School of Business

Queens University

at Kingston

LOBLAW COMPANIES ARRANGES TO ACQUIRE SHOPPERS DRUG MART

The shares of Loblaw and Shoppers Drug Mart were both long-time holdings in the Canadian
equity portfolios managed by Hercules Capital Management for its Canadian institutional clients
primarily pension and endowment ftmds. So when Loblaw, Canadas largest grocer, announced
prior to the market opening on Monday, July 15", 2013 that it had arranged to acquire 100% of
Shoppers Drug Mart, Canadas largest pharmacy chain, through a friendly amalgamation valued at
$12.4 billion, Cam Williams, head of Hercules Canadian Equity Team, knew that he and his
colleagues were in for severaldays of intensive analysis. Hercules Senior Investment Committee the nal arbiter of major portfolio changes at the rm would expect Cam and his team to develop
recommendations about what Hercules should do with its Shoppers and Loblaw holdings. The
proposed merger, as Williams was well aware, was a response to the mounting competition from
giant discount retailers such as Walmart and Target with their growing, low-cost, grocery offerings.
This competitive threat had already prompted Sobeys, Canadas second largest grocery chain, to
purchase the Safeway chain of 213 grocery stores in Western Canada a month earlier for $5.8 billion
in cash, in a deal that was expected to realize $200 million of annual cost synergies within 3 years.
While Loblaw was ofcially offering $61.54 in cash or 1.29417 Loblaw common shares (plus
$0.01 in cash) for each of Shoppers common shares, there were maximum limits on both the number
of Shoppers shares that could be exchanged for cash and, likewise, a maximum number of shares that
could be exchanged for Loblaw shares. For large institutional holders like Hercules, these limitations
meant that the offer for each Shoppers share was effectively $33.18 in cash plus 0.5965 of a Loblaw
common share. Using the closing price of Loblaws shares on Friday, July 12", the offer was worth
$61.54 per Shoppers share a 27.1% premium to what Shoppers shares had closed at on Friday.
As the news broke and the Toronto Stock Exchange opened on Monday moming, the share
prices of both Shoppers and Loblaw increased much to the surprise of Williams and other Bay
Street analysts who expected the price of the shares of Loblaw, the bidding rm in the deal, to drop
at least marginally, in line with the historical experience of most aggressor rms in takeover bids.
Instead, while Shoppers shares soared 27% to $61.50 at the open (compared with their Friday close
of $48.40), the price of Loblaw shares opened at $50.74, an increase of 6.7% from their Friday close
of $47.55. By the close on Monday, July 16, a massiv
.6 million Shoppers shares had traded
hands, and the price settled up 24.2% on the day at $a)\.:lJ2$For their part, 11.9 million Loblaw shares
.2 '

This case was prepared by Dr. William T. Cannon, Distinguished Faculty Fellow of Finance at the
Queens University School of Business, as a basis for class discussion rather than to illustrate either
effective or ineffective handling of an administrative situation.
Copyright 2013 by Dr. William T. Cannon, Queens School of Business, Kingston, Canada.

-2traded, with the $50.13 closing price still representing a gain of 5.4%. At Fridays close, the market
values of the share capitalizations of Loblaw and Shoppers had been $13.45 billion and $9.68 billion,
respectively. By Mondays close, they had swollen, respectively, to $14.18 and $12.02 billion. In
other words, the announcement of the merger had created $3.07 billion in additional market value.

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It would be up to Williams and his Canadian Equity Team members to assess whether the
potential synergies and other valuation effects of the proposed merger were sufcient to justify such
enthusiastic price and market value reactions. Depending on the results of their analyses, Williams
could recommend - on behalf of his rms clients that Hercules: (a) maintain its Loblaw and
Shoppers holdings if they felt that the market had initially under-appreciated the value creation that
would eventually result from the proposed merger; (b) sell some or all of its Loblaw positions into
the current market while accepting Loblaws offer for all its Shoppers holdings in contemplation of
getting Loblaw shares and cash on the closing of the merger some months in the future if his team
felt that Loblaws current share price fully reected the value-creation potential of the merger; or (c)
sell all its Shoppers shares into the market in the near term along with some or all its Loblaw
holdings, with its remaining commitment to Loblaw shares contingent on the condence of his
teams assessment about Loblaws post-merger valuation. In the third case, which would reect a
view that investors were likely over-estimating the value creation potential of the proposed merger,
Williams imagined that his team would recommend using at least some of the proceeds from selling
Shoppers to boost Hercules positions in the shares of Metro Inc. and Empire Company (the parent
of the Sobeys grocery chain) in order to re-establish the nns grocery-industry target weighting.
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The richness of Loblaws offer in combination with the non-solicitation provisions and the
$3 00 million break fee that Loblaw had required Shoppers to agree to in their plan of arrangement
meant that Williams did not expect a competing takeover bid for Shoppers to emerge. (The deals
richness was confirmed by Bloomberg News later on the Monday, when the agency reported its
assessment that Loblaw was paying about 10.29 times EBITDA for Shoppers, compared with a
median multiple of about 6.15 times on similar deals.) Therefore, there would be no point in holding
his clients Shoppers shares until the deal closed if he was satised with the current appreciation in
Shoppers price but was uncertain about the longer-term prospects of the merged rm. Nor was
Williams expecting to recommend a near-term increase in his rms Loblaw and Shoppers holdings
even if his team felt that Loblaws share price would rise further as the deal approached its closing
date because the resultant post-merger Loblaw holdings (that is, Hercules initial positions plus the
additional shares acquired through tendering its Shoppers shares) would exceed the maximum singleholding that Hercules risk-control parameters would permit in its client accounts.

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After reading Loblaws press release (provided in abridged form in Appendix A), Williams and
his colleagues tuned in to the conference call and webcast that the top brass of Loblaw and Shoppers
had held for analysts and investors at 8:00 am on the Monday morning. In addition to what he had
gleaned from the press release, during the well-scripted call and webcast (with accompanying slides)
Williams had learned the following infonnation:
\Loblaw expected to realize synergies amounting to $300 million, annually, 3 years after closing th%
purchase of Shoppers,_with the full extent of these synergies phased in evenly oi/er the 3 years;

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40% of these synegies ($120 million armually) were envisioned arising from git saving\s in the
areas of marketing, supply chain management, information technology, and
sh_ari-n/g of
infrastructure (e.g., distribution centczli; the webcast slides pointed to the parties complementary

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-3strengths in these areas, with Loblaw possessing Canadas largestgrocery transport network and
supply chain i d_ShQppers
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\ nlaligg a national pharmacy
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45% of the synergies ($135 million annually) were seen owing from a reduction in the merged
rms cost of goods sold (COGS), as its increased purchases from suppliers would lead to greater
volume-purchase discounts, while the cross-selling of Loblaw and Shoppers private label branded
products in each others stores would, with more points of sale, also reduce its average costs;
Loblaw wanted access to Shoppers low-cost, higher-margin, private-label, generic drug brands to
beef up its own pharmacy sales and attract reliable repeat pharmacy customers into its stores (who
might then pick up some Loblaw grocery items as they waited for their prescriptions to be lled),
and Shoppers sought to stock its shelves with some of Loblaws quick food items which would
bring customers into its conveniently-located downtown stores on their way home from work
(who might just remember that they needed a bottle of shampoo as well).
15% of the synergies ($45 million annually) were expected to result from the revenue synergies
associated with integrating Shoppers Optimum and Loblaws PC Plus loyalty programs and from
extending Loblaws PC Financial services to Shoppers 10 million loyalty program members;
Domenic Pilla, Shoppers CEO and president, stated that linking Shoppers Optimum points
program with Loblaws PC Financial services was expected to be one of the merged rms
growth platforms, providing the company with additional customer insights and additional
scale; and, while acknowledging that his f1rms customer loyalty program was widely seen as
one of the most successful in Canada, Pilla said his rm hoped to learn from Loblaws expansion
of loyalty services to mobile devices, an area that Shoppers had not yet fully exploited; while no
details about how the merging parties loyalty programs would be integrated were given during
the conference call, it was clear that the rms expected to harvest the vast knowledge base of
customer contact information and buying habits stored in their combined loyalty program data
bases using the emerging big data technologies to gain strategic marketing and purchasing
information and to expand targeted promotions to their respective customer bases; nevertheless,
the executives stated that they did not presently anticipate merging the two loyalty programs;
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With the completion of the merger, including an extra $500 million invested by George Weston\'?Q
(Loblaws controlling shareholder) in 10.515 million Loblaw shares (at a subscription price of \ C
$47.55/share), the ownership of the merged rms shares would be about 46% George Weston,,
2.9% pre-merger Shoppers shareholders, and 25% pre-merger Loblaw minority shareholders;__

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The $6.7 billion in cash that would be paid out to Shoppers shareholders on closing, along with
the deals $0.4 billion in investment banking fees and other transaction costs, would be nanced
by the combination of (a) the $0.5 billion cash proceeds from Westons additional subscription to
Loblaw shares, (b) a $3.5 billion term loan arranged by BofA Merrill Lynch, (c) a $1.6 billion
364-day bridge loan (arranged by BofA Merrill Lynch) to be repaid from Shoppers excess cash
and the issuance of unsecured notes in the merged rm, and (d) Loblaws available cash balances;
Ultimately, the incremental debt occasioned by the deal would amount t $4.6 billi , an amount
designed to preserve Loblaws BBB-mid debt rating; the immediately-p
er aa'usted-debtto-EBITDA ratio was expected to be about 3.1 times for the merged f after deducting $1.0
billion of balance-sheet cash (Casewriters note: without deducting bal ce-sheet cash, Loblaws
debt-to-EBITDA ratio was 3.44 at the end of 2012), and this ratio w seen as declining to 2.5
times 24 months after the closing of the deal;
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-4 The Loblaw-Shoppers combination was described as an enterprise encompassing: 2348 stores;

1797 pharmacies; one billion customer transactions annually; 65 million feetz of retail space; $42
billion in armual revenues; annual EBITDA of $3 billion; and annual free cash ow of $1 billion;
The executives on the conference call stated that no Shoppers or Loblaw stores would be closed as
result of the merger, and no front-line workers would lose their jobs; moreover, the two rms
would be operated as independent entities, and Shoppers management team would stay in place;

