One retailer under pressure from Amazon.com plus a grocery store under pressure from Amazon.com does not equal a solution.
Shares of Target Corp. and Kroger Co. jumped Friday morning after newsletter Fast Company reported that the two retailers were in talks to merge.
It would be a mammoth deal, creating a company with a combined market value in excess of $50 billion and annual revenue of almost $200 billion should it occur.
CNBC, Supermarket News and Reuters, citing sources close to the situation, later said there was no truth to the merger talks. The two companies, however, have been discussing forming a partnership involving Target-owned delivery service Shipt Inc., sources said.
Target and Kroger held onto some of their stock gains for much of the morning, suggesting there may be something to a combination that’s attractive to investors on both sides.
Each company has something the other needs. Kroger has been lacking in formulating a plan for adapting to the e-commerce grocery push heralded by Amazon.com Inc.'s takeover of Whole Foods Market Inc. As for Target, it's been making strides in digital but needs a more differentiated and significant grocery operation.
That Target sees groceries as a clear battleground was made clear by its decision to buy Shipt last year. Combined, Target and Kroger would have significant scale in groceries and household goods. But scale doesn't mean much unless you do something worthwhile with it.
Target's grocery shortcomings aren't new. It's had years to fix this on its own, but still seems to be grasping for a strategy, Efforts to improve its supply chain and increase organic offerings were smart, but that alone isn't going to defend Target's grocery business from encroachments by German giant Lidl, discounter Aldi and Amazon. Target's ability to capitalize on the Shipt acquisition and seize a large share of the grocery-delivery market remains to be seen.
While it's puzzling Target hasn't made more progress in groceries given that CEO Brian Cornell was previously the head of PepsiCo Inc.'s food business before joining the retailer in 2014. He wouldn't be buying new ideas with an acquisition of Kroger; he would be buying a bigger grocery business and thousands of brick-and-mortar locations. Attempting a deal of this magnitude also risks leaving the combined company saddled with debt and crippling its ability to make necessary investments in innovation.
Both Target and Kroger have been showing signs of finding their footing and growing revenue on their own.
Should Target offer a 30 percent premium to Kroger's unaffected price, it would be looking at a $42 billion transaction, including the grocer's more than $15 billion in net debt. There are ways to make the math work on a takeover, but still--ouch.
A juicy premium would be ideal for Kroger investors tired of seeing the stock rocked by disappointing earnings and Amazon fears. But barring some questionable decision-making at Target, Kroger would do better to focus on finding an e-commerce deal akin to Walmart Inc.'s acquisition of Jet.com to bring on board more digital expertise.