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Tidy shelves make for easy shopping. This helps explain why Safeway, the supermarket chain, sold its Canadian stores. The U.S. business that remains is that much easier for would-be acquirers to drop into their basket. If the deal also maximises the value of Safeway's parts, so much the better.
On Wednesday, Safeway announced the sale of operations in the frozen north to Empire Company, parent of the Sobeys chain, for $5.8-billion. It is a transformative deal for Sobeys, its aggregate valuation doubling and its store base in western Canada fortified. Empire investors have cheered, sending its shares up more than a tenth. For its part, Safeway shares are up just under a tenth to $25 (U.S.) per share.
The sum-of-the-parts arbitrage for Safeway is straightforward. The sale price represents 11 times cash flow, while Safeway as a whole trades at just 5 times. Even after taxes, the effective multiple paid still exceeds 7 times (do not worry, Empire shareholders – with synergies your effective multiple slips to under 8). And earlier this year, Safeway floated a portion of its Blackhawk subsidiary, a gift card network, in an IPO. With interest in alternative payments running high, it trades at 13 times cash flow. Both of these divestitures establish real market values for valuable subsidiaries – value the market ignores when trapped within the U.S. grocery operation.
There is the worry that with its crown jewels stripped, what remains of Safeway, in all its ugliness, will be laid bare. Yet, while it is a rump, Safeway is at least a simplified rump – basically just a U.S.-based grocer. And it is perfectly moulded to be taken private. If the U.S. portion of Safeway could be acquired at 6 times cash flow, then that, along with the proceeds from the Canadian divestiture and its share of Blackhawk, could be worth above $35 per share – a level Safeway shares have not touched since early 2007.
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