The Kroger Co. (KR), Harris Teeter Supermarkets Inc (HTSI): Consolidation in a Bad Industry Doesn’t Make Good Businesses

The Kroger Co. (NYSE:KR) is planning to buy Harris Teeter Supermarkets Inc (NYSE:HTSI) for $2.5 billion. While it’s probably a decent deal, it doesn’t change the direction of the supermarket industry. Look at the industry’s health-focused maverick instead.
The Kroger Co. (NYSE:KR)

All Cash

Harris Teeter Supermarkets Inc (NYSE:HTSI) announced at the start of the year that it was considering selling itself. Since that point the shares have advanced around 30%. The Kroger Co. (NYSE:KR)’s all-cash offer is only slightly above where the stock traded hands the day before the announcement. In other words, the news didn’t have much of an impact.

Although Harris Teeter Supermarkets Inc (NYSE:HTSI) had a good run on the top and bottom lines leading into the recession, performance hasn’t been as consistent since that point. For example, although sales increased in 2009, margin compression led to a year over year earnings decline. The next year saw sales improvement coupled with margin expansion leading to a decent bottom line gain. Margins, however, have headed lower since and sales seesawed lower in 2011 and higher again 2012. Lower margins, though, left earnings lower in each those years.

There’s a reason why the company has been looking to sell itself. Although there might be competing offers, Harris Teeter Supermarkets Inc (NYSE:HTSI) shares appear to have fully priced in an acquisition. Shareholders should sell to lock in gains.

What’s the Buyer Get

The Kroger Co. (NYSE:KR) is the nation’s largest public supermarket. It’s grown through both organic expansion and acquisition, so adding Harris Teeter Supermarkets Inc (NYSE:HTSI) is probably a logical move. Still, with about $4.5 billion in revenues, Harris Teeter Supermarkets Inc (NYSE:HTSI) is tiny compared to The Kroger Co. (NYSE:KR)’s nearly $97 billion in revenue. That said, there’s little overlap between the two grocers, so it helps to expand The Kroger Co. (NYSE:KR)’s footprint.

What it doesn’t do is change the trajectory of the grocery industry. For example, after dipping to around 1.5% in 2011, The Kroger Co. (NYSE:KR)’s margins about doubled in 2012. Still, at just under 3%, those margins are below Harris Teeter’s 3.8% margins. Although Kroger’s size should allow it to squeeze some costs out of the 200 or so acquired stores, the acquisition isn’t going to notably alter the margins at Kroger’s over 2,500 store base.

The grocery business is highly competitive right now and will remain tough for the foreseeable future. Wal-Mart Stores, Inc. (NYSE:WMT) and Target Corporation (NYSE:TGT) have both made aggressive pushes into the space and have been more than willing to compete on cost.