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Addressing possible anti-competitive concerns, Galen G. Weston, Loblaws executive chairman,

stated that the merger involved two complementary businesses and was not an overlapping,
scaling-up transaction; moreover, rather than cutting into each others market shares, the merger
would allow the rms to capitalize on each others strengths; by way of illustration, Weston noted
that Shoppers annual food sales were only $1 billion in comparison with Loblaws $30 billion,
but by acquiring Shoppers with its 1200 drug stores in all provinces - many in small locations
within densely-populated urban markets many of Loblaws convenience foods and private label
products could be made conveniently available in smaller outlets to this growing urban-market
segment that might nd it difcult to travel to one of Loblaws larger stores; in addition, Shoppers
would gain access to Loblaws vast network of food suppliers and possibly be able to offer fresh
produce in its stores; on the other side, Weston noted that while Loblaws share of the pharmacy
market was only 5%, adding Shoppers healt roducts and services to Loblaws grocery stores 62
would allow it to expand its offerings in whiixg-oblaw saw as the important health, wellness, an
nutrition retail segment targeted at Canadas aging populationwn summing up this point, Weston
touted Loblaws prowess at providing one-stop shopping in large-fonnat stores and how it would
henceforth expand its market coverage - both geographically and product-wise by acquiring
Shoppers large network of smaller stores across Canadian cities and gaining access to Shoppers
line up of respected Life-branded health and wellness products.
Williams also noted that the Standard & Poors rating agency had placed Loblaw on its Credit
atch list that moming with negative implications for the integration risk of the proposed
e yield spreads on Loblaws debt relative to Government of Canada bonds with
similar ma ' 'es had jmnped anywhere from 3 to 15 basis points on the takeover news - to a range
of 97 basis points ps for 3-year issues up to approximately 130 bps, 190 bps, and 240 bps for 5year, 10-year, and 20-ye 'ssues and, with North American tes rising in anticipation of the U.S.
Feds begimung to taper its tirmrlus
in SeptemberVilliams estimated that Loblaw
would likely have to offer yields ofia I 4.85 0 and 5.70%, respectively, to issue 10-year and 20year bonds to nance some of
cw nts of the takeover offerhoppers bond yi ld
spreads also widened. by about 15 b after the mergeigrrrouncent.
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Williams next step was to access the most reg a\rinual and quarterly nancial statements for
Loblaw and Shoppers to provide some of the initial data he would need to estimate the valuation
impacts of Loblaws proposed takeover of Shoppers. These nancial statements and associated
nancial ratios, with corresponding values for previous annual periods, are set out in Exhibits 1 and
2 for Loblaw Companies and in Exhibits 3 and 4 for Shoppers Drug Mart. Williams instructed other
team members to prepare a spreadsheet of recent valuation metrics comparing Loblaw and Shoppers
to the other major players in the Canadian grocery, pharmacy, and convenience store industries. The
results of this data collection are shown in Exhibit 9.

_5_
The Canadian Supermarket and Grocery Store Industry
The Canadian supermarket and grocery store industry is a mature, highly competitive industry
with a relatively modest growth rate in the post-millennial period. (Eor the initial part of this section,
the industry excludes convenience stores, warehouse clubs, and supercentres.) Supermarkets and
smaller grocers sell general lines of food products, including: fresh and prepared meats, poultry, and
seafood, and deli items (17% of total industry sales); frozen foods (5%); fresh fruits and vegetables
(10%); various dairy products (8%); canned and other packaged food items (28%); alcoholic and
non-alcoholic beverages (7%); health and beauty products, such as prescription and non-prescription
drugs, vitamins, and personal care items (10%); and miscellaneous smaller household goods and
supplies, such as household cleaning products and utensils, hygiene products, lawn and garden items,
hardware, tobacco products, pet food and supplies, automotive accessories, and novelty items (15%).
Within the food categories, there have been three signicant trends over_the past decade
namely: ( 1) increased retail space devoted to ethnic foods; (2) increased stocking of organic foods
and other, health-related, specialty food items (such as gluten-free products); and (3) the expansion
of private label products. First, as Canada has beeomerfrore culturally and ethnically diverse over
time and Canadian travellers enjoy diverse cuisines overseas, the demand for ethnic foods has
expanded at a rapid pace. This trend is expected to continue as the proportion of visible minorities
within the Canadian population is expected to rise from 16% in 2011 to 20% by 2017. As a result,
industry participants can be expected to devote even more retail space to ethnic foods, while also
increasing promotions and marketing materials to drive awareness and purchase volumes in this area.
Second, as Canadian shoppers have become more health and quality conscious in recent years,
industry players have taken advantage of the high demand for organic foods by opening specialty
organic supermarkets and increasing the size of the organic sections in their existing stores. Sales of
organic produce grew at a rate of 10.4% over the 2007-2012 period, and the rising interest in organic
foods is expected to continue to support revenue growth in future years, although this will force
grocery rms to reformat their current stores or add new stores to accommodate consumers. Third,
supermarket chains have also been launching more private-label brands. These brands help retain
shoppers by giving them an inexpensive alternative to national brands while also offering retailers
better prot margins compared to national brands. Over the past ve years, private-label brands have
gained signicant market share because households prefer the cheaper price and similar quality of
private-label products, and grocery sales benet from meeting this demand. Maj or chains have used
their retail power to outperform narne-brand suppliers by offering limited shelf space to them, while
giving their private brands preferential treatment with prominent shelf space and in-store displays.
Between 2001 and 2012, sales revenues at Canadian supermarket and grocery stores grew at a
compound average annual growth rate (CAGR) of 3.7%, from a total of $51 .4 billion to $76.6
billion. This expansion was fairly rapid during the rst 7 post-millemrial years, with growth
averaging 5.0% annually. During, and subsequent to, the 2008-2009 recession that was precipitated
by the worldwide nancial crisis, industry revenue growth slowed to an anemic 1.4% pace. Exhibit 5
sets out historical and forecast information for the Canadian supermarket and grocery store industry.
The industry-aggregate gures in Exhibit 5 exclude the pharmacy, gas retailing, real estate development, and other ancillary operations of the industry participants, as well as convenience stores and
the grocery operations of supercenters and warehouse clubs such as Wahnart and Costco.
-

-5The primary drivers of supermarket and grocery store sales are: (a) population growth; (b) the
growth of household disposable incomes; (c) ination in grocery store prices; (d) consumers choices
between restaurant dining and eating at home; and (e) the extent and strength of competition from
non-industry rivals. As the population increases, demand for food increases; thus, more people shop
at supermarkets and grocery stores. As Canadas population grew at a fairly steady pace of 1.1%
annually over the years from 2001 to 2012, this factor does not explain the slowdown in grocery
sales during the post-2007 period. Indeed, the CAGR in population over the 2008-2012 period, at
1.12%, was virtually identical to the 1.11% rate experienced during the years from 2001 to 2008.
The growth of personal disposable income (PDI) the second revenue-growth driver was not
so consistent. When households have less PDI, they may limit grocery purchases to staple items,
such as bread and milk. Canadas per capita PDI grew rapidly (at a CAGR of 4.1%) during the rst 7
years of the new millemrium before stalling in 2008 and 2009 and growing at a more moderate pace
after that. Between 2008 and 2012, per capita PDI grew by only 2.06% annually (see Exhibit 5). This
development was a major factor explaining the slowdown in grocery sales after 2007.
Ination in grocery store prices is the third revenue driver. When grocery prices rise faster than
household incomes, grocery revenue growth is retarded because groceries become relatively more
expensive, thus lowering or altering demand. It is frequently observed that when food prices rise,
consumers trade down to keep their overall monthly bill about the same. Between 2001 and 2008,
the annual ination in the overall consumer price index (CPI) was 2.22%, while the corresponding
value for the food price index was 2.75%. However, for the period from the end of 2007 to the end of
2012 when the overall CPI ination rate averaged 2.1%, overall food prices rose by 3.5% annually
(see Exhibit 5), and the prices of food bought from stores rose by 3.7%. As result, it is likely that the
acceleration in food-price ination during the post-2007 period helped to dampen revenue growth at
Canadas supermarkets and grocery stores. Nevertheless, grocery retailers fared much better during
and after the 2008-2009 recession than other retailers that relied on discretionary consmner spending
because food products are considered a necessity and their demand is relatively inelastic.
The fourth grocery-revenue demand driver consumers choices between restaurant dining and
eating at home is itself a function of PDIs: as people become wealthier over time, they generally
gravitate to more restaurant dining and less home cooking. However, this choice is also a countercyclical factor that helps stabilize grocery-store sales over the economic cycle. Prior to the recession,
Canadians exhibited a healthy propensity to dine out at restaurants. However, eating out costs much
more than purchasing food to prepare at home, so when the recession took hold, many people tumed
back to buying groceries for home cooking, which buoyed grocery sales, resulting in revenue growth
of 5.7% and 5.4% in 2007 and 2008, respectively, despite stagnant per capita PDI. Aer 2009,
however, consumers reverted to their pre-recession spending behavior and chose to dine out more
frequently, which, along with rapidly-rising food costs, restrained the growth in sales at Canadian
supermarkets and grocery stores to 0.7% during 2010, 0.6% in 2011, and 0.8% in 2012.
The extent and strength of competition from non-industry rivals the fth demand driver has
also been a serious drag on the growth in Canadian supermarket and grocery store sales over the past
decade, but especially since 2007. The rise of supercentres and warehouse clubs, such as Walmart
(and Target, recently) and Costco, which have stocked their shelves with fresh groceries, has forced
the industry to transform itself over the post-recession period. These non-industry rivals operate on a
massive scale, which allows them to source food at much lower prices. As a result, they can offer
lower prices to consumers, which have drawn shoppers away from supermarkets and grocery stores.

-7The industry has responded by entering a consolidation phase; the actual number of grocery stores
large and small has fallen by 1.3% over the 4 years to 2012 from 9,911 in 2008 to 9,786 in 2012
and is not expected to grow appreciably in future years. Major players have acquired independent
grocery chains to expand their reach and gain leverage with food wholesalers. Examples of this
include Sobeys purchase of Thrifty Foods in 2007, Loblaws purchase of T&T Supermarket in
2009, and Metros acquisition of Les Supermarches GP in 2009. In addition, industry players have
been upgrading their stores, improving their customer loyalty programs, adding more private-label
goods, and expanding their offerings of organic, ethnic, and health foods.
Looking to the future beyond 2012, industry analysts forecast that Canadas population, per
capita PDI, and total retail sales will increase in the 5 years to 2017 at annualized rates of 1.24%,
2.5%, and 3.1%, respectively, which will support overall food consumption but likely persuade
consumers to continue to migrate to restaurants on a regular basis. Moreover, despite their best
efforts, supermarkets and grocery stores may not be able to prevent supercentres and warehouse
clubs from gaining more market share. Indeed, on the strength of the past and planned expansions of
Walmart, Costco, and Target, industry analysts have forecasted that the square footage of overall
grocery-industry retail space will grow at a rate of between 3% to 3.5% during 2013 and 2014
similar to the pace experienced in 2012, but up from the 1.5% annual growth typical earlier in the
post-rnillemrium period before leveling off at a 1.5% armual growth rate in 2015 and beyond. This
will exert severe downward pressure on retail grocery prices and compress margins, especially at the
traditional supermarket chains. Factoring in the likely inuence of all these demand drivers, analysts
project that, over the 5 years to 2017, industry total revenues (excluding supercenters and warehouse
clubs) would grow slowly, at an annualized rate of 1.1%, to $80.74 billion (see Exhibit 5).
While revenue growth slowed during the post-recession years, the cost increases faced by
supermarkets and grocery stores have also moderated. The structure of average industry costs, as a
percentage of revenues, for 2012 is tabulated below:
Purchases of food and other grocery items
Employee compensation
Rent and utility expenses
Marketing and R & D expenses
Administrative and other costs
Depreciation
Pre-tax prot margin

73.9%
11.3%
3.8%
3.8%
2.7%
2.0%
2.5%

Despite rising input food costs in a number of categories, during the 5 years to 2012 the share
of revenue spent on purchases decreased from 75.2% to 73.9% largely attributable to the increased
sales of private label brands. All the large supermarket chains launched various private label brands
that were less expensive to purchase om wholesalers and processors, and many of these brands
appealed to price-conscious consumers. This trend is expected to continue as private label brands
penetrate new food categories.
The second-largest cost in the industry is employee compensation, which stands at about
11.3% of an average rms revenue. Over the past 5 years, total wages have decreased for two main
reasons. First, the recession forced supermarkets to cut down on labour to maintain protability.
Second, the advent of new technologies, such as self-checkout systems, reduced the need for
employees. Industry employment peaked at 452,792 in 2008, but has since fallen to about 410,000.

