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Strategy 2: grow larger so you can "write the check" for major acquisitions.

R. Randolph Devening Executive Vice President & CFO Fleming Companies, Inc.

Business: Wholesale food distributor

Tow assets: $2 billion

Credit rating: Baa/Bbb

With annual sales at $12 billion, Fleming is now the nation's largest wholesale food distributor, serving more than 5,000 stores in 36 states. We provide retail customers with national brands of grocery products, private-label items, perishables, and general merchandise. The industry itself is a $92 billion-per-year industry at the wholesale level, encompassing 240 companies. Fleming currently has a 13-percent market share.

As we began the 1980s, Fleming was the second largest company in the industry, with sales at $2.8 billion - well behind Super Value. other major players at that time and today are Wetterau, Nash-Finch, and Scrivner; all but Scrivner are publicly held companies. The industry was fragmented. There were more than 400 wholesale companies, and volumes were smaller. Capitalizing on economies of scale became more important to increase buying power and provide technical support to retailers. The capital requirements were increasing. And stores were becoming larger and required more investment. The major players had to get larger and stronger or face a very limited future. The seeds of consolidation were sown.

Fleming saw this as an opportunity. We adopted a strategy of developing a balanced capital structure using a variety of financial tools to take advantage of the consolidation. We wanted to be able to write the check for major acquisitions.

We took steps to become better recognized by the financial community so we could access capital more easily as opportunities arose. We felt that, if we were successful, we would be able to improve our P/E ratio and increase shareholder value.

Fleming rose to the top of the industry primarily through the steps we took to capitalize on expansion opportunities. For instance, in the early '80s, we went to the financial community to establish ourselves before we needed substantial financing. We applied for and received commercial paper ratings from Standard & Poor's and Fitches at the 2 level. We've nurtured our relationships with the financial community over the years, and this has been instrumental in our ability to move quickly to capitalize on major opportunities.


In 1980, Fleming had total assets of $345 million and shareholders' equity of $122 million. Our long-term debt combined with capital lease obligations represented 38 percent of our total capital - very conservative at that time - and we used no short-term borrowings.

In December of 1981, Fleming made its first major acquisition, the McLain Grocery in Ohio. It was well managed, served 287 stores, had sales of $328 million, and had net earnings of $2.9 million. We issued 886,000 shares of Fleming stock, worth $23 million, in exchange for all the outstanding stock of McLain. In the transaction, we were able to increase our total assets almost 20 percent and shareholders' equity by 25 percent, while long-term debt and the debt-to-capital ratio declined.

This first acquisition was followed by a long string of methodically selected acquisitions from 1982 to 1985. These included Waples Platter Company, purchased for $91 million in cash. This purchase was initially financed through revolving credit, on which we later reduced the debt by selling 1,250,000 shares of common stock for $55 million. We also acquired American Strevell, a bargain because the firm was in bankruptcy- Giant Wholesale; United Grocers; a distribution center from American Stores; and Associated Grocers of Arizona.

By the end of 1985, Fleming's sales had grown to more than $7 billion as the new operations began to make significant contributions. Our long-term debt and capitalized lease obligations included $26 million from acquisitions during the year. Capital was increased by earnings reinvested in the business and a debenture conversion. As a result, the ratio of debt to capital was reduced from 39.7 percent to 37.7 percent.

The company's growing stature in the finance community was underscored in 1986 when we successfully sold $100 million of 30-year sinking fund debentures at a very attractive 9.5 percent coupon rate. These proceeds were used to prepay $75 million of revolving debt and $17 million of secured indebtedness.

In July of 1986, we purchased another cooperative in Philadelphia for $12.7 million. From an earnings' standpoint, 1986 was not a particularly good year for Fleming. it was the first time since 1970 that we didn't post record earnings. Two acquisitions, United Grocers in California and Associated Grocers in Arizona, did not perform up to expectations. Fortunately, we would later redeem ourselves, particularly in the case of Associated, now our largest and most profitable division.

