Suppose a company that has long been in flux and owns a comparatively promising retailing asset decides to spin it off.

Is this a good move for the owners, or a sign of desperation — buying time before something bad happens to the parent company? Of course, the latter is generally the case, as we’ll see when we take a look at Supervalu’s pending spinoff of its retailing subsidiary, Save-A-Lot. We’ll also see what this might mean for other retailers.

Supervalu, based in Minnesota, is a major grocery wholesaler to many independent and chain supermarkets. Save-A-Lot is Supervalu’s wholly owned retailing subsidiary, based in Missouri. It’s a chain of nearly 1,350 hard-discount grocery stores. Most are owned and operated by licensees, although a few hundred are corporately owned.

Revenue production of both Supervalu and Save-A-Lot have been in decline for quite a while now. Additionally, Supervalu is saddled with a huge debt load, much of which dates to its ill-fated acquisition of Albertsons several years ago. Supervalu subsequently sold Albertsons in 2013.

Sales Propositions

Save-A-Lot, despite its revenue declines, is considered to be Supervalu’s crown jewel with potential for growth and increased profitability. It does face some competitive challenges, though, in the form of Aldi, Walmart, Kroger’s Food 4 Less, dollar stores and similar low-price-point food retailers. Save-A-Lot currently produces about a quarter of Supervalu’s annual revenue of some $18 billion.

Nonetheless, Supervalu decided a while back to sell Save-A-Lot with a range of options that have varied over time. First Supervalu has said it would sell all of Save-A-Lot. Then that it would retain 20 percent of its equity, selling the balance on equity markets. Most recently it said it would retain 40 percent of equity, a retention rate that will trigger a taxable dividend event for shareholders.

So the whole spinoff arrangement has some strange dimensions. Why sell a promising asset in the first place? If you do sell, why accept an increasingly lesser percentage of equity that results in the addition of taxable features?

Clearly, Supervalu needs cash badly to satisfy creditors’ requirements, and is mortgaging its future to obtain it. More than that, potential equity purchasers may be skittish about owning too great a portion of Save-A-Lot, driving up Supervalu’s equity retention. Another aspect of the exit is that Supervalu also will attempt to convert many of the corporately owned Save-A-Lot stores to licensee ownerships. This may further contribute to nervousness about the deal. There’s also the matter of an upcoming strategy shift for Save-A-Lot that could weaken its future prospects, as we’ll see soon.

Strategy Shift

The net result is that Supervalu will have to depend more and more on grocery wholesaling to produce revenue flow. That’s a tough assignment, although recently Supervalu did win the business of Marsh Supermarkets, a chain of about 70 stores based in Indiana. Naturally, Supervalu will continue to be Save-A-Lot’s grocery supplier. Interestingly, Marsh’s previous wholesaler was C&S Wholesale Grocers. In the small world department, Supervalu’s newly appointed president and CEO, Mark Gross, used to be C&S’ top executive.

Now that Supervalu plans to retain a substantial interest in Save-A-Lot, it has created a template for the future development of the business. Eric Claus, Save-A-Lot’s newly appointed CEO – who also in the small world department was the top executive at the now defunct A&P chain – is the architect of the strategy. Outlined in a call to securities analysts, Claus introduced a new business model that will move Save-A-Lot from its current hard-discount format toward something like a conventional supermarket chain. Frankly, this is going to be a very difficult and dubious transformation.

Here’s what Claus intends to do to enhance Save-A-Lot’s future prospects, although some of it looks like it could be counter productive:

National brands: Brands are not used widely in the hard-discount business simply because they increase price points. Instead, private label products prevail. Aldi, the most successful hard discounter in the nation, relies almost exclusively on private brands. Claus frankly admits that at Save-A-Lot, high-margin national brand products will be added, low-margin product weeded out. Why is this being done? Perhaps because national brands provide promotional and other allowances; private brands don’t. This will increase manufacturer-provided revenue, but at the expense of requiring higher price points, not what a hard-discounter needs.

Revamped circulars: Plans call for revamping sale circulars, apparently increasing their frequency. One advantage of a hard-discount retailer is that low prices speak for themselves. Moving to more costly ads is problematic. Again, this will increase costs and drive price points upward. Not a good idea.

Private brand increases: In what seems to be a counterintuitive move, the America’s Choice private brand was acquired from the ruins of A&P for use at Save-A-Lot. (Remember Claus’s resume.) To the upside, if the new brand is used to unite the diverse private brand portfolio now in use, efficiencies might be obtained, albeit at a cost. But, private brand unification could just as easily be accomplished by using an existing private brand instead of introducing a new one.

Treasure hunt: This is a time-worn strategy featuring the temporary introduction of product bought on special deal and sold at very low prices in an effort to promote repeat business. Sometimes this works, but it can also lead to customer disappointment as product appears then disappears.

Uber Lessons

What learnings for all retailing forms can we take away from Supervalu’s plans for Save-A-Lot? Two key things.

1. Know your niche: It’s always best for a retailer to know its place in the retailing hierarchy and work to fulfill interested consumers’ expectations. It’s not possible to be everything to everyone. In the case of hard-discount food retailing, the central attraction is low prices and limited assortment. That means many shoppers will buy well-priced product at the discounter and go elsewhere for other products.
   Aldi recognizes that and often locates its stores near a full-line supermarket for its shoppers’ convenience.
   Save-A-Lot’s CEO Claus has said he wants to make Save-A-Lot the place for a full shopping experience. That’s not really possible without abandoning the premise of discounting. This may result in a Save-A-Lot that’s neither a vibrant hard discounter, nor a convincing supermarket.
2. Don’t sell your prime asset: Many retailers experiencing debilitating headwinds try to sell their most profitable assets simply because they are the only ones that have much value. This is almost always a strategy of last resort and is viewed as such by creditors and other involved parties.

Retailers should not unload decent assets unless they are under extreme duress. After all, would Sears bundle its most attractive real estate holdings and spin them off to a REIT? Wait…It did just that.