Sainsbury's would become extremely vulnerable in the wake of any move to sell off its freehold property estate, a leading corporate finance adviser has warned.
As a £10.6bn preliminary bid was tabled by the Qatari royal family-backed Delta Two investment fund, research from McQueen revealed Sainsbury's profits were already being squeezed harder than its major competitors' because of its relatively low level of freehold ownership.
Sainsbury's, with a turnover of £16.9bn, is thought to already be paying more rent than any other grocer and substantially more than the other big three in terms of proportion of sales and pre-rent profit.
Last year, Sainsbury's paid £287m in rent - almost 25% of its pre-rent profit - while Tesco paid £233.6m (8%). Of the big four, Morrisons paid the least rent at £27.1m, 3.9% of pre-rent profit, and Asda paid £53.2m (5.6%).
"We have not seen [Delta Two's] proposed structure but increasing the level of rent paid through a sale and leaseback, and the amount of interest paid to banks from financing the deal, would mean that Sainsbury's would be in a much weaker position than its major competitors," said Clive Baker, MD of McQueen. "It would have less profit to invest in growing the business, it would be much more vulnerable to trading pressure and it would be locking in increases in its future cost base."
Delta Two confirmed on Thursday it was willing to put £4.6bn of equity into the £10.6bn takeover, raising £6bn in debt to fund the deal, believed to be provided by Credit Suisse, Dresdner Kleinwort Wasserstein and ABN Amro. Delta Two said it would also raise a further £3.5bn of financing to cover new store expansion, further store refurbishments, and the development of Sainsbury's non-food offering.
Three Delta, the strategic investment adviser to Delta Two, said it was focused on strategic, long-term investments and was supportive of Sainsbury's operational strategy.
However, despite the Sainsbury's board reiterating at its annual general meeting last week its opposition to selling off its freehold property estate, reports also suggest that Delta Two plans to hive Sainsbury's £8.6bn property portfolio into a separate company, which could saddle stores with incremental rents.
The City believes the value in Sainsbury's property is a major factor in the deal. "There's got to be something behind the deal, and property has got to be a key component," said Man Securities analyst Christopher Gower.
"The only way to justify this is to split the property out in some way."
Sainsbury's could struggle to keep up with the market as it would lose flexibility and be subjected to rising rent rates that would bite into profit margins, he added. "In the short term, it would be bad news, and Tesco and Asda would have a field day. They would be looking to steal some market share."
Another analyst added: "They are only using £5bn of their own money, which means the rest has to come from elsewhere.
"They won't want to borrow on high interest rates, so some sort of joint venture or opco-proco deal will have to be done to secure lending against property."