-3As a consequence, wages that accounted for a 12.2% share of industry revenue in 2007, have seen
their share drop to 11.3%. Analysts expect this share to stabilize over the near-term future. Rising
rents, higher energy costs reected in increasing utility bills, and greater transportation costs as result
of higher fuel prices have negatively impacted the remaining sections of the typical grocers cash
expenses statement, increasing their share of revenue from 8.7% to 10.3% over the 5 years to 2012.
There is little consensus among analysts regarding the forward trend in these costs.
Capital expenditures for the industry have historically included the purchase of store assets
such as cash registers and shelving. Capital expenditures have risen in recent years, however, as
many large supermarkets have remodelled their stores and introduced new technologies such as
computerized point-of-sale (POS) systems and self-checkout systems. The spread of the intemet and
the development of online ordering capabilities will also increase capital expenditures in future
years, as the establishment and maintenance of websites by retailers will be critical to fullling
shoppers demands for online shopping. Consequently, depreciation expenses have grown to a level
of 2.0% of annual industry revenue, and this gure may rise gradually over the next 5 years.
The introduction of new technologies has helped grocery chains preserve their protability
despite the unfavorable macroeconomic and competitive enviromnent. During the post-millennial
period, grocers introduced computer scanning cash registers and automated warehouse equipment.
Supermarkets also introduced scanning and electronic data interchange that substantially improved
their management and distribution efciency. Pay By Touch scanners, which can make payment at
checkouts quicker and safer, are also a recent innovation in some supermarkets. Under this system, a
shopper can set up an e-wallet containing his bank account, reward card, and credit card data.
Payment is made by scanning a ngerprint and keying in a password linked to account details. Selfcheckout systems have proven to be very popular, and they allow grocers to reduce the number of
their cashiers. Finally, despite the growth in the popularity of intemet retailing, the grocery industry
has lagged behind in capturing the full benets of electronic cormnerce. Nevertheless, some grocery
stores have responded to the popularity of smartphones by creating applications that customers can
download to improve their shopping experience. These often display the latest coupon offers, weekly
specials, and store locators, and some provide store layouts to help customers shop efciently.
In an effort to retain their customers and gain insights into their shopping habits, supermarket
chains have developed loyalty programs that offer customers discounts and promotions depending on
the frequency of visits and total shopping expenditures. These loyalty programs started as simple
points programs to reward loyal customers for coming back, but they evolved quickly in response to
an increasingly saturated marketplace. For example, Sobeys introduced its Club Sobeys loyalty card
program in 2009, allowing its members to earn points on their purchases, which they can redeem for
discounts on future groceries or for purchasing other products and services including airplane miles.
The supermarket majors have also focused on gathering and analyzing customer data. In this regard,
Metro formed a partnership with consumer analytics rm Dunnhumby in 2009 to help it analyze its
customers data to more effectively cater to its customers needs. Going forward, supermarkets and
grocery stores will have to rely on even more sophisticated loyalty programs to maintain their
customer bases, maximize their returns, and focus their capital and labour expenditures.
In 2001, Canadian supermarkets and grocery stores generated total pre-tax prots of $2.8
billion. By 2012, this gure had fallen to $1.95 billion a 3.3% average annual decline after 2001.
The decline was most pronounced alter 2004, as total prots uctuated between $1.7 billion and $2.1
billion during the 2005-2012 period. As a share of total revenues, the industrys pre-tax prot margin

-9eroded from 5.5% in 2001 to 2.5% in 2012 (see Exhibit 5). Supermarkets and grocery stores
struggled to maintain prot margins in the 2.3%-to-2.7% range over the 5 years to 2012 in the
environment of slow-growing household PDI levels and rising input food costs. Rather than raise
prices, most stores were forced to offer more promotions and discounts to maintain their customer
bases in the face of the aggressive competition 'om Walmart and Costco. As a result, their prot
margins were squeezed. Many supermarkets also laid off employees and closed stores to maintain
margins, with the larger chains implementing automated tools to help increase operating efciency
and decrease unit labour costs. Margins would have fallen further had the industry not embraced
consolidation and had the major players not pushed their more-protable, private-label brands.
During the 2008-2009 recession, many shoppers substituted less expensive private-label brands
for national brands. But with their incomes now rising, analysts expect them to return to purchasing
higher-priced brands. Although this would favour industry revenues, the major chains are hoping
consumers will stick to buying private-label brands because their prot margins are much better than
those achieved on name-brand items. Even with some retention, however, many shoppers are bound
to return to purchasing higher-priced, value-added products. Indeed, the evidence from the Neilson
research agency is that the proportion of private label sales to total food and grocery sales in Canada
has declined steadily from about 19.0% in 2007 to about 17.5% recently, despite the innovations that
Loblaw, Sobeys, and Metro introduced within their private label portfolios over the past 4 years. For
the near-term future, then, analysts hold out little prospect for any margin improvement. Increases in
the cost of energy and transportation will continue to push food prices up. The rising cost of food
inputs will force many wholesalers and food processors to charge supermarkets and grocery stores
higher prices, but erce competition both among grocery chains and with the supercentres and
warehouse clubs will prevent industry participants from passing these higher prices on to shoppers in
the fonn of higher markups. As a consequence, industry participants will likely struggle to maintain
pre-tax prot margins in the neighbourhood of 2.5% through 2017.
The supermarket and grocery store industry is composed of two segments chain-store rms
and non-chain (often stand-alone) grocery stores. Since 2001, chain store revenues have grown
somewhat faster than the revenues at non-chain stores. Chain store revenues grew at a CAGR of
4.0% over the years from 2001 through 2012, while non-chain store revenues increased armually by
only 2.9%. While both chain and non-chain stores saw their total pre-tax prots decline substantially
after 2001, chain-store organizations maintained higher prot margins than their non-chain cousins.
During the post-recession years, chain store margins have averaged about 3.3% (see Exhibit 5),
while the margins at non-chain stores hovered in the 1.1% to 1.4% range.
Within the supermarket chain segment of the industry, three companies now dominate the
landscape namely, Loblaw Companies, Sobeys Inc., and Metro Inc. Based on 2012 revenues,
Loblaw commanded a 32.5% share of the entire supermarket and grocery store industry, Sobeys (on
a pro forma basis, reecting its June 2013 purchase of Safeway Canada) enjoyed a 25.2% market
share, and Metro had a 12.6% share. All other industry participants split the remaining 29.7% share.
When the defmition of the industry is broadened to include non-chain grocers, convenience stores,
supercenters, warehouse clubs, and the food and grocery sales of drug stores and pharmacies, then
the market shares of Loblaw, Sobeys, and Metro fall to 25.4%, 19.7%, and 9.8% respectively.
Exhibit 6 sets out the retail food and grocery sales and market shares in Canada of the major grocery
chains and their superstore and warehouse club competitors, and also provides a projection for the
revenue structure of the industry in 2017, once Target has become established.

-10As the gures in the preceding paragraph and Exhibit 6 indicate, the industry is highly
concentrated, and has gotten more so in recent years as many smaller competitors have fallen into the
hands of the three majors or gone out of business. The employee-size-per-store prole of the industry
also reects the growing dominance of the supermarket majors. More than 57% of Canadian grocery
stores now employ 100 or more people. The share of rms employing between 5 and 19 people
decreased from 16.3% in 2007 to 15.1% in 2011, while the share of rms employing more than 500
people increased from 44.4% to 46.0% over the same span. Despite its highly concentrated nature,
we industry hastot faced signicant challenges from the Canadian Competition Bureau, likely
\ \
cause it realizes that the consumer interest in lower prices and greater convenienc is protected by
the presence of Walmart, Target (going forward), Costco, and other warehouse club?)
It is unlikely that any of the major Canadian supermarket chains will choose to enter the U.S.
market because of its highly competitive nature, and relatively few U.S. grocery chains have so far
chosen to enter the Canadian market (an exception being Whole Foods Market), although this could
change in the future. The most signicant barrier to entry for a company contemplating the entry into
the Canadian grocery market is the established positions of the existing players. The major Canadian
supermarket chains have occupied all the choicest retail locations and have built strong relationships
with their suppliers that give them access to preferential treatment and pricing. Canadian grocers are
primarily regulated by the Canadian Food Inspection Agency (CFIA), which is the governing body
responsible for the administration and enforcement of Canadas food laws. The CFIA protects
consumers from unsafe food supply or fraudulent food claims and practices, and the agency performs
audits where it samples and tests products on a regular basis.
According to industry analysts, there are ve factors that hold the key to competitive success in
the Canadian grocery industry. These are:
Proximity to markets: being located in populated, high-trafc areas like shopping strips and malls
maximizes a grocers exposure. Clear signage, access, and ample parking also attract shoppers.
Access to a multi-skilled and exible workforce: supermarkets have a highly casual workforce,
which allows stores to rotate staff as required, particularly during extended customer hours.
Ability to control stock on hand: this ensures that groceries are always available for purchase,
particularly if they are advertised as the weekly special and thus in high demand.
Access to the latest available and most efcient technology: for stores to operate productively and
efciently they need the latest in security systems as well as point-of-sale processing.
Close monitoring of competition: as a mature industry with little product differentiation, grocers
compete on price; earnings are generated on a large volume of goods that carry a small markup.
The following paragraphs provide a snapshot of Loblaws major competitors; Loblaw itself
will be proled in a later section.
Sobeys Inc., a wholly-owned subsidiary of Empire Company, is a Nova-Scotia-based rm that
operates 1,569 corporate and franchise-owned stores in 10 provinces and more than 800 Canadian
commtmities. Its stores are laid out in 5 different formats full service, fresh services, community
service, discount services, and convenience service each designed to ensure that Sobeys has the
right offerings in the right-sized stores to meet its customers needs in each individual market served.

