyout firm Kohlberg Kravis Roberts & Co., and Safeway has been one of KKR’s big success stories in the 1990s.

Regardless, most analysts said they expected Vons to accept because the company would not likely get a higher bid.

Safeway already owns 34.5% of Vons’ stock, acquired in the 1988 buyout. The takeover offer calls for Safeway to buy the remainder by exchanging 1.34 Safeway shares for each of the 28.5 million Vons shares held by the public. Safeway also would assume $600 million of Vons’ debt.

Knowing its offer was uninvited, Safeway offered a hefty premium for Vons’ shares. Based on current prices in the stock market, the deal is valued at about $58 per Vons share--a 35% increase over Vons’ closing price Tuesday.

As a result, Vons’ stock shot up $11.22 a share, to $54.34, Wednesday on the New York Stock Exchange. Safeway’s stock fell $1.25 to $42.125 a share.

Grocery competition in Southern California rose sharply in 1995 when Ralphs was acquired by the operator of the Alpha Beta, Boys and Viva chains. Those stores were converted to Ralphs, and the merger enabled Ralphs to vault past Vons as the regional leader.

But while Ralphs has struggled during a long consolidation, Vons has gained ground with aggressive marketing and price-cutting and has overcome its poor performance of the early 1990s.

“Safeway would get a plum” in Vons, said Jack Kyser, chief economist at the Economic Development Corp. of Southern California, a jobs promotion group. “Vons is a chain with quality merchandise, good store presentation and good prices.”

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* COMEBACK STORY

How Vons turned around. D1