Rona investors turn up the heat

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A handful of major Bay Street investment firms are backing a $1.8-billion offer for hardware chain Rona Inc. by U.S. rival Lowe's Cos. Inc., setting the stage for a high stakes battle between powerful shareholder interests and the Quebec government.

The largest shareholder in that group, Invesco Trimark Ltd., came out publicly in favour of Lowe's $14.50-per-share bid Wednesday, with one of the firm's veteran fund managers suggesting he has little faith in Rona management to turn the struggling company around.

"We are extremely disappointed in the management team [at Rona], and how they have run the company," Invesco's Ian Hardacre told The Globe and Mail, adding that the existing management group has spent poorly on new stores and buying assets. "There has been an extraordinary misallocation of capital over the last five years … The return on capital has decreased every single year." His firm owns about 12 per cent of Rona and is the second-largest shareholder, according to Bloomberg data.

It is that sense of discontent that Lowe's, a $30-billion (U.S.) retailing giant based in Mooresville, N.C., is hoping to capitalize on as it seeks to overcome a wave of political concern from Quebec, where Rona has its head office and nearly 300 of its 1,417 stores. Quebec Finance Minister Raymond Bachand described Rona as "strategic interest" and said he opposed an acquisition by Lowe's in the belief it would be detrimental to Rona's 15,000 employees in the province and its suppliers.

According to people familiar with the discussions, Lowe's executives began soliciting shareholder support in recent weeks after its year-long quest to acquire Rona in a negotiated deal began to falter. Rona rejected Lowe's most recent offer last week and disclosed that on Tuesday morning.

Sources said that in addition to Invesco, two other big-name firms support Lowe's takeover efforts. Sources said the U.S. retailer is trying to marshal additional shareholder support to help push the Quebec firm back to the bargaining table.

"Why on earth shouldn't shareholders take the initiative and support an offer to take control of a company that has been underperforming for years?" said Robert Tattersall, a former chief investment officer of Mackenzie Financial, who owns Rona shares in his personal portfolio.

"I'm slack-jawed in disbelief that a second-rate hardware chain is seen as being of national significance," Mr. Tattersall said.

Before Tuesday's revelation of Lowe's rejected bid, Rona shares had fallen more than 50 per cent since 2007.

It is relatively rare to see members of Canada's investment management community publicly support a hostile acquirer for a domestic company. It is rarer still to see them back a transaction that has inflamed political and nationalistic opposition. "Funds used to be very reluctant to step on anyone's toes because the business community is so small," said John Ewing, co-head of Toronto fund manager Ewing Morris Investment Partners Ltd. "Things have changed."

Driving the shift is a poor investment climate that has seen most funds deliver disappointing returns to their clients. The poor results have prompted some funds to take a more activist stand in recent years to shake up such lagging companies as Canadian Pacific Railway Ltd. and Maple Leaf Foods Inc.

At Rona, investors have been frustrated with an expansion strategy that has not worked well in recent years. The retailer has struggled since 2006 despite significant capital investment and "yeoman efforts by management" in a crowded home-improvement field, said Keith Howlett, retail analyst at Desjardins Securities Inc.

Rona's profit dropped by 54 per cent between 2006 and 2011 even while Lowe's, which entered Canada in late 2007, appears to have incurred substantial losses in its first five years in this country, he said, citing its financial filings.

Part of that decline reflects a difficult environment for retailers after the recession. But Rona has also grappled with its own problems as a result of multiple acquisitions it has made over the past several years, industry insiders said. It has had challenges folding the different businesses across Canada into its own operations, said Paul Davies, a Toronto-based contractor and former executive at Lowe's Canada.

"Lowe's would be acquiring a company that is still a series of parts that Rona has not integrated well," said Mr. Davies, a supply chain specialist.

Rona executives have worked on integrating its acquisitions into its operations. In May, chief financial officer Dominique Boies told analysts that the retailer has focused on that at TruServ, which it acquired in 2010, to "get even more efficiency out of it ... So if we get the sales, which are positive, on that front, and then we can improve efficiency, it will be even better than we thought initially."

Lowe's takeover of Rona could create value for shareholders of both companies by generating administrative, distribution and marketing savings to improve margins, Desjardins' Mr. Howlett said. He estimated there's an 80-per-cent probability of a takeover at $18 a share, compared with Lowe's current $14.50 proposal.

Doug Robinson, head of international operations for Lowe's, suggested his company would be eager to restart negotiations with Rona.

"First and foremost, we want to craft something that meets the needs of everyone, not just come in and say: 'Here's the proposal, take it or leave it' " he said.

"If the concern is [the offer's] value, just as if the concern is some other issue, we will take it under advisement. I'm certainly not ready to stand here today … and tell you I have any sense of what [Rona's] concern might be because, frankly, no one has shared it with us."

David Strasser, an analyst at Janney Capital Markets, said he's worried that Lowe's "is searching for growth at the expense of returns." But Mr. Robinson countered that his international division has a separate team that can handle the business.