-11All formats fall under 6 retail banners Sobeys, IGA, Foodland, FreshCo, Price Chopper, and
Thrifty Foods. Besides its large agship Sobeys and IGA stores, the rm offers a smaller discount
grocer, Price Chopper, at 118 locations in 9 provinces and the NWT. It also operates: the Foodland
chain in the rural areas of Newfoundland and Labrador, Nova Scotia, New Brunswick, and Ontario;
smaller grocery stores under the Tradition Markets banner in Quebec and the Food Town banner in
Western Canada; and Thrifty Foods, a chain of 29 grocery stores based in Victoria, BC. Sobeys also
runs Lawtons Drug stores in Atlantic Canada. Introduced in 2005, Sobeys offers 3,800 products
under its Compliments private label lineup to compete with other private labels such as Loblaw's
President's Choice brand. Sobeys also offers a number of loyalty programs. In Quebec and Atlantic
Canada, Sobeys/IGA has a partnership with the Air Miles program. However, in the rest of Canada
since 2008, the Club Sobeys and Club Sobeys MasterCard programs have been offered because Air
Miles had pre-existing relationships with Safeway in Westem Canada and Metro in Ontario.
Sobeys food and grocery retailing revenues for its scal year ended 4 May 2013 were $17.39
billion, representing a 4.2% average annual increase over the previous 4 years. Its operating prots in
scal 2013 were $515 million, reecting a 6.6% CAGR over the corresponding 2009-to-2013 time
span. Sobeys operating prot margin came in at 2.96% for scal 2013, up from the 2.71% gure for
scal 2009 but down from the 3.00% achieved in 2011. (Sobeys net prots and net prot margins
are not reported here because they are clouded by Empires non-food investment and real estate
activities.) Sobeys revenue growth continued to be a direct result of increased retail square footage,
the implementation of sales and merchandise initiatives, and improved labour productivity. In scal
2013, total square footage rose 2.0% as a result of opening, acquiring, or relocating 45 stores and
expanding two others. Sobeys also closed 37 stores over the year, while redeveloping or rebarmering
7 stores. In addition, to expand its warehouse and distribution capacity and improve its operational
efficiency, Sobeys opened a new distribution centre in Quebec, employing the same sophisticated
automated equipment and technology as its Vaughan, Ontario distribution center which was, when
nished in 2009, the rst in Canada to use a fully-automated warehouse and picking technology.
Sobeys traces its origins to a meat delivery business begun by Jolm William Sobey in 2007 in
Stellarton, Nova Scotia which then expanded to a full grocery operation in 1924. By 1939, the
Sobeys chain had grown to 6 locations in Pictou and surrounding counties. The rms rst modem
supermarket was opened in 1947. In 1987, Sobeys expanded beyond Atlantic Canada with a store in
Guelph, Ontario. It tripled its size and became a national rm in 1998 when it acquired The Oshawa
Group - the Toronto-based supplier to Canada's IGA stores. In 2005, Sobeys lost a bidding war with
Metro Inc. to acquire A&P Canada, the operator of several Ontario supermarket chains. Although
Sobeys remained the second largest grocery chain in Canada, it was the 3rd place chain in most of
Canada outside Atlantic Canada, and the successful purchase of A&P Canada would have bolstered
its position in Ontario. In September 2007, Sobeys expanded its presence in BC through the purchase
of Thrifty Foods. In 2010, the rm launched its FreshCo discount banner by rebranding some of its
Price Chopper outlets in Southem Ontario. In 2011, Sobeys grew its retail gas and convenience store
operations in Qubec and Atlantic Canada with the purchase of 236 Shell Canada retail gas locations.
Finally, on 12 June 2013, Empire and Sobeys announced that they had reached an agreement to
acquire all the assets of Canada Safeway Ltd. for $5.8 billion in cash all of which was provided by
a loan from The Bank of Nova Scotia. This transaction secured Sobeys position as the #2 grocery
chain in Canada and signicantly increased its presence in Westem Canada (particularly Alberta)
while promising to be immediately accretive to Empires EPS and realize a total of $200 million in
armual synergies over 3 years. The acquisition added 213 grocery stores to Sobeys stable, as well as

-12-

12 manufacturing and food processing facilities, 4 distribution centers, 199 in-store pharmacies, 62
adjacent gas stations, and 10 liquor stores. For its scal year ended 23 March 2013, Canada Safeway
was expected to have realized total revenues of $7.1 billion and earnings before taxes, depreciation,
and amortization in excess of $500 million. At the time, however, analysts noted that the acquisition
of Canada Safeway would push Empires debt-to-EBITDA ratio up to more than 4.5 times, from a
value of 1.03 times at the end of scal 2013 (4 May 2013) as compared to the 2.6 times that was
more-typical for Canadian grocery chains and put pressure on its BBB(low) bond rating (as S&P
had lowered its outlook from stable to negative on the news of the all-cash takeover).
Montreal-based Metro Inc. operates 370 supermarkets throughout Quebec and Ontario. Metro
supermarkets average about 33,000 square feet and carry Merit Quality Meats, a wide selection of
fresh sh and produce, and more than 14,000 other items. In addition to its supermarkets, Metro runs
196 discount grocery stores (82 under the Super C banner in Quebec and 114 under the Food Basics
banner in Ontario) as well as 260 drug stores (186 under the Brunet, Brunet Plus, Brunet Clinique,
and Clini Plus banners in Quebec and 74 under the Pharmacy and Drug Basics banners in Ontario).
On 23 October 2011, Metro acquired a 55% interest in the March Adonis chain of stores known
for their Mediterranean and Middle-Eastem products along with its related distributor Phoenicia.
Metro expressed the hope that its partnership with Adonis would improve the ethnic food offerings at
its supermarkets and discount stores, helping it capture a greater share of the ethnic food market.
' Metros sales reached $12.0 billion for its scal year ended 29 September 2012, an increase of
5.4% over the $11.4 billion it achieved during its previous scal year. The 2012 scal year had 53
weeks and excluding the extra week, sales increased by 3.4%. Adonis stores and Phoenicia added
$236.6 million to revenues, and same store sales were up 1.2% for the year. Over the 4 years ending
in 2012, Metros sales grew at a CAGR of 2.9%. The rms operating prots for scal 2012 were
$710 million (yielding an operating prot margin of 5.9%) an 11.3% CAGR over the $463 million
earned in 2008 (when its operating margin was only 4.3%). Indeed, Metros operating margin rose
steadily after 2008 to 4.9% in 2009, 5.2% in both 2010 and 2011, and nally 5.9% in 2012. Net
earnings for scal 2012 reached $489.3 million, up 24.6% from $392.7 million in 2011. Fully-diluted EPS was $4.84 compared to $3.79 the previous year, an increase of 27.7%. Excluding the
non-recurring items recorded in 2012 and 2011, Metros adjusted net earnings were $470.6 million in
2012, 15.6% above the 2011 level of $407.2 million, and its adjusted fully-diluted EPS was $4.65, up
18.3% from $3.93 in 2011 and 87.5% higher than the $2.48 level it achieved in scal 2008.
Metros revenue growth in 2012 and the preceding couple of years owed much to a number of
on-going initiatives designed to bolster its customer relationships. At the end of scal 2010, Metro
launched two loyalty programs: its metr0&m0i loyalty card was promoted at its supermarkets in
Qubec, and its Ontario Metro stores joined the Air Miles coalition loyalty program. In anticipation
of these launches, Metro formed a joint venture with Dunnhumby in 2009 to help it collect and
analyze customer data from its loyalty programs. This proved to be successful in helping the rm.
better tmderstand its customers preferences and behaviours and enabled it to tailor its product
assortment and set up promotional opportunities with its suppliers accordingly. By yearend 2012,
Metro had signed up more than 1,250,000 members for its metro&m0i program. In addition, Metro
offers numerous private labels, which give shoppers quality products at lower prices. During 2012,
the rm began revamping its entire portfolio of private labels consisting of over 4,500 products
to increase their visibility and value perception throughout their stores. In 2012, Metro also invested
$282 million in its retail store network, opening 7 new stores, expanding and remodeling 19 others,
and closing 11 stores.

-13Nevertheless, industry analysts anticipate that Metros prots may come under pressure in the
near-term future as result of Sobeys acquisition of Canada Safeway. Both Metro and Safeway were
part of the same United Grocers buying group and Metros purchasing power may diminish with
Safeways exit from the consortium. Moreover, Metro is disproportionately exposed to the hypercompetitive Ontario market, where the pressure from Walmart, Costco, and Target is most intense. In
response, analysts expect that Metro will restructure its Ontario operations by converting some of its
stores to its Food Basics discount bamier and closing others.
Costco Wholesale Corporation, which commenced operations in the U.S. in 1983 and came
to Canada in 1986, currently accounts for 8.4% of total food and grocery sales in Canada (see
Exhibit 6) and poses a considerable threat to the revenues and prot margins of Canadas traditional
supermarket chains. By providing low prices on fresh foods, health and beauty items, high-quality
apparel, electronics, hardware, jewelry, and other general merchandise, the rm pioneered the retail
concept that encourages members to visit regularly to achieve savings. Costcos Canadian food and
grocery sales expanded at a 9.0% CAGR between 2006 and 2012, and they are expected to continue
to grow at an average annual rate of 6.3% through 2017 at which time they are projected to
command an 8.4% share of the overall Canadian food and grocery market. While Costco operated 77
Canadian stores in 2009 and 85 early in 2013, the rm plans to reach 1 10 stores nationwide by 2017.
Given supermarket-type merchandise accounts for 55% to 60% of Costcos sales, its growth plans
for its Canadian operations pose a serious challenge to Canadas traditional grocery chains.

