Friday, March 8, 2013

Value Fail: SuperValu

When I brought up SuperValu (SVU) as a potential value investment a few years ago, many of you warned me against it. I wish I had listened! The grocer got squeezed on all fronts, including but not limited to: food inflation, competition, and perhaps most importantly, debt.

Given time, most problems facing a company can be handled. Food inflation hurting margins? Wait it out; figure out where you can pass on costs and where you can't; shift consumers to private label "value" products. Getting beat up by the competition? Figure out what they're doing well and copy them and close unprofitable stores.

But many of these options disappear when a company is carrying a load of debt. Shrinking down can put a company in a worse position, as the large debt burden is spread over fewer revenues. What would otherwise be temporary problems can threaten bankruptcy when financial obligations come due. Finally, a company can't spend what it needs to in order to keep up with the competition (stores get old, systems outdated etc.), which can push the company into a negative feedback cycle.

It is likely that SuperValu suffered through all of these problems as a result of its debt position. My inability to recognize this ahead of time ended up costing me. I generally stay away from levered companies; for various reasons (stability of grocery business, SuperValu's traditionally strong locations and local economies of scale, diversity of businesses/platforms), I ignored that instinct invested in SVU. Unfortunately, as the quarters wore on, sales continued to deteriorate with massive impacts on the bottom line thanks to the fixed costs of leverage.

Frankly, I'm quite happy to have been able to escape from this company at above $4/share. If there hadn't been interest in a buyout, I think this situation could have ended up a lot worse for investors. The standalone company that remains after the buyout of various assets looks just as risky, while the revenue situation continues to deteriorate. It's certainly possible new management can turn this ship around; I just have no intention of putting levered money on it! Count this one as the newest member of the Value Fail page.

Disclosure: No position


Anonymous said...

Excellent ex post analysis and a valiant exit on Supervalu.

After your initial posting (and's complementary analysis), I considered SuperValu as well. However, I could not identify sufficient mitigating factors to overcome my concerns on (1) the absence of an enduring economic moat, and (2) a debt load that could distract or limit management's ability to focus on long term investments (as you mention, regarding store upgrades and other factors to attract customers and raise profits in the long term).

Regarding LBO-type capital structures (in your earlier post), I recognize the disciplining effect and role of debt in reducing agency costs. However, a high debt load, for public firms subject to quarterly scrutiny, can become a barrier to long-term planning, particularly within competitive environments for which a significant and uncertain lag exists between investments (e.g. store upgrades) and increased profit margins (e.g. winning over more profitable customers). Thoughts?

Do you think there is an insight, perhaps on industry dynamics, in your ex post analysis of Supervalu that might bring a new perspective to your earlier investment analysis on Staples or Bestbuy?

Here, I'm thinking of Fisher's writing that "[losses] should always be reviewed with care so that a lesson is learned from each of them". As your blog posts seem to have this quote at heart, your thoughts on practically applying this to your earlier investment analysis would be quite valuable.

Anyways, big fan of your website. You're building something great here and I hope you keep it up.

Big Fan

P.S. Do you know why your colleague at isn't posting much these days? You both seem to have stepped away from daily postings, although Frank to a much greater extent.

Frank said...

Big Fan,

Saj passed along your comment. I stepped away from daily postings because I am working on a startup idea and I haven't had the time to work on both. Progress has been steady and I hope to have something to announce shortly.

Stay tuned!
Frank Voisin

hardcorevalue said...

Frank, I wondered where you had been!? Very eager to here about your new start up.

Saj Karsan said...

Hi Anon,

I definitely want to apply lessons from this to future investments, but I'm not sure Best Buy and Staples are the best comparisons. Other than being in retail, where they of course suffer from some of the same industry dynamics including low customer switching costs and high fixed costs, I think there are major differences.

BBY and SPLS (especially the latter with its delivery business) have strong market positions thanks to economies of scale (in distribution, marketing etc) that I don't think SVU had relative to its peers. They also don't have the same scale of debt obligations that SVU had.

I think a better comparison for SVU might be to JC Penney. That's not to say JCP can't turn things around, but I'd be wary of getting involved in a situation like that myself.

Of course, I could be blindly overestimating BBY and SPLS and underestimating JCP thanks to confirmation bias (I own the first two and not the 3rd), so take all of this with a grain of salt!