Why Franchise Group wants to buy Kohl’s and what could happen next
Shoppers enter a Kohl’s store in Peoria, Illinois.
Daniel Acker | Bloomberg | Getty Images
A little-known corporate conglomerate, including The Vitamin Shoppe, Pet Supplies Plus, and a home furnishing chain called Buddy’s, is suddenly making headlines in the retail industry.
Franchise Group, a publicly traded company with a market capitalization of approximately $1.6 billion, has entered into exclusive sales talks with Kohl’s. He offered an offer of $60 per share to acquire the retailer at a valuation of around $8 billion. Franchise Group and Kohl’s are within a three-week window during which the two companies can finalize all due diligence and final financing agreements.
Since then, questions have been swirling about what all of this will mean for Kohl’s, should a deal be struck: what will happen to Sephora’s beauty stores within Kohl’s or the retailer’s comeback partnership with Amazon? Will Kohl’s CEO Michelle Gass stay with the company? Are store closures inevitable?
Plus, why would Franchise Group want to own Kohl’s in the first place, when retailers, including Kohl’s, are dealing with inventory issues and inflation? Just weeks ago, Kohl’s cut its full-year financial forecast as more Americans forgo discretionary spending. Meanwhile, investors are grappling with Federal Reserve rate hikes and the potential for a near-term recession.
The deal is still ongoing, so these questions don’t have firm answers at this point. Instead, analysts and pundits point to Franchise Group’s track record and recent acquisitions to get a better idea of what Kohl’s future might hold.
Spokespersons for Franchise Group, Sephora and Amazon did not immediately respond to requests for comment on this story. Kohl’s declined to comment.
What Franchise Group wants
“What Franchise Group does is look for good businesses and strong, well-known brands with good audiences,” said Michael Baker, senior research analyst at DA Davidson.
“And then they have a different strategy on how to capitalize or monetize those acquisitions,” he added. “Sometimes it turns them from company-owned stores to franchise stores.”
Franchise Group was founded in 2019 through a $138 million merger between Liberty Tax Service and Buddy’s, according to the company’s website.
Under President and CEO Brian Kahn, who has a background in private equity, Franchise Group later took over Sears’ exit business; vitamin store; American Freight, which sells furniture, mattresses and appliances; Pet Supplies Plus; forest learning; and Badcock, a furniture chain that caters to low-income households.
A Vitamin Shoppe store in New York.
Scott Mlyn | CNBC
Franchise Group is primarily in the business of owning franchises. But the consensus is that Kahn is unlikely to employ the same strategy at Kohl’s, which has more than 1,100 physical stores in 49 states.
“The strategy would be to work with the current management team to manage [Kohl’s] better, or replace the steering if necessary,” Baker said. “They did it with some of their assets. … Kahn is used to doing good business.”
Baker used Badcock’s most recent acquisition by Franchise Group, a deal valued at around $580 million, as an example. The company has since entered into two different sale agreements, one for Badcock’s retail stores and the other for its distribution centers, headquarters and additional real estate, for a total of approximately $265 million. . Rob Burnette remains in his role as President and CEO of Badcock.
In an earnings call in early May, Franchise Group’s Kahn told analysts — without directly naming Kohl’s — what he looks for in any deal.
“Management, for us, is always key,” he said. “Whether we do very small transactions or very large transactions.”
“We have a lot of belief in the brands we operate now,” Kahn also said on the call.
He added that all of Franchise Group’s past acquisitions are generating plenty of cash to support the company’s dividend and enable new M&A activity, and any transactions he is considering in the future should also adapt to this mould.
A real estate game
Earlier this year, Kohl said a $64 per share offer from Acacia Research, backed by Starboard, was too low. In late May, the retailer’s stock traded at $34.64 and hasn’t reached $64.38 since late January. Kohl’s shares closed Wednesday at $45.76.
Franchise Group likely views its $60 per share offer as stealing, particularly if the company can finance most of the deal through real estate.
Franchise Group said in a press release earlier this week that it plans to contribute approximately $1 billion in capital to Kohl’s transaction, which is expected to be debt-financed rather than equity-financed. Apollo is in talks to potentially be Franchise Group’s term loan provider, according to a person familiar with the matter. Apollo declined to comment.
Meanwhile, the majority of this transaction is expected to be financed by real estate. CNBC previously reported that Franchise Group was working with Oak Street Real Estate Capital on a so-called sale-leaseback transaction. Oak Street declined to comment.
If it goes that way, Franchise Group would receive an influx of capital from Oak Street, and Kohl’s real estate would no longer appear on its balance sheet. Instead, he would have rent payments and lease obligations.
As of Jan. 29, Kohl’s owned 410 locations, leased another 517 and operated land leases on 238 of its stores. All his real estate owned was valued at just over $8 billion at the time, according to an annual filing.
“If Franchise Group can pull the $7 billion or $8 billion out of the real estate, they’re only paying about $1 billion for the assets. So it’s pretty cheap,” said senior research analyst Susan Anderson. at B. Riley Securities. “And I think [Kahn] wouldn’t do the trick unless he already had the sale lined up and the deals already in place.”
“A playbook in place”
But some retail pundits are pouring cold water on the plan, saying such a large property sale could end up putting Kohl’s in a much weaker financial position.
“This is completely unnecessary and will only serve to weaken the business and restrict the investment needed to revitalize the business,” said Neil Saunders, Managing Director of GlobalData Retail. “Other retail takeovers that have followed this pattern have never ended well for the takeover portion.”
To be sure, some sale-leaseback deals, and especially those on a smaller scale, have been considered successful.
In 2020, Big Lots reached an agreement with Oak Street to raise $725 million by selling four company-owned distribution centers and re-letting them. It gave the big-box retailer extra cash at the start of the Covid-19 pandemic.
Also in 2020, Bed Bath & Beyond entered into a sale-leaseback transaction with Oak Street, in which it sold approximately 2.1 million square feet of commercial real estate and raised $250 million in proceeds. Bed Bath CEO Mark Tritton touted the deal at the time as a move to raise capital to reinvest in the business.
According to Stephens analyst Vincent Caintic, Franchise Group could see Kohl’s as a way to create more efficiency on the backend, among all of its other businesses. Gathering resources such as fulfillment centers and shipping providers could be a smart move, he said.
“They have furniture stores, a rent-to-own store, and a lot of them deal in consumer goods,” Caintic said. “Maybe they can get some additional pricing power by becoming a bigger player.”
At the same time, he said, it would be Franchise Group’s biggest acquisition to date, which could come with a steeper learning curve.
All Franchise Group retailers combined had sales of $3.3 billion in calendar year 2021. Kohl’s total sales exceeded $19.4 billion in the 12-month period ended January 29.
“Franchise Group has a history of buying businesses, raising them, and then releasing capital very quickly to pay off that debt,” Caintic said. “They have a playbook in place.”
But, he added, the companies Franchise bought before suing Kohl’s were much smaller — “And those were started when it was very cheap to get into debt.”