My thoughts on the Alimentation Couche-Tard 7-Eleven takeover offer
Have they lost their mind or are they geniuses?
Earlier this week, one of my portfolio companies, Alimentation Couche-Tard $ATD.TO (3.5% position) announced its intentions for a blockbuster acquisition. The Canadian owner and operator of more than 15,000 convenience stores offered a friendly takeover to Seven & I Holdings, owner of 7-Eleven. Both companies confirmed this on the same day. If the deal goes through, it would be the largest M&A deal of a foreign company in Japan's history. Let’s dive into it! This full article will be free, but please consider my premium subscription for more posts like this.
Japan is opening up
Historically, Japan has been trying to keep to itself. In the ATD autobiography of founder Bouchard, he stated in 2005, when he first approached Seven & I with an offer:
I would have been interested in buying 7-Eleven, but the Japanese aren’t sellers. (Page 205).
However, Japan acknowledges that its timid capital markets are one of the many problems the country is facing. In August 2023, the Japanese government released new guidelines aimed at promoting M&A and cracking down on defense tactics, stressing firms' consideration of credible takeover offers. Similarly, the Tokyo Stock Exchange urged companies to buy back their undervalued shares.
This changes the situation and finally allows Alain Bouchard to make a serious bid for 7-Eleven. Furthermore, in 2020, S&I acquired Speedway’s 3,900 US gas station network for $21 billion, snatching the deal from Couche-Tard.
Seven & I Holdings overview
Seven & I Holdings is primarily known for its Seven-Eleven convenience store chain, the largest chain globally with over 85,800 stores. Unlike Couche-Tard, S&I is focused on a franchise model (ATD also has franchisees, but it’s not the focus), especially in Asia (a focus area of ATD for expansion). The company only owns and operates a part of those stores itself. Below, we can see that S&I has five segments, but really Couche-Tard will only be interested in the CVS segments. Especially the US segment, where they are the largest player with over 8,000 stores, including the Speedway network.
S&I has been trying to find itself for a while. The company is divesting and acquiring new companies to become a world-class retailer focused on its food. Food accounts for 24% of sales, compared to just 12% for Couche-Tard (they want to improve in this lucrative segment).
We can see that Couche-Tard has grown much faster and more profitable over the last 12 years and massively outperformed S&I holdings. Growth, of course, was lumpy for both due to their acquisitive nature. S&I is struggling; shares have been flat since 2013, the perfect target for a Couche-Tard takeover.
What could a deal look like?
This deal would be massive! ATD currently has an enterprise value of $68 billion (all in USD) versus $56 billion for S&I. How would this deal be financed?
In its early days, Couche-Tard did some wildly levered deals. However, that was at a much smaller scale. With the 2004 acquisition of CirlceK, the company transformed itself into its current form's early stages. The deal was massive at the time and took leverage up to 4.18x EBITDA, followed by a rapid delevering. Leverage bottomed in 2021 at 1.32x before a spree of acquisitions returned it to the target of 2.25x. Right now, we are at 2.3x EBITDA. Let’s assume they can lever up to 4x at an EBITDA of $5 billion. This would raise $13.5 billion on top of current cash of $1.8 billion. A far shot from a market cap of $35 billion (this does not include a premium paid yet). Couche Tard would also need to take on the $15 billion in net debt on S&I’s balance sheet. The company has used equity to finance deals in the past, and this time, we’d certainly need to see significant dilution.
S&I currently generates $7 billion in EBITDA, and I’ve heard estimates of around $2.2 billion in synergies for Couche-Tard upon business integration. This would almost triple EBITDA while doubling debt and diluting by >20%, most likely. Is this a realistic deal? I am not sure. The deal also has several hurdles:
The deal committee must agree on the deal (if they don’t, then ATD can attempt a hostile takeover)
The regulators in Japan and the USA (and others as well) must agree on such a massive deal impacting millions of customers.
Financing must be resolved.
I believe that regulation and financing might be the biggest hurdles. However, Couche-Tard could use the low Japanese interest rates to fund much of the debt. I could see a likely scenario where ATD agrees to acquire part of the network, it is unlikely that they’ll get green light to grow from 4% to 12% of market share in the US in one transaction. Most likely, they’ll aim for Speedway after they failed to seal the deal in 2020 and other locations. If the deal goes through, ATD will go on a divestment spree, spinning or selling off non-core segments like the financial services and superstore operations. This could be their magnum opus to become the undisputed leader in the CVS space (with all the regulatory hurdles that come with it). Regardless, this deal won’t be a quick one. Approval and negotiations will most likely drag on for at least a year, I’d expect.
Conclusion
At first, I was shocked by the size of the deal, and I thought Couche-Tard had gone mad! Then I remembered reading the autobiography of founder Bouchard and how ATD has done similar deals (at least if we compare market cap at the time of the deal) in the past, all with great success. Couche-Tard has the rare ability to actually make synergies work, strip excessive costs away and make the place run better in its decentralized way. However, this deal adds a whole new level to the risk profile of ATD shares: There is a massive integration risk, and they would most likely divest a lot of the pet projects, dragging S&I results down. That’s a lot of work, especially amidst a CEO transition.
Furthermore, 7-Eleven is much more biased towards franchising than ATD. Couche-Tard is still governed by the founders, with a lot of skin in the game. They wouldn’t propose a deal like this without considering it thoroughly and expecting an asymmetric risk/reward profile. Couche-Tard are sharks, and if they think that they are ready to pounce at their prey, then I’ll give them the benefit of the doubt. If the deal moves along they’ll most likely stop their share buybacks to persue financing the deal and then delevering afterwards. I’ll keep holding my shares and see where this leads us. Meanwhile, the company closed a small US acquisition, which went largely unnoticed, on the same day for 270 new locations. The wheel will keep on turning, with or without 7-Eleven.
Sometimes there is a fine line between genius and insanity!