"\

Walmart Canada Corporation started in Canada in 1994 with the purchase of Woolco, but
it was not until November 2006 that the company began adding full fresh-food offerings within its
massive supercenters. Since then, Walmart has focused on expanding its grocery segment and has
succeeded in drawing cost-conscious shoppers away from traditional supermarkets. Walmart will
have 388 supercentres in Canada by January 2014, and 246 of these will have full food and grocery
offerings up f1'om 167 in mid-2012. Consumers have switched to grocery shopping at Wahnart not
only because of its convenience but also because of its lower prices. The rm can offer low prices
due to its ability to purchase in volume at low costs and its strategy to receive and distribute goods
directly from suppliers, thereby skipping the cost of a distributor and capitalizing on its logistical
expertise to ensure that its shelves are fully stocked with the right products on a timely basis. The
rm invested $750 million in 2012 and plans to spend another $500 million in 2013. The rm is
beefmg up its Canadian operations in advance of Target Corps entry into Canada following the
latters $1.8 billion purchase of most of Zellers store leases. With a modest $200 million of sales in
2006, Walmart Canadas food and grocery sales expanded to an estimated $8.3 billion during 2012
grabbing a 6.8% share of the market and are expected to grow at a 6.9% CAGR, to a level of $11.6
billion by 2017- representing an 8.5% share of the entire Canadian market in 2017 (see Exhibit 6).
The Canadian Pharmacy and Drug Store Industry
The $32 billion Canadian pharmacy and drug store industry is a mature, competitive industry
well positioned to benet from meeting the needs of Canadas aging population but facing drug
pricing pressures associated with constrained provincial govemment budgets. Drug stores derive
their revenues from thesale ofprescription drugs typically dispensed by the pharmacy at the back
of the store and comprising 50%-55% of total revenues as well as non-prescription drugs,
medicines, vitamins, and nutritional supplements (usually about 10% of revenues), and sundry other
items at theont of the store. These other retail goods include: cosmetics; personal hygiene
products; health aids; greeting cards and stationery; snack foods and confectioneries; soft drinks,

-14sports drinks, and bottled water; tobacco products; novelties, toys, and giftware; cameras and
photographic supplies; and newsstand items. Recently, some drug chains. have begun to stock a
limited assortment of food and beverage items to attract customers to their stores. Nevertheless, the
prot margins on prescription and over-the-counter medications (particularly private label brands,
such as Shoppers Life-branded products) are generally twice as high as those on other products.
Between 2001 and 2012, sales revenues at Canadian pharmacies and drug stores grew at a
CAGR of 5.4%, from a total of $17.6 billion to $30.3 billion, according to Statistics Canada. While
this expansion was faster in the rst 7 post-millennial years with annual growth averaging 6.0%
the industry still maintained a respectable 4.6% growth pace during and subsequent to the 2008-2009
recession. Exhibit 7 sets out historical data for the Canadian pharmacy and drug store industry.
The primary drivers of pharmacy and drug store sales are (a) population growth, (b) the
proportion of seniors (those aged 65 and over) in the population, (c) the growth of PDI per capita, (d)
the growth of national health care and, particularly, drug expenditures (which are themselves driven
by factors (a) and (b)), (e) the state of provincial budgets and the changes in policies and regulations
that these occasion, and (t) the pace at which effective new, patented and branded drugs become
available. Contrary to the grocery industry, the emergence of new competitors does not seem to be an
important determinant of pharmacy industry growth, except perhaps with respect to the 35% of their
revenues that are generated at the front of their stores. In this front-of-store domain, the entry of
Target into the Canadian market in 2013 may pressure drug store margins to a minor extent.
While Canadas overall population has grown at a steady pace of 1.1% amrually since 2001,
the number of seniors - the population group that relies most heavily on prescription drugs - has
risen at a much faster pace, such that the proportion of Canadians who are 65 and over has expanded
from 12.6% in 2001 to 14.8% in 2102, and is expected to grow even more quickly in the future as the
baby boomers bom in the 1947-1965 period progressively move into and through their senior years
with substantially lower mortality rates than earlier generations. Indeed, Statistics Canada projects
the senior cohort to comprise 16.6% of Canadas population in 2017, 18.4% in 2021, 20.7% in 2026,
22.7% in 2031, and 23.6% in 2036. Clearly, the aging of Canadas citizens has underpinned the
strong growth in pharmacy sales over the post-millemiial period. Exhibit 8 provides historical values
and projections for a selection of demographic and economic variables that impact drug sales.
The growth of PDI has also sustained drug-store-industry revenue growth during the postmillennial years. Canadas per capita PDI grew rapidly, at a CAGR of 4.1%, dining the rst 7 years
of the new millemiium before stalling in 2008 and 2009 and growing at a more moderate pace after
that. Between 2008 and 2012, PDI per capita grew by only 2.06% annually (see Exhibit 8). This
post-2007 slowdown undoubtedly had a restraining effect on front-of-store sales for the pharmacy
industry, but it is unlikely to have had a signicant impact on the sale of prescription drugs whose
use is considered essential by customers, whose purchase is dictated by a doctors prescription, and
whose cost is usually covered by some drug plan. In other words, about 60% of the industrys sales
are highly inelastic with respect to changes in both price and personal income, which allows
pharmacies to weather recessionary storms better than most other retailers.
National health care expenditures, particularly those directed toward drug purchases, are a
signicant detemainant of pharmacy industry revenues. These expenditures, themselves, are a
function of the number of seniors in the population and the breadth and generosity of public and
private drug plans forces which worked in tandem to reinforce each other for much of the post-

-152000 period but have been tugging in opposite directions for the past 3-4 years. Based on gures
from the Canadian Institute for Health Information, Exhibit 8 provides data on both overall national
health care spending (public and private) and the spending on prescription and non-prescription
drugs from 2001 through 2012, as well as projections for 2017. Between 2001 and 2012, total health
care spending in Canada rose at a CAGR of 6.2%, while per capita spending grew by 5.1% annually.
As result, health care spending rose from 9.7% of Canadas GDP to a high of 11.9% during 2009,
before subsiding to 11.6% in 2012 in response to govemmental efforts to rein in health care costs
before the bulge of baby boomers overwhelms provincial budgets. While total health care spending
nationally is projected to rise to $251.1 billion by 2017, provincial goverrnnent policies and
regulations are expected to hold total spending to 11.4% of Canadas GDP at that time.
Focusing more narrowly on national drug spending the category most closely aligned with
pharmacy revenues Exhibit 8 data shows that national drug expenditures have doubled over the
2001-to-2012 period, rising at a CAGR of 6.4%_from $16.7 billion in 2001 to $33.0 billion in 2012.
About half of these expenditures are paid for by private-sector drug plans or individuals out of their
own pockets, while provincial drug plans cover about 40% of the spending. On a per capita basis,
annual drug spending has increased from $538 in 2001 to $943 during 2012 a CAGR of 5.2%. As a
percentage of total health care spending, drug expenditures rose quickly between 2001 and 2006
from 15.6% in 2001 to 16.6% during 2006 before retreating to 15.9% in 2012. This growth in drug
spending propelled pharmacy revenue growth throughout the 2001-2012 period, although the pace
tapered off during the latter 3 years in response to increasingly-restrictive government regulations.
These cost-control measures are expected to persist, as provinces try to lower their decits; hence,
the growth in per capita drug spending is projected to slow to 2.4% annually over the 2012-to-2017
period, while total drug spending is expected to expand by only 3.7% per armum (see Exhibit 8).
Health care accounts for more than 40% of most provincial budget spending, and, while they
currently represent only 15% of the population, seniors account for more than 45% of all provincial
health care spending. The number of seniors with multiple prescriptions is also on the rise, with
ahnost two-thirds of them taking 5 or more drugs daily. As already noted, provincial governments all
across Canada have responded to their out-sized budget decits and the prospect of a ood of baby
boomers soon qualifying for publicly-funded drugs by introducing and tightening policies designed
to control the growth of drug costs. The success of these policies has stunted the growth in pharmacy
revenues and prots since -2008, to the chagrin of the major drug chains and their shareholders.
Provincial governments have addressed drug costs in at least three ways. First, they have
insisted that pharmacies switch to lower-cost (and lower margin) generic drugs as opposed to the
more-expensive branded drugs when lling prescriptions whenever possible. This has caused the
proportion of prescriptions lled using generics rise from 43.9% in 2005 to over 60% in recent years.
Second, provinces have introduced generic pricing controls in their provincially-funded drug plans,
and have reduced the amount that they are willing to pay pharmacies for generic drugs to at most
25% to 40% of the price of equivalent brand-name products. Indeed, the Alberta government
generated a storm of protest from its provincial pharmacies in April 2013 when it announced that it
was planning to lower the price it paid for generics to 18% of that of the corresponding branded
drug. Third, many provinces that imposed a lid on pharmacy dispensing fees in past years and been
reluctant to raise these caps despite underlying inationary pressures on pharmacy services.
Finally, a number of analysts have noted that many blockbuster drugs have come off patent in
recent years - opening the way for the substitution of cheaper generics and fewer new patented

-16-

drugs have come to market to replace them. This development has contributed to the decline in drug
store revenue and prot growth. Analysts also note that from 2013 through 2015, the value of drugs
with expiring patents will average $1 billion armually in Canada, pressuring pharmacy margins.
There were approximately 7,200 drug stores in Canada at the end of 201 1 , 98.8% of which
employed 99 or fewer people within individual store operations. Of course, many of these store are
part of pharmacy chain networks sharing common suppliers and marketing programs. During 2012,
the typical drug store devoted 70.9% of its revenues to acquiring the drugs and other goods it sold,
12.8% to labour compensation, and 12.4% to other operating costs (rent, utilities, marketing
expenses, etc.) leaving a pre-tax prot margin ofjust under 4%. The corresponding expense
breakdown for 2001 shows a 68.6% share for the cost of goods sold, a 12.7% share for labour, and a
10.4% share for other operating expenses leaving an 8.3% pre-tax margin (see Exhibit 7). The
increasing cost-of-goods share since 2001 results from retail drug prices having been driven down
faster than supplier prices in response to the provincially-mandated shift to more generics, while a
rise in utility prices may account for the increasing share of revenues going to other expenses. As
with grocers, the ability ofpharmacies to control their labour costs may depend on their adoption of
new point-of-purchase technologies, offsetting the rise in pharmacist and teclmician salaries.
The net effect of the above-described pricing and cost trends is that the pre-tax prot margin
for the pharmacy and drug store industry dropped below 5% after 2001 and has uctuated in the
range of 3.4% to 4.6% ever since. In particular, industry margins remained relatively strong during
the 2008-2009 recession, but have declined marginally since then under the strain of govermnent
drug-cost-control measures. Looking beyond 2012, there is no consensus among industry observers
as to the likely path of prot margins as the industry faces encouraging demographic trends counterbalanced by increasing drug pricing pressures from provincial governments.
With the exception of Shoppers acclaimed Optimum rewards program, loyalty programs have
not been an important feature in the Canadian pharmacy industry, largely because less than half of
the typical drug stores sales would normally be eligible for loyalty points. Shoppers Optimum
program conned to its front-of-store sales is the only drug store loyalty program in the top 15
loyalty programs in Canada. When surveyed, pharmacy professionals have generally expressed
reservations about offering loyalty points for prescription drug sales because this might create the
impression that medications and pharmacy services are commodities and debase the pharmacists
role. Loyalty programs might also create inducements contrary to drug customers best interests.
Currently loyalty rewards are not allowed on the sale of medications in Quebec and Ontario.
The Canadian pharmacy and drug store industry is composed of national and regional chainstore organizations as well as numerous smaller local establishments. Shoppers Drug Mart and the
Edmonton-based Katz Group are the industry giants, with 2012 corporate-wide sales of $10.8 billion
and $8.9 billion respectively. The second tier of rms includes the Quebec-based Jean Coutu Group
(2012 sales of $4.0 billion), BC-based London Drugs (2012 sales of $2.7 billion), Quebecs Uniprix
Group (2012 system-wide sales of $1 .9 billion), and BCs Pharmasave (2012 sales of $1 .5 billion).
Among these rms, only Shoppers, Jean Coutu, and Uniprix are publicly-traded. Summary revenue
and operating prot data for these rms are provided at the bottom of Exhibit 7, where operating
prot is dened as sales and other revenues minus cost of goods sold, other operating expenses, and
depreciation. To transition from operating prot to pre-tax prot, one would generally have to deduct
non-operating expenses, asset-sale gains and losses, non-cash impairment charges, and interest and

