Analysis: Will Kroger Co. buy Fresh Market? Debt may be the key

CINCINNATI - Shares in The Fresh Market Inc. jumped 17 percent Thursday and trading was briefly halted after Reuters reported that The Kroger Co. was bidding to acquire the specialty grocery chain.

Kroger declined to comment.

Reuters reported that Kroger is participating in an auction -- along with other companies and two two private-equity firms -- for the North Carolina-based operator of 177 stores in 27 states. Fresh Market has three stores in the Cincinnati area: West Chester, Oakley and Kenwood.

Reuters quoted “people familiar with the matter” as saying the auction is in its second round, but there is no certainty that Kroger will prevail in the auction or that Fresh Market will agree to be sold.

But at least one retail expert thinks the deal is more likely to happen than not, partly because of new territories it would bring to Kroger. Fresh Market has 22 stores in Florida and 10 in New York, New Jersey, New Hampshire and Massachusetts.

"It gives Kroger the opportunity to move decisively into the Northeast," said Burt Flickinger III, managing director of Strategic Resource Group, a New York -based retail consulting firm.

Kroger has been pulling the trigger on some big acquisitions in recent years, including the $800 million purchase of Roundy’s Inc. in November and the $2.4 billion acquisition of Harris Teeter Inc. in 2014.

But after borrowing $1 billion to finance the Roundy’s deal, Kroger is getting close to debt levels that could reduce its credit ratings below investment-grade. That's something Kroger executives have vowed not to do.

"Kroger's long-term financial strategy is to use its financial flexibility to drive growth while also returning capital to shareholders," Chief Financial Officer Mike Schlotman told analysts in December. "Maintaining its current investment-grade debt rating is the cornerstone of this, and it allows the company to use cash flow to take advantage of strategically and financially compelling opportunities."

Fresh Market wouldn’t be cheap. Its stock is trading at a market value at of $1 billion.

Flickinger doesn't think debt would be a problem for Kroger, because it would bring size and scale advantages to Fresh Market, improving its profitability. That would enable Kroger to pay a higher price for the company than any rival bidder and pay off new debt with the acquired company's cash flow.

"It would not affect the investment grade (rating) and Kroger would still be able to increase the dividend," he said.

Beyond the financing issue, Kroger’s biggest acquisitions have involved companies with strong management teams that bring new ideas to the Cincinnati-based chain.

Roundy’s, for example, has an urban format grocery concept that Kroger admires. Harris Teeter brought expertise in letting its customers buy online and pick up in store. In both cases, Kroger praised the leadership of its acquired chains and kept top managers intact.

Flickinger thinks Fresh Market offers a chance for Kroger to deepen its management bench, with an industry veteran hired by Fresh Market in September.

"Rick Anicetti is a great leader" who brought in "a whole new dynamic leadership team" since September, he said.

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