In November of 1987, we purchased the Godfrey Company in Milwaukee, which was publicly traded and had an excellent track record. In this acquisition, we gained $64 million in new sales and did it by pooling interest and exchanging 4.4 million shares of Fleming stock, valued at $100 million, for all of the outstanding shares of Godfrey.

While 1987 was not an exceptional year by our standards, we did make significant progress. Borrowings under bank lines were reduced to zero from $40 million in 1986. And we substantially reduced our long-term debt and debt-to-capital ratio.

Next came our biggest acquisition. In July of 1988, we purchased Malone & Hyde, of Memphis, Tennessee. It vaulted Fleming to the top of the food distribution industry. Like Godfrey, Malone & Hyde was an outstanding company and a very successful competitor in its market. With sales of $3 billion, it was the nation's sixth largest wholesaler, operating eight distribution centers and supplying 1,750 stores in 16 states. The purchase price was $600 million in cash. We initially financed it with borrowings from our new commercial paper program backed by an $800-million, fully committed revolving credit led by Morgan Bank. We obtained this type of agreement largely because of our ongoing efforts to cultivate relationships with both commercial banks and the other elements of the investment banking community.

Without a costly strike, Fleming would have enjoyed an excellent year in 1988. The Malone & Hyde acquisition had a significant impact on Fleming's financial picture, with substantial increases in long-term debt and capitalized leases. Our debt-to-capital ratio reflects these increases.

We reduced the debt we incurred as a result of this purchase, however, by selling two operating divisions that were outside of our core business: M&H Drugs, a retail drug chain, for $55 million and White Swan, a food service subsidiary that came with a 1982 acquisition, for $217 million. We obtained another $71 million, which was used to reduce commercial paper borrowings, by selling 2.3 million shares of common stock. Then, in February of 1989, Fleming sold $100 million of money market preferred stock and further reduced our commercial paper borrowings by that amount. Later, we redeemed half of this because of the high dividend cost associated with it.

Focus and flexibility

During the 1980s, Fleming had diversified into several types of related businesses, including food service, printing plants, trailer manufacturers, and bakeries. Since that time, however, we've been reshaping our portfolio to concentrate on what we do best - wholesale food distribution to supermarkets. Our recent acquisitions and investments reflect this sharper focus. All of our diversified operations have been sold.

In 1989 and 1990, we made no major acquisitions as we worked to realize the synergies of the Godfrey and Malone & Hyde purchases and to reduce our debt-to-capital ratio.

Now, our focus is on building volume in our existing facilities. However, there are big opportunities to increase our market share in existing markets, and we have the resources to capitalize on the opportunities. We're continuing to reduce our debt-to-capital ratio from the 63 percent immediately preceding the Malone & Hyde purchase to a more manageable 54 percent today. And we want further reduction.

In addition to using our strong cash flow for this purpose, we're selling underperforming assets. So far, this program has produced cash proceeds of $51 million and achieved annual cost reductions of approximately $9 million. We're also selling retailer notes receivable and recently realized $75 million from a sale of notes receivable to institutional investors, using the proceeds to reduce our commercial debt.

In view of the uncertain credit market that middle-market companies face, we have positioned Fleming to reduce its reliance on commercial paper by diversifying funding sources. We reinstituted our committed bank lines of $800 million, including new commitments from several strong foreign banks. We recently sold $103 million of medium-term notes and arranged for privately placed notes and contingency bank loans - all to give us flexibility.

Our strategy of growth through acquisitions in the 1980s was a successful one. We felt that size was necessary to provide the economies of scale, purchasing power, technological expertise, and financing capabilities needed in an increasingly competitive environment. For example, Fleming is now a major customer of many food producers in the U.S., and we provide our customers with more than 100 different kinds of service, many of which involve financing.

We think we're now well positioned, both geographically and operationally, to continue growth through our advantage in technology, through our productive and high-volume facilities, and through the earnings leverage our size provides.
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Title Annotation:Corporate Finance
Author:Devening, R. Randolph.
Publication:Financial Executive
Date:May 1, 1991
Previous Article:Strategy 1: "always use other people's money." (Corporate Finance)
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