-17-

./\
\ '-

other nancial expenses from operating prot. Consequently, the operating prot margins for the 3
rms shown in Exhibit 7 are all signicantly higher than the overall industrys pre-tax prot margin.
Shoppers Drug Mart will be proled in a later section of this case. The following paragraphs
provide brief descriptions of the Katz Group, the Jean Coutu Group, and Alimentation Couche-Tard.
Until recently, the Katz Group Canada Ltd. operated or franchised over 1,800 pharmacies in
Canada under various brand banners, including Rexall Canada, Pharma Plus, Guardian, I.D.A.,
Medicine Shoppe Canada, Meditrust Pharmacy, Super Drug Mart, Dell Pharmacies, and Herbie's for
Drug and Food. Its holdings also included Drug Trading Company Ltd (a retail support organization)
and ProPharm Ltd (a provider of pharmacy-related computer systems). The company was founded in
Edmonton in 1978 as the Value Drug Mart chain by pharmacist Barry Katz, and grew rapidly by
acquisition in subsequent years: purchasing the Canadian rights to the U.S.-based Medicine Shoppe
drugstore franchise in 1991; acquiring the Rexall drugstore chain in 1996; buying the Ontario-based,
143-store, Pharma Plus chain in 1997; and acquiring numerous other independent drug retailers
along the way. In 2004, Katz purchased the naming rights for the new $45-million Rexall Centre, a
12,500-seat temiis and entertaimnent complex on the campus of York University.
On 30 January 2012, Katz sold its Drug Trading Company Ltd to U.S. giant McKesson Corp
for $920 million. Drug Trading Company is the marketing and purchasing arm for Medicine Shoppe
Canada and for a network of over 850 independent I.D.A. and Guardian-branded pharmacies. The
sale represented about 90% of the Katz Group's assets, shrinking Katz's stable of corporate-owned
and franchised stores to 450 Rexall and Pharma Plus-branded outlets. Responding to this sale, a bank
nancial analyst suggested that... Katz Group wants to exit the small pharmacy-focused franchise
business because it is [the] most impacted by recent drug reforms. In contrast, Katz Groups
corporate-store business (approx. 420 stores) benets from stronger brand awareness, greater front
store penetration and superior vendor support, making it a better growth platform. Katz will
continue to supply Rexall products to the independent and franchise pharmacies sold to McKesson.
Headquartered in Longueuil, Quebec, the Jean Coutu Group (PJC) Inc. is a drug store chain
that manages 407 PJC-franchised stores in Quebec, Ontario, and New Brunswick under the PJC Jean
Coutu, PJC Clinique, and PJC Sant Beaut banners. It operates two large distribution warehouses
located in Longueuil, Quebec, and Hawkesbury, Ontario to supply its anchised outlets with about
94%, by value, of the products they sell, including prescription drugs. Jean Coutu also provides its
franchised stores with various services, including centralized purchasing, distribution, marketing,
training, human resources, management, operational consulting and infomiation systems, and a
private label program. About 12% of its franchisees front-of-store sales come from 2,950 private
label and other products exclusive to the Jean Coutu organization. The company was the rst drug
chain in Canada to set up an online service to allow customers to rell their prescriptions via the
intemet or over the telephone. In mid-2013, Jean Coutu was in the process of constructing a new
$190 million head ofce and distribution center in Varennes, Quebec, to support the expansion of its
Canadian operations. In response to reporters queries, Francois Jean Coutu, the rms president and
CEO, expressed no interest in joining the consolidation enzy gripping the grocery and pharmacy
industries in mid-2013 (such as by merging with Metro Inc.) and sacricing his m1s family-run,
customer-service-oriented character. Exhibit 7 provides information on Jean Coutus Canadian
operating results since 2004. These results reect the companys distribution center sales and the
royalties from its franchisees, but do not include the revenues of its franchised stores themselves.

-13The rm was co-founded in 1969 by Jean Coutu and Louis Michaud, as a pharmacy in the east
end of Montreal. It expanded into New Brunswick in 1982 and Ontario in 1983. Beginning in 1987,
the company began a series of acquisitions through which it acquired and integrated the operations of
many of its local rivals. In 1994, it entered the U.S. market with the purchase of Brooks Pharmacy.
Then, in mid-2004, Coutu acquired more than half of the U.S. Eckerd drug store network from J.C.
Penney and became, for a time, the second-largest distributor and retailer of pharmaceuticals and
related products in North America, with nearly 2,200 drug stores. In June 2007, U.S.-based Rite Aid
purchased Jean Coutu's 1,858 Eckerd and Brooks U.S. stores for $1.45 billion in cash and stock,
leaving Jean Coutu with a 32% equity stake in Rite Aid itself the third largest U.S. drug store chain
(after Walgreens and CVS Caremark) with some 4,600 stores in 31 states and Washington, D.C., and
2012 sales of US$25.2 billion. In July 2013, Coutu sold the last of its Rite Aid holdings, enabling it
to repay all its debts and still retain a considerable war chest of cash to fund its expansion plans.
Alimentation Couche-Tard Inc. _is one of the largest convenience store operators in the world
with more than 13,000 stores across Canada, the U.S., Europe, Mexico, Japan, China, and Indonesia.
Although the frrm is neither a grocery chain nor a pharmacy chain, the merchandise in its stores
competes with the front-store goods at pharmacies and with various food and snack items sold at
grocery stores. Founded in 1980 by current CEO Alain Bouchard, the rm is headquartered in Laval,
Quebec. It operates 581 corporate stores in Quebec under the names Couche-Tard, Provi-Soir, and
Dpanneur 7 jours, as well as 298 afliated stores such as Tabatou. In Ontario, it has 605 corporate
stores and 214 afliated stores, and in Westem Canada, 295 corporate stores and 71 afliates under
the Mac's, Mike's Mart, Becker's, Daisy Mart, and Winks barmers. Some of these are slowly being
phased out in favour of the dominant Mac's brand. After entering the U.S. market in the early 2000s
under the Mac's brand, the rm acquired the Circle K chain in 2003 and rebranded its existing U.S.
locations to the better-known Circle K banner. Also 470 of ExxonMobils U.S. On the Run stores are
now owned or franchised by Couche-Tard under an agreement announced on 19 April 2009. Finally,
on 19 June 2012, the rm purchased Norway's Statoil Fuel and Retail for $2.8 billion, thus acquiring
the largest chain of petrol stations in Scandinavia and a major beachhead in Northem Europe. In its
2013 scal year ending 28 April 2013, the rm grossed revenues of $35.5 billion, up by $12.6 billion
or 54.7% over the previous year. This was attributable mainly to acquisitions and to an increase in
sarne-store merchandise sales and road transportation fuel volumes. Fiscal 2013 net earnings were
$573 million up 25.2% over scal 2012 for a fth straight year of record prots. Adjusted
EBITDA for scal 2013 was $1,390 million, an increase of $549 million or 65.3% compared with
scal 2012, including a $435.4 million contribution from acquisitions.
Loblaw Companies Limited
Since the turn of the millemiium, Loblaw Companies has been the dominant food and grocery
retailer in Canada, with a share of total industry revenues consistently in excess of 25% and almost
always at least double that of its nearest competitor. The rm, a subsidiary of George Weston Ltd, is
also a leading provider of drugstore, general merchandise, and nancial products & services. Loblaw
is one of Canadas largest private sector employers, with about 134,000 full-time and part-time staff
at its distribution centers and more than 1,000 corporate and franchise stores across Canada. Loblaw
operates under 22 different banners including Loblaws, The Real Canadian Superstore, Fortinos,
Zehrs, Provigo, SuperValu, No Frills, Valu-Mart, T&T, Extra Foods, NG Cash & Carry, and
Wholesale Club. The rm employs 4 distinct store fonnats Superstores (e.g., The Real Canadian
Superstore), Conventional, Hard Discount (e.g., No Frills), and Wholesale with the Conventional
format still accounting for about half of its total retail footprint. Since 2011, Loblaw has reported its

-19-

rtif

results under two operating segments: retail services and nancial services. The rms supermarkets,
drugstores, gas bars, apparel and other general merchandise stores are reported under the retail
segment. Loblaw also provides its customers with credit card services, a retail loyalty program,
insurance brokerage services, banking services, deposit-taking services, and telecommunication
services, all of which are included under its nancial services segment. In 2012, the retail segment
generated $30.96 billion in sales, while nancial services contributed $644 million.
Loblaw traces its begimring to 1919, when Loblaw Groceterias Company Ltd. was started by
Theodore Pringle Loblaw and J. Milton Cork in Toronto. The rm grew to a chain of 150 stores in
Canada and parts of the U.S. by the time Mr. Loblaw died in 1933. In 1947, Mr. Cork sold some of
his Loblaw shares to W. Gareld Weston, president of George Weston Ltd., which then acquired a
controlling interest in the Loblaw chain by the early 1950s. From the mid-1990s through 2004,
Loblaws sales and earnings growth were spectacular. Between 1996 and 2004, the rms sales grew
at a CAGR in excess of 13% (to $26.2 billion in 2004), its operating income increased by nearly 21%
per annum (to $1,652 million), its net earnings soared on average by 24% annually, and book value
per share expanded at a CAGR of 17.7%. Same store sales growth exceeded 4% in every year from
1999 through 2003, before slowing to 1.5% in 2004. Loblaws total store count grew from 921 at the
end of 1996 to 1058 at the end of 2004 on the back of growing capital expenditures that peaked at
$1,271 million and $1,258 million in 2003 and 2004 respectively far exceeding reported depreciation levels of $393 million (2003) and $473 million (2004). Both net earnings and diluted EPS hit
record levels of $968 million and $3.51, respectively, in 2004. As a result, the value of Loblaws
shares increased seven-fold, from $10.29 per share at the end of 1995 to $72.02 at the end of 2004.

