Kroger and Albertsons line up suitors for store divestitures

Kroger and Albertsons are confident they will have strong strategic grocery buyers for the assets they divest as part of their merger, a source familiar with the deal says.

Why it matters: Regulators don't want a repeat of Albertsons 2014 sale of stores to Haggen — a much smaller West Coast chain — to get its acquisition of Safeway approved.

Catch up fast: With the FTC's blessing, Bellingham, Wash.-based Haggen acquired 146 stores from Albertsons for about $300 million.

• Prior to that deal, Haggen had only operated 18 locations.
• Less than a year later, the grocery banner filed for bankruptcy and sued Albertsons for sabotaging its expansion.
• Albertsons ended up reclaiming several locations it sold to Haggen, undoing the FTC's intent of preserving competition.

Of note: FTC chair Lina Khan has specifically cited the failure of divestitures to preserve competition in the case of Albertsons' merger with Safeway.

Between the lines: The two food retailers also want to avoid such a scenario, or at least be able to convince the FTC it won't happen a second time.

• One of the reasons Haggen failed was that its stores were spread out over several states, which prevented efficiencies operators gain when locations are clustered around a nearby distribution center, the source says.
• The sale of locations this time would avoid the mistakes of the deal Albertsons made with Haggen, the source says.
• The source pointed to the divestitures made by Ahold and Delhaize to get their merger approved in 2016 as a template.

The big picture: Industry sources have told Axios that it is likely that the FTC challenges the deal and it ends up in court, though the odds are the merger will ultimately get approved.

Details: The entire deal was structured to signal to the FTC — and to the courts — that Kroger and Albertsons are willing to go to great lengths to reach an agreement.

• That entails a willingness to divest up to 650 stores and a merger termination date set two years from the announcement.
• So far, the FTC has been willing to listen to Kroger and Albertsons' thinking on the deal, multiple people close to the situation say.
• One source adds that the regulator has so far held off on coming out against the merger.

Reality check: The termination date also signals that Kroger and Albertsons are willing to withstand a lengthy review and court challenge, the source says.

• If the deal ends up before a judge, Kroger and Albertsons will argue that because they offered concessions when they announced the deal, they acted in good faith to negotiate a compromise with the FTC.

The other side: A separate source familiar with the FTC's thinking says that it is not looking at antitrust solely in terms of recent precedence.

Be smart: Even if it does go to court, there is a chance that the FTC still settles with Kroger and Albertsons, the first source notes.

• In court, it's likely to be a "bread-and-butter" argument over market definition, market share nationally and in local markets, and which companies are considered competitors, says Brian Albrecht, chief economist at the International Center for Law & Economics.

The markets where Kroger and Albertsons might divest

Local markets where Kroger and Albertsons have the largest presence are where we will most likely see divestitures, sources familiar with the situation say.

Zoom in: As the graph above illustrates, those markets include the Denver metropolitan area; Portland and Eugene in Oregon; Seattle; Roanoke, Virginia; Anchorage, Alaska; Boise, Idaho; and Southern California.

Of note: Stores in the area around Cincinnati, Ohio, and Louisville, Kentucky are not likely to be sold, says one source, due to lack of Albertsons stores in the area.

Zoom out: Competitors based on precedence will include traditional grocery and hypermarkets, namely Walmart.

• But there's a good argument that wholesale clubs like Costco, which have been excluded in the past, and Amazon, which operates both online and increasingly physical stores, should also be included as rivals, says Albrecht.
• He says that stores located farther away that can now deliver via online-delivery platforms such as Instacart could be added to the list.
• Whether Dollar Stores should be included is debatable, Albrecht says.

By the numbers: The top food retailers by grocery sales include Walmart, which sells $308 billion worth of groceries per year in the U.S.; Kroger, which sells $110 billion; Costco, which sells $91 billion; and Albertsons, which sells $65 billion.

• Amazon and Whole Foods also sell $65 billion in groceries, but that's for all of North America, not just the U.S.
• Behind Amazon is Target, which sells $54 billion, and Ahold Delhaize, which sells $52 billion.
• That's according to data compiled by investment bank Solomon Partners from a combination of publicly available data and the Mercatus Grocery Insights Report.

This story has been updated to note that stores in Cincinnati and Louisville are not likely to be sold.