One of last year's tax-loss selling candidates, SUPERVALU, ended its long run as a publicly traded company last week, upon the completion of the company's buyout by United Natural Foods (UNFI) . Ironically, UNFI made the preliminary cut for this year's tax-loss selling candidates, and that's where the story gets interesting.
UNFI, which distributes natural and organic food and non-food products in the U.S. and Canada, including Tony's Fine Foods, Albert's Fresh Produce, Woodstock Farms, Blue Marble Brands, and many others, made the rather surprising bid for SUPERVALU on July 26th. UNFI agreed to acquire the company out for $32.50/share, which represented a whopping 67% premium. In addition, UNFI has also assumed SUPERVALU's debt, putting the total deal at about $2.9 billion. The hope is that this acquisition will help drive UNFI's "Build out the Store" strategy, leveraging SUPERVALU's vast reach and existing product base.
"Leverage", however, may be the optimal word here, and the reason that the market has reacted so negatively to this deal. UNFI, which had just $360 million in debt at the end of last quarter, took on substantial debt to make this deal happen. That includes SUPERVALUs $1.6 billion in debt, plus other liabilities, in addition to the fact that the deal itself was financed by debt. The end result is a new UNFI with substantially higher debt levels than it had previously.
UNFI shares are down more than 46% since the deal was announced, and have been suffering from a double whammy of sorts. The initial reaction on July 26th was a 16% hit, but shares stabilized a bit through early September, until UNFI reported worse than expected fourth quarter earnings (76 cents versus 85 cent consensus).
Then the recent market pullback really clobbered shares, which are now trading at a 9½ year low, and brought the other half of the double whammy. Companies that are distressed, of lower quality, or where the markets have great doubt, are typically among the first to be sold by investors when markets become volatile. Since the beginning of October, as the S&P 500 has given back about 9%, UNFI has fallen 26%. Investors simply don't like the uncertainty.
Whether or not the damage done to UNFI is an overreaction remains to be seen. It certainly piques my interest but there is a great deal of risk here. Continued market volatility will likely continue to weigh on the shares, and the fact that it is a tax-loss selling candidate may continue to add pressure as we head into year-end.
If the new UNFI can execute, pay down debt through the sale of SUPERVALU assets, and generate the synergies that it expects, this could be a winner. However, at this writing, that is a lot of "ifs" in a market that is not too keen on uncertainty or a company that has taken on substantial leverage in a questionable acquisition.
UNFI will be on my watch list as we head into year-end, but I am not ready to pull the trigger just yet.
