City urges Safeway to resurrect Asda merger talks

Safeway is under growing pressure from the City to re-open merger talks with Asda after the two sides abruptly abandoned negotiations over the weekend to create Britain's biggest supermarket group. Michael Harrison examines the prospects for resurrecting the deal.

Institutional shareholders in Safeway yesterday urged the company to resurrect its pounds 9bn merger talks with Asda even at the expense of undergoing a long examination before the Monopolies and Mergers Commission.

The two groups said on Sunday that they had discontinued talks because it would not now be possible to get confidential guidance from the Office of Fair Trading about whether the deal was likely to escape an MMC referral.

Advisers on both sides claim that a lengthy MMC investigation would undermine staff, customer and supplier loyalty and would not be worth risking.

However, one major Safeway shareholder said last night: "After having performed well, Safeway is beginning to lose ground to Tesco. It lacks the critical mass and scale that a merger with Asda would have given. It is such a great deal that I think that, having raised the prospect of a merger, they will be under pressure to push it further.

"It is such an attractive deal that I would urge them to press ahead even at the risk of a lengthy investigation by the regulatory authorities." One of Asda's biggest shareholders was more sceptical, however, saying: "Safeway's shareholders are desperate to get a deal but shareholders in Asda aren't."

Although the confidential merger proposals, submitted to the OFT in July, had not gone to Margaret Beckett, President of the Board of Trade, it is thought almost certain she would have called for an MMC investigation.

The merger, if it had gone ahead, would have created a group with 15.3 per cent of the UK's pounds 85bn a year food retailing market, outdistancing both Tesco and Sainsbury. Together, Safeway and Asda would have combined sales of pounds 14.5bn, 600 stores, pre-tax profits of pounds 826m and a market capitalisation of pounds 9.15bn.

To overcome competition concerns they had identified pounds 200m in savings which would largely have been passed back to customers, increasing the pressure on Tesco and Sainsbury to cut prices.

Both companies fought yesterday to rebuff suggestions that the failure of the merger talks had put them in play, particularly Safeway which first approached Asda with the idea of a merger earlier in the year.

Safeway denied that it had approached other stores and supermakets groups here and in the US, including Marks & Spencer or that it was now under pressure to shore up its defences by buying a smaller competitor such as Somerfield or Budgens.

However, news of the aborted talks with Asda caused a flurry of action in the markets. Shares fell sharply in Tesco and Sainsbury, the two supermarket leaders with 15 per cent and 13 per cent shares respectively of the pounds 85bn UK food retailing market. Safeway shares rose on speculation that it may now be vulnerable to a bid while Asda shares closed down slightly.

However, another institutional investor said that of the two groups, Asda might find itself the more exposed. "The merger talks have exposed a weakness which needs to be addressed but, if anything, Asda may be more vulnerable than Safeway. Safeway has traditionally been more profitable and better established while Asda has a relatively new management."

Retail analysts questioned whether either company was necessarily exposed since neither was likely to be a takeover target for a rival UK supermarket group , given the competition constraints.

"I can't see what the synergies would be of a US supermarkets group buying Safeway and although there might be some benefits of doing a deal with a European chain in terms of purchasing power there would no gains in terms of central distribution," said one analyst.

He also questioned whether smaller supermarket groups were now vulnerable to a defensive takeover. "If the whole idea was that Safeway was looking to take on the Asda format, what is the point of moving down a step in size?"

Morrison is family controlled while Somerfield, though possessing some large stores, has many more small format supermarkets.

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