Coverage: Dollar Tree makes a bid for Family Dollar

The battle for the dollar is heating up. Dollar Tree is planning to buy Family Dollar in an effort to increase the discount retailer’s reach.

Bloomberg Businessweek reported in a story by Selina Wang, Beth Jinks and Cotton Timberlake that the sale was also good for Family Dollar’s well-known investors:

Dollar Tree Inc. (DLTR:US) agreed to buy Family Dollar Stores Inc. (FDO:US) for about $8.5 billion, creating a sprawling discount chain with $18 billion in sales and more locations than any other retailer in the U.S.

Dollar Tree will pay $74.50 a share in cash and stock, 23 percent above Family Dollar’s closing price at the end of last week, according to a statement from the companies today. Including debt, the deal has a value of about $9.2 billion.

The purchase transforms the dollar-store market and fulfills the ambitions of billionaire investors Carl Icahn and Nelson Peltz, who had acquired major stakes in Family Dollar and pushed for a sale. Peltz, head of Trian Fund Management LP, went so far as to make an unsolicited bid for Family Dollar in 2011 in an attempt to attract other suitors. That offer was turned down and no other bidders emerged at the time.

The Wall Street Journal story by Paul Ziobro and Shelly Banjo called the merger “The Battle for the Poor” in its headline. The company plans to maintain both brands:

The malaise among America’s weakest consumers has been reflected in several straight quarters of declining same-store sales and traffic at Wal-Mart Stores Inc. and Target Corp., as well as slowing growth at the dollar stores.

Dollar Tree’s acquisition of Family Dollar won’t change those dynamics. But the combination of the No. 2 and No. 3 companies in the dollar-store category will create a company with more than 13,000 stores that can squeeze better deals out of its suppliers, giving it more heft to compete against No. 1 Dollar General Corp. and have more clout to counter any fresh moves from Wal-Mart and Target.

“Customers are under pressure,” Dollar Tree Chief Executive Bob Sasser said in an interview. “Unfortunately, that’s one reason why the space continues to grow.”

Mr. Sasser will run the combined companies, which would have more than $18 billion in annual sales. The chains expect to save about $300 million a year as a result of the deal, largely through better buying power and consolidation of their distribution networks.

The merged company plans to maintain both brands. Mr. Sasser said the two chains don’t have too much overlap.

Michael J. de la Merced reported for The New York Times that a combined company may have better purchasing power:

Getting bigger may also help the pair pull together their buying power, negotiating bigger discounts from suppliers while finding ways to cut costs. The two companies expect to save $300 million in annual costs by the third year after closing.

That could prove especially important if Walmart continues to introduce more small-format stores to complement its traditional supercenter locations.

Mr. Sasser played down the prospects of Dollar Tree’s taking on the colossus of American retail.

“We’re staying in the dollar sector,” he said. “We’re still going to be in the value retail sector.”

Brad Tuttle wrote for Time that the dollar sector may be plateauing after several years of record gains and some of the reasons why people continue to turn to the discount chains:

The Great Recession destroyed shopper budgets. In the late ’00s, the housing bubble burst, the stock market crashed, and the jobs market took an ugly turn. All of the factors combined meant that the free-spending habits developed by consumers in the preceding years would have to be broken and replaced by new strategies to live cheaply. The much-heralded demise of conspicuous consumption spelled trouble for products like GM’s Hummer, but it also meant boom times for low-price retailers—dollar stores especially.

With little money to spend, especially if they’d cut up their credit cards as many had in a move to a cash-only existence, consumers stretched what few dollars they had at dollar stores. Consequently, dollar stores flourished. Dollar General doubled its store locations in the first decade of the millennium, for instance. According to one study, by 2011 there were more dollar stores than drugstores in the U.S.

Dollar stores pushed one-stop shopping. Shrinking American household budgets helped the rise of dollar stores. So did the broad campaign by dollar stores to push beyond the idea that they were good only for junky throwaway trinkets, off-brand canned goods, and anything else that had grown stale on the shelves of mainstream stores.

Reuters reported in a story by Devika Krishna Kumar and Ramkumar Iyer that activist investor Carl Icahn was holding out for more:

While the sale is a big win for Family Dollar’s largest shareholder, Carl Icahn, the activist investor responded to the offer by saying there were “a handful of potential buyers” that he believed would be a better fit.

“(We) are hopeful that one or more of them will surface,” Icahn said in a statement. He had touted Dollar General as a potential buyer.

Family Dollar shares closed up 25 percent at $75.74, above the cash-and-stock offer that valued the company at $74.50 per share.

Dollar Tree shares closed up 1.2 percent at $54.87. Dollar General and Wal-Mart shares closed slightly down.

Dollar General and Wal-Mart declined to comment. Combined, the three Dollar chains annual sales total about $35 billion, less than a tenth of Wal-Mart’s $473 billion.

Icahn stands to make about $200 million from the deal, a gain of about 32 percent on the price at which he bought his 9.4 percent stake in Family Dollar this year, according to Reuters calculations.

That seems like a good payday, particularly when you think of how much you could buy at a Family Dollar or Dollar Tree with $200 million. On paper, the deal seems like a good one, but it will remain to be seen if the combined company can truly achieve cost savings with their integration.