((1)

Then the wheels fell off. Beginning in 2005, Loblaws sales and earnings growth stagnated
(see Exhibit 1) as pressures from the increasirrgly-competitive retail grocery market exposed various
weaknesses in its organizational structures, operating productivity, and competitive exibility. Even
a casual reading of Loblaws annual reports from 2005 through 2007 reveals that the company was
unprepared for the changes in its competitive landscape that were taking hold, such as Walmarts
entry into food retailing and the glut of retail space this created. At this time, Loblaw developed a
comprehensive plan to reorganize its operations and systems, but did not appreciate how complex,
disrupting, and time-consuming this process would be. In 2005, it began to restructure of its supply
chain network and reorganize its merchandising, procurement, and operations groups. Loblaw also
established a new national head ofce and Store Support Centre in Brampton, Ontario, and relocated
some general merchandise operations from Calgary to its new Brampton facilities. During 2005,
Loblaw invested $62 million in its supply chain restructuring and $24 million in its merchandising,
procurement, and operations groups recording the total $86 million as a restructuring charge in its
2005 income statement. Company management acknowledged that the initial timetable for its
restructuring efforts had been too ambitious, which resulted in delays in executing planned changes
to its national systems platform and supply chain, which, in turn, disrupted the ow of inventory to
its stores, reducing product availability for its consumers, increasing its operating costs, and
negatively impacting its sales and earnings. Reported net earnings and EPS fell to $746 million and
$2.71, respectively ($802 million and $2.92, respectively, in the absence of the rms restructuring
charges), and the rm cut its capital spending to $1,156 million from the $1,258 million it spent in
2004 (although this reduced spending still exceeded its 2005 depreciation charge of $558 million).
To address the rms structural problems with new eyes, Loblaws senior management team
and board were revamped and Galen G. Weston, the executive head of Loblaws parent, was
appointed as Loblaw Executive Chairman. Nevertheless, in the 2006 Annual Report, the new team

-29again confessed that restructuring Loblaw was proving to be more challenging than expected and
blamed the rms history of acquisitions that had left its organization more complex and less agile
than it should have been. Loblaw closed 19 underperforming (mostly Provigo) Quebec stores, 24
wholesale outlets, and 8 Atlantic region stores, resulting in a $35 million 2006 restructuring charge
for xed asset impairment, store closure, and employee termination costs. In addition, Loblaw
invested a further $8 million in revamping its supply chain and $1 million in reorganizing of its
merchant, procurement, and operations groups. The rm also reduced its inventory by discounting
some of its merchandise taking a $68 million inventory liquidation charge on its income statement.
In addition, Loblaw recorded a non-cash goodwill impairment charge of $800 million on the carrying
value of its 1998 Provigo acquisition. The rms 2006 net earnings and diluted EPS fell to losses of
$219 million and $0.80, respectively (see Exhibit 1) values that would otherwise have been $627
million and $2.29 in the absence of its restructuring and goodwill impairment charges and it cut its
capital spending back to $937 million for the year (see Exhibit 2) to conserve cash.
In 2007, Loblaw recorded another $222 million in restructuring charges, most stemming from
its launch of Project Simplify, which resulted in over 800 employee terminations in a further attempt
to restructure and streamline its merchandising and store operations through the centralization of
some associated functions and the design of new business processes. A further $9 million was spent
on the on-going revamp of the rms supply chain network and $16 million for the closure of stores
in Quebec and Atlantic Canada and in the rms wholesale network. Management also admitted that
operating margins had been pressured by its need to maintain product-pricing competitiveness even
though it had not yet realized the cost savings that its reorganization portended.
Restructuring activities continued throughout the 2008-2012 period. In 2009, Loblaw invested
another $73 million in its information technology supply chain initiatives. Through 2009, Loblaw
had renovated and refreshed 267 stores, increased distribution capacity by 800,000 feetz, and begun
implementing warehouse management systems and transport management systems, as well as an
enterprise resource management (ERP) system from the multinational soware rm SAP. In 2010, it
committed $185 million more to extend its supply chain and information technology capabilities and
deploy its ERP solution (investing $142 million in the latter during the year). Nevertheless, it was not
until 2012 that Loblaw nally rolled out a new national point-of-sale system to standardize the
applications and infrastructure across its network in preparation for converting its entire distribution
center and store network to its new information technology platform. Moreover, it was only in 2012
that Loblaws rst distribution center and rst store went live on the fully-integrated systems that
the rm had struggled for 5 years to design and implement. Loblaw stated its intention to roll out its
new infonnation technology system to many more of its distribution centers and stores during 2013.
Through 7 frustrating years of complex, multi-dimensional restructuring, Loblaws competitive
po ' ' - '
-,--== retail grocery industry deteriorated signicantly. The rms annual sales growth
averaged onl
(see Exhibit 1), its share of overall Canadian retail food and grocery sales fell
from 29.7% to . (see Exhibit 6), and its same-store sales growth lagged behind its two major
supermarket rivals, as shown in Exhibit 1 and the table below.
Same Store Sales
Growth (%)

2006

2007

2008

2009

2010

2011

2012

Loblaw Companies
Sobeys
Metro Inc.

0.8
2.4
1.2

2.4
2.8
n.a.

4.2
5.2
n.a.

(1.1)
1.9
4.0

0.6
0.2
n.a.

0.9
1.4
n.a.

(0.2)
1.3
1.2

-21Nevertheless, many industry analysts believe that Loblaws fortunes would have suffered
even more were it not for the rms highly successful and recently expanded private-label product
portfolio. Loblaw introduced its original No Name private brand of discount products in 1978 and
expanded its private label portfolio in 1984 with the introduction of its premium President s Choice
line of products. Then president Dave Nichol became a celebrity by attesting to the quality of his
President s Choice products (e.g., the Decadent Chocolate Chip Cookie) on TV. Ever since their
introduction, Loblaws private label products have increased their appeal to Canadian shoppers, such
that President s Choice and N0 Name are now Canadas No.1 and No.2 consumer packaged brands.
Loblaws entire portfolio of private label products (of which there are more than 8,500 650 of them
launched in 2012) generated sales of $9.4 billion in 2012 (down from $9.5 billion in 2011) and
represented more than 30% of the rms 2012 food and grocery sales and about 60% of Canadas
entire private-label grocery sales. Indeed, Loblaws private label sales have accounted for more than
27% of its total food and grocery sales each year since 2009, and the appeal of these products is seen
as one of Loblaws greatest strengths. Leveraging this appeal and mirroring a marketing initiative
pioneered by Britains Tesco chain in 1998, Loblaw launched a new premium private-label barmer,
Black Label, in September 2011, consisting of 21 3 indulgent-but-affordable products marketed in
140 selected stores in Ontario, Quebec, and Nova Scotia. Currently, premium private label products
are the fastest growing segment in the private label space. At about the same time, and reecting
Loblaws increasing focus on ethnic shoppers, the nns T&T Supermarket subsidiary introduced its
own mainstream private label with an offering of over 60 Asian cooking ingredients and home-meal
solutions. Finally, in 2011 Loblaw opened 6 stand-alone Joe Fresh stores featuring its Joe Fresh
line of privately-branded goods that cater to consumers looking for organic products.
While private label products are seen as one of Loblaws strengths, its PC Points loyalty
program is currently seen as one of its competitive weaknesses. With 2-million-plus MasterCard
customer accounts and $125 million in PC Point rewards redeemed annually, Loblaws PC Points
loyalty program has nevertheless become a bit of an anaclrrorrism in the Canadian loyalty space.
While its key rivals have either recently introduced next generation loyalty programs (e.g., Metros
metro&moi program) or refreshed their programs with conversion capabilities (Club Sobeys), PC
Points continues to: require shoppers to bank with PC Financial to become a member; remain a
monoline program with no conversion capability for its points rewards; and lag with respect to its
consumer analytics capabilities. Analysts have opined that Loblaw will be able to monetize the rll
benets of its loyalty program only by mining the big data that its use can provide to obtain truly
granular insights into its customers product preferences and spending behaviors. This will require a
fundamental shi in Loblaws conception of its PC Points and the realization that, in next generation
loyalty programs, the value for Loblaw is in analyzing the data collected and for its customers in a
free-oating social (loyalty) currency. The completion of Loblaws IT infrastructure overhaul may
make it possible for the rm to realize the enhanced marketing potential (e.g., targeted promotions)
of a next generation loyalty program, especially one that does not tie customers to a PC Financial
membership (which lowers the perceived value ofits points) but does allow for conversion of PC
Points into rewards offered by leading coalition loyalty programs (e.g. Aeroplan Miles, Esso Extra).
Along one dimension, however, Loblaw has advanced its PC Plus loyalty card to catch the
wave of tech-savvy consumers who are increasingly relying on their mobile devices to enhance their
shopping experiences. Loblaws customers can now download the PC Plus app on their smartphones
and receive promotional offers that the company has determined from their previous buying patterns
will appeal to them. To obtain their discounts, customers scan the virtual coupons they receive
digitally at store checkout counters when they make their associated purchases.

-22On December 6, 2012, Loblaw announced its intention to create a real estate investment trust
(REIT) to be known as the Choice Properties REIT to acquire about 35 million feetz of Loblaws
real estate assets worth approximately $7 billion. In July 2013, the REIT was launched successfully
with the completion of a $460 million initial public offering of trust units to investors and the
placement of a number of sizeable debenture issues. This transaction unlocked the value of most of
Loblaws real estate assets which prior to the creation of the REIT had contributed very little to the
companys market value and, in doing so, gave an ovemight 24% boost to Loblaws share price
(from about $33.50 to $41.50) just after the original announcement of the deal.
As Loblaw rolled through the rst half of 2013, there were signs that it had nally tumed the
corner and begtm a genuine, and possibly strong, recovery from 7 years of poor operating results and
frustrating restructuring initiatives undertaken in a ercely competitive enviromnent dominated by
the emergence of Walmart and Costco as major food retailers and the resurgence of its Sobeys and
Metro arch-rival supermarket chains. Food and grocery sales for the rst two quarters of 2013 were
2.6% higher than those achieved during the corresponding 2012 quarters, and same store sales grew
1.9% between these two periods. Loblaws operating margin during the rst half of 2013 was 4.0%,
up from 3.6% during the corresponding 2012 period. Some 23 stores were opened (while 13 were
closed) during the 12 months to the end of June 2013, adding 0.4 million feetz (or 0.8%) to the rms
overall retail footprint. Loblaw continued to roll out its new IT system across its distribution centers
and stores. Signalling its new condence, Loblaws board raised the rms dividend-payment rate to
$0.96 annually during the rst quarter of 2013, up from the $0.88 rate that it had established during
2012s third quarter. Nevertheless, Loblaws future still seemed to hang precariously on the success
of its expensive, new, integrated IT infrastructure in reducing the rms operating costs, allowing its
supply chain and merchandise offerings to be more responsive to shoppers changing tastes and
preferences, and providing its customers with a more appealing in-store experience.
Shoppers Drug Mart Corporation
The Shoppers Drug Mart Corporation, headquartered in North York, Ontario, is Canada's
largest retail pharmacy chain, with 51,300 employees and 2012 sales of approximately $10.8 billion.
The company is the licensor of full-service retail drug stores operating under the names Shoppers
Drug Mart and, in Quebec, Pharmaprix. Founded in 1962 by Toronto pharmacist Murray Kofer, the
rm has grown to a network of more than 1,240 full-service drug stores situated in prime locations
across Canada. These conveniently located stores are owned and operated by licensed associateowners who have helped build the f1rms nationally-trusted brand. The fnm also licenses or owns 59
medical clinic pharmacies operating under the names Shoppers Simply Pharmacy and Pharmaprix
Simplement Sant, as well as 6 Murale luxury beauty destinations. In addition, Shoppers owns and
operates 62 Shoppers Home Health Care stores, which sell and service assisted-living devices,
medical equipment, and durable mobility equipment to institutional and retail customers. Beyond its
retail network, the rm owns Shoppers Drug Mart Specialty Health Network Inc., a provider of
specialty drug distribution, pharmacy, and comprehensive patient support services, and MediSystem
Technologies Inc., a supplier of pharmaceutical products and services to long-term care facilities.
Shoppers Drug Mart has successrlly leveraged its leadership position in pharmacy and its
convenient store locations to capture a signicant share of the market in front-store merchandise,
including over-the-counter medications, health and beauty aids, cosmetics and fragrances, greeting
cards and other seasonal products, and everyday household essentials. The rm also offers a broad
range of high-quality private label products marketed under the trademarks Lia Brand, Quo, Etival

