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Kroger to buy Harris Teeter for $2.5 billion, shares rise

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(Reuters) - Kroger Co <KR.N> said on Tuesday it would buy regional grocer Harris Teeter Supermarkets Inc <HTSI.N> in a $2.5 billion deal, the latest in a string of grocery industry consolidations.

Shares of both companies rose, outpacing gains in the broader market.

The deal, approved by the boards of both companies on Monday night, will boost Kroger's presence in the U.S. southeast. Competitors there include privately held Publix and discounter Wal-Mart Stores Inc <WMT.N>, the largest U.S. food retailer.

Cincinnati-based Kroger, already the largest mainstream U.S. grocer, will also get a bigger presence in the mid-Atlantic region, stores that are slightly more upscale than its typical stores and access to fast-growing markets. Kroger will assume $100 million of Harris Teeter debt.

As the supermarket industry has consolidated, regional chains like Harris Teeter, based in Matthews, North Carolina, have struggled to maintain market share against larger rivals such as Wal-Mart, Costco Wholesale Corp <COST.O> and Whole Foods Market Inc <WFM.O>. Kroger's rivals Supervalu Inc <SVU.N> and Safeway Inc <SWY.N> sold off significant assets recently.

In January, Supervalu Inc <SVU.N> struck a $3.3 billion deal to reduce its debt by selling five of its chains to an investor group led by Cerberus Capital Management LP <CBS.UL>. In June, Safeway agreed to sell its Canadian operations to Empire Co Ltd <EMPa.TO>, which runs Canada's Sobeys chain. [ID:nL2N0EO1VG] In late 2011, Bi-Lo agreed to buy Winn-Dixie Stores for around $560 million to merge two southern regional grocery chains.

Kroger's acquisition of Harris Teeter is the second biggest deal in the U.S. grocery industry this year, and the second-largest acquisition ever for Kroger after its $13.89 billion purchase of Fred Meyer Inc in 1999.

Kroger's offer of $49.38 per share in cash represents a premium of 1.8 percent to Harris Teeter's Monday close. The stock has run up 31 percent since January 18, when the first reports emerged that the company was up for sale.

Harris Teeter shares were up 1.3 percent on the New York Stock Exchange at $49.16, trading slightly below Kroger's offer price. Kroger shares were up 2.2 percent at $36.99 after rising as high as $37.20.

DEAL GIVES KROGER ENTRY INTO WASHINGTON, D.C.

The combined business will operate 2,631 supermarkets in 34 states and the District of Columbia, with over 368,300 employees. Harris Teeter has a non-union workforce, while Kroger largely operates with unionized staff.

Kroger Chief Financial Officer Mike Schlotman said during a conference call that the company is excited about entering markets such as Charlotte, North Carolina and Washington, D.C.

Harris Teeter currently operates 212 supermarkets in North Carolina, Virginia, South Carolina, Maryland, Tennessee, Delaware, Florida, Georgia and the District of Columbia. It reported revenue of about $4.5 billion for 2012.

Harris Teeter has stores in affluent vacation destinations, university communities and markets where populations are growing faster than the national average, Schlotman added. Kroger also hopes to learn from the smaller chain's "click and collect" online shopping system.

Harris Teeter's top management will continue to lead the business out of its North Carolina headquarters. No store closures are expected, though the companies will have to see how the U.S. Federal Trade Commission feels about their overlapping presence in Raleigh, North Carolina; Charlottesville and Hampton Roads, Virginia; and Nashville, Tennessee.

FINANCING WITH DEBT

The 130-year-old Kroger, which operates grocery stores under names including Kroger, Ralphs, Food 4 Less and Fred Meyer and jewelry stores such as Littman Jewelers, said it would finance the deal with debt while maintaining its dividend and share buyback program.

Kroger said it expected the acquisition to add 6 to 9 cents to its earnings per share in the first full year after close, excluding transition and transaction expenses.

Kroger plans to refinance bonds that matured earlier this year and later on issue debt at different maturities to finance the merger, Schlotman said. Kroger has a bridge loan commitment in place to provide the liquidity to fund the deal, he said.

Under certain circumstances, if Kroger were to walk away from the deal it would have to pay a breakup fee of $200 million to Harris Teeter. Harris Teeter could be required to pay a breakup fee of $75 million to Kroger.

Kroger began in 1883, when Barney Kroger invested his life savings of $372 to open a grocery store in downtown Cincinnati. Harris Teeter was formed in 1960 in a merger between groceries started in the 1930s, one by W.T. Harris in Charlotte, North Carolina and one by Willis L. Teeter and his brother, Paul in Mooresville, North Carolina.

Those two companies pooled buying efforts and storage facilities in 1958 and merged in 1960. Harris Teeter, like Kroger, has used acquisitions to grow. Its biggest shareholder is private equity firm Neuberger Berman, with an 11.7 percent stake, according to Thomson Reuters data.

BofA Merrill Lynch is Kroger's financial adviser, while Arnold & Porter LLP is the legal adviser. J.P. Morgan Securities is the financial adviser to Harris Teeter and McGuireWoods is the legal adviser.

(Reporting by Siddharth Cavale in Bangalore and Jessica Wohl in Chicago; Additional reporting by Lisa Baertlein, Patturaja Murugaboopathy and Olivia Oran; Editing by Saumyadeb Chakrabarty and Ted Kerr)

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