Albertsons gazes into the future and envisions organic bananas

Every grocery chain seeking to thrive in the modern world must provide organic kale alongside the Hot Pockets and Fritos.

That point was driven home by merger talks in recent weeks between Albertsons Cos., the second-largest U.S. supermarket chain, and Sprouts Farmers Market Inc., whose 250-odd stores are known for fresh produce and organic offerings. The preliminary discussions may not lead to a deal, according to people with knowledge of the matter.

For Albertsons, which may be beefing up ahead of an initial public offering, taking Sprouts private and adding it to the portfolio would mean a deeper push into foods that appeal to a growing segment of shoppers.

Longtime staples like cereal and canned soup have struggled as health-conscious consumers pursue less-processed options. That’s pushed organics into the mainstream, with the likes of Wal-Mart Stores and Kroger expanding into a market long dominated by Whole Foods Market Inc. and other niche stores. Albertsons seems ready to jump deeper into the lettuce patch.

“They’re looking to add some sex appeal,” said Roger Davidson, an industry consultant. “A lot of their stores tend to be boring, standard supermarkets. If they don’t do something, they’re going to continue to struggle.”

Fresh produce is a draw to brick-and-mortar stores, even as online ordering has devoured swathes of the retail landscape. With Amazon intent on pushing into the business, despite its struggles with delivering fresh food, grocers are increasingly focused on the quality of fruits and vegetables.

An Albertsons takeover of Sprouts could help persuade investors that there’s demand for shares of a giant U.S. grocery chain this year, Davidson said. The company, backed by Cerberus Capital Management, operates about 2,300 U.S. stores, including the Shaw’s, Safeway and Acme chains. The company almost went public in 2015 before pulling the IPO because of turbulence in the stock market. The offering has been on hold almost 18 months.

Cerberus, which manages more than $30 billion in private equity holdings, distressed debt, credit assets and real estate, first invested in Albertsons in 2006 and then bought stores in 2013 from Supervalu. Albertsons more than doubled in size in 2014 when it acquired Safeway Inc. in a deal valued at about $9.2 billion. The company has a presence on the East Coast, but its stores are mainly west of the Mississippi River. Sprouts has more than half of its outlets in California and Texas, two of the most competitive U.S. markets.

Sprouts is “one of the few high-quality growth platforms remaining in grocery and a concept we believe will continue to take market share,” Chris Mandeville, an analyst at Jefferies, said in a research note.

Winnie Lerner, a spokeswoman for Albertsons, declined to comment.

With the IPO in limbo, Albertsons has struggled to find growth. Food deflation has battered the industry over the past year, weighing down sales and prompting price wars that have eroded profit margins. Kroger, the largest U.S. grocery chain, in the fourth quarter posted negative same-store sales for the first time in more than a decade. Its shares have plunged 15 percent this year.

Albertsons faces pressure from both ends. It needs organics to appeal to more affluent customers concerned with health. But its current stores aren’t quite cheap enough to draw low-end customers who shop at dollar-store chains or Wal-Mart. The price war has gotten even more intense with the German chain Aldi expanding rapidly in the U.S., not to mention the planned arrival of European competitor Lidl this year.

Organic food isn’t a panacea. Whole Foods has struggled because of the perception that it’s overpriced. Same-store sales have dropped for six straight quarters, pulled down by conventional retailers encroaching on its turf with lower prices.

Sprouts has taken a hit from food deflation as well, but posted a 2.7 percent same-store sales gain in 2016. And while Albertsons has experimented with smaller outlets heavy on produce, Sprouts would provide a strong foothold in a fast-growing market, said Jim Hertel, a grocery analyst at Willard Bishop, a consumer research firm in Chicago.

“They’re looking for growth, and they don’t see it as much with the traditional supermarket,” he said. “The growth is happening with peripheral formats – that’s where the consumer is.”