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Shopping for Sainsbury's

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In April, Sainsbury's was on the verge of being bought in what would have been one of the largest deals in British history. Marc Smith finds out what caused the takeover bid to fail and what the future has in store for the retail giant and its founding family.

Marc Smith is deputy editor of Families in Business.

A heroic tale of a family standing up to and defeating a Goliath private equity consortium? Or a missed opportunity that will drive a wedge between family and shareholders? Whichever way you look at it, one thing is certain – CVC and its partners are not going to get their hands on J Sainsbury, one of the UK's best-known retail chains.

Less than 10 weeks after it was announced that a CVC-led consortium was considering making an offer that would have been the largest leveraged buy-out in British history, the deal is dead in the water. In a statement, the bid team said it had become clear that the Sainsbury's board would not back their offer of a reported 582 pence a share, which included a major investment programme and the promise of extra jobs.

For its part, Sainsbury's said that "the board explored with the consortium whether the key pre-conditions (which were related to the consortium's proposed financing structure) attached to their proposals were capable of being satisfied or could be revised, but the consortium concluded that this was not possible. As a result, the consortium decided to cease discussions."

Family stands firm
It is understood that the principal stumbling block to the deal's conclusion was the position taken by the Sainsbury family. The family, who now hold an 18% stake, remains active in the company, despite no longer having a management role – David Sainsbury's retirement in 1998 brought to an end 129 years of family members at the top.

In particular, the family was keen to hold out for 600p a share, substantially above the offer made by the consortium. "I think that it was a brave decision by the Sainsbury family," says Tim Denison, director at retail research group SPSL and member of the Retail Think Tank. "Clearly there is a great deal of faith in the management team, but they obviously didn't believe that the bid was going to work in the long-term interests of the business."

It has also been reported that leading family members were not happy about loading the company with debt to finance the deal – a common criticism of private equity by business-owning families. "A strong balance sheet and a largely freehold property base" have always been the cornerstones of Sainsbury's success, said Lord John Sainsbury of Preston Candover, who ran the business until 1992. "Eroding these attributes will make the company more vulnerable to competitive pressures which is not in the best long-term interests of the company, its customers, staff, shareholders or pensioners."

But there is surprise in some quarters that the family did not decide to sell up. With the fifth generation pursuing business interests elsewhere, and the overall family shareholding on a downward spiral, it seems evident that the family's ties to the business are slowly being cut. However, it is understood that the consortium's bid included a facility for the family to maintain a reduced stake in the business and, naturally, the family wants to see the business's success continue.

Private equity
The failure of the Sainsbury's bid could well be seen as a setback for private equity in the UK. The industry has been under severe scrutiny in the past few months with commentators, unions and even the government all having their say.

Leaving aside the family's intransigence to the deal, the problems began when the consortium began to unravel. Events conspired against Kohlberg Kravis Roberts, one of CVC's partners, when its attempt to purchase another UK retailer, Alliance Boots, reached a critical period. There were rumblings that the UK's competition commission would have misgivings about their involvement in two high-street buy-outs and KKR decided to pull out of the Sainsbury's bid. Only a few days later, Texas Pacific Group and Blackstone, the consortium's other members, also withdrew, leaving CVC to carry the bid on its own.

Another major problem for the consortium was Sainsbury's pension fund deficit. It is understood that there was disagreement as to whether the consortium had enough money set aside to plug the gap in the pension funds.

However, the major jewel in the crown of the deal is the company's property portfolio. It had been debated for some time in the business press that the consortium would look to sell and lease back the firm's real estate, which was valued at up to £9 billion. One of the problems for the consortium, however, was the presence of minority shareholder Robert Tchenguiz, who holds around 5% of Sainsbury's. It is understood that Tchenguiz, a property magnate, had suggested this very tactic to the Sainsbury's board, negating one of the central tenets of the consortium's bid. In a further twist, a Qatari property investment group, Three Delta, has purchased a 14% stake fuelling speculation that they will join forces with Tchenguiz and try to force the family's hand on the property portfolio.

Then we come back to one of the consortium's "key preconditions", which was the need for 75% of shareholders to agree to the bid. This caveat was inserted by the consortium's bankers to ensure the bid's financing. While it is understood that the board felt confident that over 50% would have supported a deal, they were not confident about reaching a 75% ceiling.

Business as usual
The collapse of the bid led to a fall in the Sainsbury's share price (to 526p) once the news broke, as shareholders reacted to losing out on a substantial payout. However, this fall comes within a consistent trend of increased growth and profits. Indeed, Sainsbury's has just reported a ninth consecutive quarter of like-for-like sales growth.

So why was there such interest in Sainsbury's at the time? The smoking gun for the consortium's bid was the sale of 2.1% of David Sainsbury's shares in February this year. However, private equity has had its eyes on the firm since 2004, when the firm was pushed into third place in the UK supermarket sector behind Tesco and ASDA. At that time private equity groups again made an unsuccessful bid in the region of 300–400p. But since then, under the guidance of CEO Justin King, the firm has made a good recovery and is clearly still an attractive takeover target. In announcing the collapse of the latest bid, the board said it "believes that Sainsbury's has great potential and it is committed to completing its Making Sainsbury's Great Again recovery plan."

What does the future hold?
According to Denison, "the question now is how deep the pockets of the investment plan are". The board has to show that it can keep the recovery on track and maintain the share price around the bid level. Equally, the veto that the family effectively has on any future sale will be sure to alarm some shareholders worried about the effect this will have on future share price. However, Denison believes that there were other major shareholders who were keen to back the family's position – it would undoubtedly have been harder for the family to take their hardline position on their own.

The family, therefore, has a delicate balancing act to play in the near future – looking after its wellbeing and continuing to support that of the company's. The question remains, are these roles mutually exclusive?

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