M&A and the Challenge of Modernization

Richard L. Amador
Senior Vice President and Market Manager, Convenience & Gas Banking

Michael Quinn
Senior Vice President, Convenience & Gas Banking

This article first appeared in Convenience Store News on October 16, 2018.

Mergers and acquisitions in the convenience and gas (C&G) sector have continued their long run in 2018—and it’s not only giant companies like 7-Eleven Inc. or Alimentation Couche-Tard Inc. that are building their portfolios and expanding their footprints.

According to the latest Convenience Store News Top 100 report, six of the seven chains that jumped 10 or more spots in 2018 operated fewer than 125 convenience stores. One of them, Enmarket Inc., moved an astonishing 54 positions, rising from 108th place in 2017 to 54th in 2018.

Middle-market retailers are taking part in the consolidation that slowly, but certainly, is transforming the industry. Multiple factors are driving acquisitions by middle-market C&G retailers.

In many cases, retailers are using an acquisition to eliminate a competitor or fill in market gaps. Other retailers are following the adage that the best defense is a good offense and bulking up, positioning themselves to remain competitive against better-capitalized chains.

For the moment, relatively low interest rates, combined with lower corporate tax rates, are providing the liquidity sustaining M&A activity. There are, of course, two sides to every deal and quite often, the factors prompting retailers to buy overlap with those motivating them to sell.

Generational succession issues are playing a role, as long-time owners—especially baby boomers—are seeking to monetize their investment. With rising multiples, supported by relatively low interest rates, they are taking advantage of the moment, especially as incremental rate increases could start closing this window over the next year.

Rethinking the Convenience Store

Another issue that weighs on both sides is the capital expenditure required to remain competitive in the C&G industry. Retailers are remodeling stores to appeal to millennials and repositioning them as destinations, rather than as a place for consumers to grab snacks or sodas as they gas up.

In suburban areas, some store locations are being positioned to compete with more upscale, appealing quick-service restaurants like Chipotle and Panera Bread. Others are installing foodservice kiosks, emphasizing made-to-order sandwiches, fresh fruits and other healthy items.

The rationale for these changes is straightforward: Although the path forward for electric vehicles and higher fuel-efficiency standards is uncertain, C&G operators are reducing their dependence on gasoline alone to bring customers into the store. In the meantime, they hope that more compelling in-store offerings will spur gas sales.

C&G retailers also are making significant investments in technology to improve sales and streamline operations. While super high-tech-style stores, like Amazon Go with its virtual carts and frictionless checkout, remain a distant goal, convenience stores today are focusing on more accessible implementations of technology.

These include making better use of sales datasets to understand customer preferences on the local level; partnering with mobile app developers like GetUpside, which offers users personalized promotions in participating stores; and adopting cloud-based services to more efficiently manage supply chains.

These physical and virtual investments require capital and expertise, especially for smaller C&G businesses. At the same time, larger retailers need scale to maximize the efficiency of their expenditures. The answer to both dilemmas is M&A.

Finding the Right Lender

Operators always have the option of paying cash for an acquisition, but that is probably the least efficient way to fund it. A more attractive alternative is senior debt funding from a financial institution with a dedicated C&G team.

What do these banks look for? Primarily, they will scrutinize the buyer’s balance sheet, the past performance of the seller’s operations, and the buyer’s plan to integrate them and realize additional value. In most cases, buyers with high debt loads and weak cash flow are generally ruled out.

Equally important is an assessment of the management team. Financial projections remain an abstract exercise without a management team capable of executing them. Lenders will prefer an experienced team with a track record of successful M&A. They will want to understand how their M&A strategy will advance their ability to make the most of emerging opportunities.

Retailers have options. Many banks offer M&A financing, but not all banks serve the C&G market. C&G operators should choose lenders that have a successful track record in financing M&A for the industry and understand the dynamics. Due to this insight, lenders specializing in C&G quite often end up pursuing deals that general practitioners might avoid. Their experience enables them to take a more holistic, dispassionate view of risk and structure transactions in ways that mitigate them.

While an acquisition might temporarily relieve the pressure on a company to add stores, there is no sign that the forces driving C&G industry consolidation will weaken any time soon. In many cases, the first thing retailers do after completing an acquisition is assess new opportunities.

In these circumstances, selecting a lender with a relationship-based business model is not only helpful, but also strategic. Not only will this lender relationship enable C&G operators to pivot more quickly to their next acquisition, but it can also serve as a source of industry expertise and long-term guidance to ensure their M&A strategy stays on track.