Tesco aims for 2018 Booker takeover as CMA waves deal through

Tesco's controversial takeover of wholesaler Booker has been given provisional clearance by the UK competition authority after an in-depth review, though one analyst bemoaned "what on earth is going on?" and said it could presage other major mergers.

The Competition & Markets Authority, which had been expected to put up more resistance to Britain's largest supermarket group taking over Britain's largest wholesaler in a £3.7bn deal, decided the level of competition in the grocery wholesale and retail markets would be sufficient to overcome any potential challenges where Tesco might try to raise prices or reduce service levels either in retail or wholesale.

The deal was orignally announced on 27 January and referred by the Competition & Markets Authority to an in-depth 'level 2' probe in the summer as it felt the combination could damage competition in more than 350 local areas. Booker supplies services to over 5,000 independent retailers operating under brands such as Londis and Budgens, with around 12,000 shops in areas where Tesco’s shops competing with Booker-supplied shops.

The CMA warned that in areas where there is an overlap between symbol stores and Tesco shops, Booker could reduce the wholesale services or terms it offers the independent retailers “in order to drive customers to their local Tesco”.

But on Tuesday the authority appeared to have caved in even though a number of rival wholesalers warned Booker would benefit from improved suppliers’ terms after the merger.

The CMA did find that it was likely Booker would be able to negotiate better terms from a number of its suppliers for some of its groceries, and that it was likely to pass on some of the benefits of these savings to the shops that it supplies.

But the authority said while this might increase competition in the wholesale market, as well as reducing prices for shopper, it felt this would not affect competition in the longer term as Booker has less than 20% share of the UK grocery wholesaling market.

"Our investigation has found that existing competition is sufficiently strong in both the wholesale and retail grocery sectors to ensure that the merger between Tesco and Booker will not lead to higher prices or a reduced service for supermarket and convenience shoppers," said Simon Polito, chair of the inquiry.

For its part, Tesco said it would continue to work with the CMA as it prepares the final report due by the end of December and anticipate completion of the merger in early 2018.

"We look forward to creating the UK's leading food business, bringing together our combined expertise in retail and wholesale. This merger has always been about growth, and will bring benefits for independent retailers, caterers, small businesses, suppliers, consumers, and colleagues," the grocer said in a statement.

Major institutional investors Artisan and Schroders, Tesco's third and fourth largest investors, had urged the board to abandon the takeover in part because they believe the 24% premium paid for Booker makes the destruction of value more likely.

Analysts said there may be many more shareholders who will refuse to back the deal.

There was more good news for Tesco on Tuesday a data from Nielsen showed it had the fastest growing sales of the country's four biggest supermarkets for the eighth consecutive month.

During the 12 weeks ending 4 November, Tesco increased sales by 2.7% year-on-year, noticeably ahead of the 2.1% for Sainsbury’s, 1.8% for Morrisons, and 1.7% for Asda.

Tesco shares were up 5% to 185.65p by 0930 GMT on Tuesday, though still down 10% from the start of the year when the deal was announced.

Analyst Clive Black at Shore Capital pointed out that the CMS had "singularly derailed" Poundland's acquisition of 99p Stores with a prolonged investigation into a deal "that really did not create waves in British retailing".

After it unconditionally cleared the merger of the UK’s largest grocer and wholesaler, Black wondered "What on earth is going on? How Booker’s competitors and many suppliers in the wholesale trade must be thinking today. Why an earth did they bother making submissions, paying lawyers and expending energy analysing to death the British grocery retail and wholesale market only for the CMA to seemingly clear the deal unconditionally."

He added: "If Tesco and Booker can merge with unconditional approval (with no proposed remedies), then the scope for further large-scale consolidation cannot be ruled out. Watch this space."

Analyst Laith Khalaf at broker Hargreaves Lansdown said Tesco had cleared a major hurdle, though the competition regulator can expect a postbag full of angry letters from convenience shop owners before it comes to a final decision next month.

"The fly in the ointment could yet be Tesco shareholders, with some influential players still not backing the merger. It remains to be seen if there’s a silent majority out there who will give the deal the nod, or whether the vocal critics of the proposals are reflective of wider discontent amongst the ranks of Tesco investors.

"The problem is there’s a fine line between genius and lunacy, and this deal looks to be walking it."

Neil Wilson at ETX Capital said as well as the premium paid for Booker scrubbing a lot of the value off the deal, a further big risk seen by investors is that Tesco takes its eyes off the turnaround strategy.

"The rationale for the deal is to tie up the end-to-end wholesale/retail business and generate savings in the process. Cost synergies of around £200m a year, mainly from buying and distribution, are the main selling point for Tesco shareholders.

"Management has said that the merger will generate a return greater than the cost of capital within two years of completion. EPS will increase in year two as well, although this excludes ‘implementation costs’," Wilson said.