Bloomberg News

BJ’s Wholesale Set to Gain 20% With $3.1 Billion Bid: Real M&A

June 20, 2011

June 20 (Bloomberg) -- BJ’s Wholesale Club Inc., the cheapest discount retailer in America, may be poised to extract $750 million for shareholders at the expense of its private equity bidders.

Almost five months after BJ’s board decided to explore a possible sale, Leonard Green & Partners LP and CVC Capital Partners offered to buy the warehouse-club operator without saying how much they would spend, a regulatory filing last week showed. BJ’s could ask for $53 to $57 a share, based on valuations of comparable retailers and the price Leonard Green agreed to pay for 99 Cents Only Stores in March, according to data compiled by Bloomberg.

While BJ’s equity is worth less per dollar of sales than any U.S. discount retailer, a deal could now hand its owners a 33 percent gain since the Westborough, Massachusetts-based company put itself up for sale in February, the data show. BJ’s, which has more cash than debt and the industry’s lowest operating margins, is attracting private-equity bidders looking to turn a profit by cutting costs and raising prices for food and fuel, according to Westwood Holdings Group Inc.

“There’s potential to expand the store base, expand that technology initiative and take margins up,” said Joe Feldman, an analyst for Telsey Advisory Group LLC in New York. Private equity firms “might see it as being under-operated. It’s kind of suited to an LBO. You could lever this thing up,” he said.

Retail M&A

Cathy Maloney, a spokeswoman at BJ’s, declined to comment, as did Mary Zimmerman, a spokeswoman for CVC. Michael Gennaro, chief operating officer at Leonard Green, didn’t immediately return a telephone call requesting comment.

BJ’s, which gets almost two-thirds of its sales from groceries, has 190 locations mainly in the northeastern region of the U.S. and offers discounts on everything from flat-screen televisions to gasoline for members who pay an annual fee.

The company gained 10 percent through last week since saying in February that its board had decided to explore strategic options. Still, its 14 percent return in the past three years lagged behind the 54 percent total from consumer staples stocks in the Standard & Poor’s MidCap 400 Index, data compiled by Bloomberg show.

The sale prompted Los Angeles-based Leonard Green, which has participated in at least five retail deals in the past year totaling about $5 billion, to bid for BJ’s with London-based CVC Capital, its filing showed. Terms weren’t disclosed.

While the offer won’t be more than $55 a share and may not be as high as $52 a share, DealReporter said last week, citing two people close to the matter, BJ’s Chief Executive Officer Laura Sen could demand more, data compiled by Bloomberg show.

Relative Value

The average earnings multiple of 16.6 times for comparable discount retailers that generate at least a third of their sales from perishable goods would value BJ’s at about $53 a share, based on its per-share earnings of $3.17, the data show.

Costco Wholesale Corp., the largest U.S. warehouse-club chain and BJ’s closest publicly listed competitor, trades at almost 25 times profit.

Using the lowest takeover multiple for a discount retailer in the past five years -- Leonard Green’s pending buyout of City of Commerce, California-based 99 Cents -- would give BJ’s an even higher price, the data show. The private equity firm agreed to acquire 99 Cents for 7.86 times its earnings before interest, taxes, depreciation and amortization in the past 12 months.

‘Lowball Bid’

At the same valuation, BJ’s equity would be worth about $3.1 billion, or $57 a share. That’s 20 percent higher than the warehouse chain’s closing price of $47.50 last week and more than its market value of $2.35 billion prior to putting itself up for sale, the data show. BJ’s retreated 4.1 percent to $45.55 today in New York.

“You could argue that $52 is a bit of a lowball bid,” said David Abella, a money manager at Rochdale Investment Management LLC in New York, which oversees $4 billion. “If you close the gap to the Costco valuation by improving operations, BJ’s would probably be worth in the mid-$50s.”

“That would be a price that management and the board would probably want as a minimum because they may feel they could get to that price on their own by improving operations themselves,” said Abella, whose firm owns 15,000 BJ’s shares.

He said $55 to $56 would constitute a “fair bid.”

BJ’s is currently the cheapest U.S. discount retailer with at least $500 million in market value. On a per-share basis, the warehouse chain trades at 0.22 times its revenue of $11.2 billion in the past 12 months, data compiled by Bloomberg show. BJ’s sells for less than its rivals because it hasn’t been as profitable, according to Abella.

Deal Rationale

The company earned 2.2 cents of operating income for each dollar of sales, less than Issaquah, Washington-based Costco. BJ’s 11 percent gross margin, or its ability to mark up prices on items, was also the lowest in the industry.

BJ’s lags behind Costco and Wal-Mart Stores Inc.’s Sam’s Club because it doesn’t have as many locations nationwide and carries more items, according to Telsey Advisory’s Feldman.

Costco has more than twice as many stores as BJ’s and is located across 40 states. BJ’s is located in 15 states.

Private equity firms are targeting BJ’s because they can boost returns by reducing expenses and use the company’s cash flow to expand the brand beyond the Northeast, said David Strasser, an analyst at Janney Montgomery Scott LLC in New York.

BJ’s had $170 million in net cash, while the average U.S. discount retailer had more debt than its reserves, data compiled by Bloomberg show. The company’s cash from operations also rose to $311 million in the past 12 months, higher than any comparable period since at least 2002, the data show.

Food and Gas

“They could improve the company by growing beyond the 15 states they are in,” said Janney’s Strasser. “That is the biggest rationale for this deal.”

The rising costs of food and gas may also boost BJ’s earnings as more customers join the club to take advantage of its discounted prices, said Matt Lockridge, a money manager and consumer analyst at Westwood Holdings in Dallas, which oversees $13.9 billion and owns 1.4 million BJ’s stock.

Food accounted for 65 percent of BJ’s sales last year, double Costco’s total in its most recent fiscal year, data compiled by Bloomberg show. BJ’s also operated 103 gas stations, according to the company’s regulatory filing.

U.S. consumer prices rose 3.6 percent last month from the same period a year earlier, the biggest increase since October 2008, the Labor Department said this month.

“It’s very attractive right now,” said Lockridge, who says that BJ’s may be worth at least $60 a share in a takeover. “There definitely is store growth opportunity ahead. They’re in a really good place right now with both food inflation and gasoline inflation. Going private will enable them to accelerate some investments.”

--With assistance from Matt Townsend in New York and Chris Burritt in Greensboro, North Carolina. Editors: Michael Tsang, Daniel Hauck.

To contact the reporters on this story: Tara Lachapelle in New York at tlachapelle@bloomberg.net; Danielle Kucera in New York at dkucera6@bloomberg.net.

To contact the editors responsible for this story: Daniel Hauck at dhauck1@bloomberg.net; Katherine Snyder at ksnyder@bloomberg.net.


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