-23-

Laboratoire, Bala, Everyday Market, Simply Food, Nativa, Bio-Life and Easypix, among others, and
value-added services such as its Healthwatch program which offers patient counselling and advice
on medications, disease management and health and wellness and the Shoppers Optimum program,
one of the largest retail loyalty programs in Canada.
The Shoppers organization traces its origins to a drug store opened by Leon Kofer in Toronto
in 1921. His son, Murray Kofer, inherited his fathers two Kofer's Drugs pharmacies in suburban
Toronto in 1941. Murray Kofer revamped the concept of the 20th century drug store in Canada
by removing the soda fountain and emphasizing the dispensary, requiring his pharmacists to wear
starched white coats as a symbol of their professionalism. In the mid-1950s, he began acquiring other
drug stores and organized them around a then-novel franchising concept individual pharmacist
associates owned and operated their own stores within his system and shared in the prots, taking
advantage of the opportunity to combine independent business ownership, professional practice, and
cooperative services under one brand, supported by ,Kofers corporate entity. By 1962, Kofer's
had grown to a chain of 17 pharmacies, which Kofer subsequently renamed "Shoppers Drug Mart."
Shoppers Li: Brand was created as a house brand and the rst Life-brand products were introduced.
In 1968, Shoppers grew to 52 stores in Ontario by merging with 33 Plaza Drugstores. In 1970,
the rm purchased 100 Cumringham Drug Stores in BC and Alberta. Shoppers then opened the rst
Pharmaprix store in Qubec in 1972. Two years later, 26 Lord's Supervalue Pharmacies in Atlantic
Canada joined the Shoppers Drug Mart family. In 1986 it bought Super X Drugstores, a 72-store
Ontario chain. In 1992, Shoppers bought up the western Canadian Pinder's Drugs chain, and acquired
135 Big V Drugstores and 24 Bi-Rite Drug Stores (in westem Canada) in 1995. In 1996, the rst
Shoppers Home Health Care store was opened. Along the way, Shoppers introduced its Healthwatch
program, a collection of supportive tools and services for pharmacy customers. In 2000, Shoppers
launched its Optimum loyalty program, which quickly became one of the largest and most successful
loyalty programs in Canada, currently boasting over 10 million members.
In 2002, Shoppers Drug Mart introduced its rst large format stores, with more space, a sleek
and modern look, and a stronger focus on cosmetic products. Typically the cosmetics section faced
the entrance, with the pharmacy counter at the back and a convenience food section, called Food
Essentials, near the front cash. In most suburban areas, this new format took the form of new or
relocated stores, typically in stand-alone "big-box" locations as opposed to smaller mall or strip-mall
locations. In 2003, Shoppers opened its rst BeautyBoutique, featming an open-sell display and
unbiased approach to prestige cosmetic retailing. Today, there are more than 305 BeautyBoutiques
across Canada. In 2007, Shoppers introduced its Simply Pharmacy outlets - 1,000-foot retail
pharmacies conveniently located in medical buildings or clinics. Shoppers rst Murale beauty store
was opened in Ottawa in 2008, and the rm launch an exclusive line of more than 200 organic food
products under the Nativa private brand.
During 2008, as well, the rm purchased Calea HealthAccess, a leading provider of specialty
drug distribution and patient support services, which then became Shoppers Drug Mart Specialty
Health Network. In 2009, Shoppers acquired Plasmid BioComrnunications Inc., a Toronto-based
rm specializing in drug reimbursement. In 2010, reecting its customers increasing utilization of
generics, Shoppers introduced a proprietary line of generic prescription drugs, under the SANIS
trademark. These were designed to control costs, ensure better in-stock positions, build loyalty with
patients and third-party payers, increase Shoppers penetration of the retail generic drug market, and
ultimately enhance pharmacy margins and protability. Finally, in 2012 as the rm recognized that

-24-

technology was becoming a crucial enabler for efcient pharmacy management in an enviromnent
where medical records were shifting to an electronic format for greater access, efciency and safety
- the company launched the Shoppers Health Care Portal, a website designed to provide health care
professionals with access to drug reimbursement information and clinical tools with the goal of
improving patient care. To date, more than 2,000 Canadian health care professionals have registered
for the portal, 74% of whom are physicians.
The majority of Shoppers sales are generated from its retail drug store network and the
majority of the rms assets are used in the operations of these stores. Consequently, Shoppers
presents only one operating segment in its consolidated nancial statements, although it discloses
supplementary information partitioned between pharmacy sales and front-of-store sales. The revenue
generated by Shoppers Drug Mart Specialty Health Network and by MediSystem Technologies is
included with its pharmacy sales, while the revenue generated by the Shoppers Home Health Care
stores and the Murale stores is included with the front-store sales of the rms retail drug stores. In
recent years, Shoppers has been moving to decrease its reliance on pharmaceutical sales and increase
sales of front-store items, such as food and cosmetics.
In 2012, Shoppers opened 41 new drug stores (23 of which were relocations) and completed 12
major drug store expansions. It also acquired 33 drug stores. In addition to these investments, 15
stores were converted to smaller prototype formats and 5 smaller stores were consolidated or closed.
The rm also relocated 3 Shoppers Home Health Care stores, closed 2 Murale stores, and closed one
Shoppers Home Health Care store_ in 2012. As a result, Shoppers retail selling space increased by
3.4% during 2012 to 13.7 million feet at year end. The rm stated its intention to continue investing
in its store base, with the goal of increasing the number and average size of its full-service stores. Its
plan for 2013 called for spending $275 million, with approximately 70% of this invested in its store
network, including the addition of 30-35 new drug stores, renovations and enhancements to existing
stores, and 15-20 major drug store expansions. This activity was expected to result in a 3.0%
increase in retail selling space. The balance of its capital spending would be directed to investments
in supporting inastructure, including information teclmology and supply chain improvements.
Historically, Shoppers capital expenditures and acquisitions have been nanced largely from
intemally generated cash ow, supplemented when necessary tln'ough additional borrowings.
Over the 2004-to-2012 period, Shoppers sales revenues, operating earnings, net earnings,
earnings per share (EPS), and dividends per share (DPS) all grew at impressive rates (see Exhibit 3
for 2006-2012 gures). Over this period: sales grew at a CAGR of 6.4%, from $6.6 billion to $10.8
billion; operating income rose at a CAGR of 6.4%, from $537 million to $881 million; net earnings
increased at a CAGR of 8.9%, from $307 million in 2004 (and $364 million in 2005) to $608 million
in 2012; fully-diluted EPS grew at a CAGR of 9.-3%, from $1.43 to $2.92; and DPS increased at a
very healthy CAGR of 13.0%, from $0.40 to $1.06. Nevertheless, the growth trajectory of most of
these performance measures plateaued during 2012, as Shoppers absorbed the impact of further
provincial-governrnent drug reform initiatives designed to manage their provincial decits and
control rising health care costs. Despite these headwinds, Shoppers announced in April 2013 that it
was raising its DPS to an annual rate of$1.14 in July 2013.
During 2012, Shoppers total sales rose by 3.1%, to $10.8 billion, driven by strong voltune
growth in retail pharmacy, continued sales and market share gains in its front-store items, and better
performance in its health care businesses. Greater acquisition activity and spending on store development also had a positive impact on sales growth. On a same-store basis, sales increased 2.2%.

-25-

Phannacy sales increased 2.1% in 2012 to $5.1 billion from $5.0 billion in 2011 and were up
1.2% on a same-store basis, as the rm experienced strong growth in the number of prescriptions
lled, along with sales gains at its MediSystem Technologies and Specialty Health Network units. In
2012, the number of prescriptions dispensed at retail exceeded 100 million, a year-over-year increase
of 5.4%. However, the average prescription value declined by 4.3% in 2012 because of governmentmandated reductions in generic prescription reimbursement rates (pursuant to on-going drug system
reforms in most provincial jurisdictions) combined with greater generic prescription utilization rates.
In 2012, pharmacy sales accounted for 47.3% of Shoppers sales mix compared to 47.8% in the prior
year. Shoppers front-store sales increased 4.0% in 2012 to $5.68 billion from $5.46 billion in 2011
and were up 3.1% on a same-store basis, with the rm posting sales gains in all core categories, led
by cosmetics, over-the counter medications, and food and confections. Growth was attributed to both
additions in retail selling space and effective marketing campaigns and promotions.
Shoppers 2012 net earnings were $608 million or $2.92 per share, compared to net earnings of
$614 million or $2.84 per share in 2011 (see Exhibit 3). During 2012, strong sales growth, especially
at the front of the store, combined with a focus on promotional effectiveness and margin expansion,
offset much of the downward pressure on pharmacy margins. Operating and administrative expenses,
including depreciation and amortization expense, grew by 4.8% over 2011, driven by higher storelevel expenses related to store network expansion and additional investments in supporting infrastructure. Lower nance expenses and a reduction in Shoppers effective income tax rate were other
factors that positively impacted 2012 net earnings. In addition, the cumulative impact of the mrs
share repurchase program had a positive impact on EPS growth, as there were 3.7% fewer (weighted
average) fully-diluted shares outstanding compared to 2011. (During 2011 and 2012, Shoppers
repurchased 5,086,200 and 7,949,400 of its common shares, respectively, under its board-approved
share-repurchase program, implemented by way of a normal course issuer bids effected through the
Toronto Stock Exchange facilities. As result, Shoppers total issued and outstanding shares dropped
by approximately 6% between the end of 2010 and the end of 2012.)
Industry analysts have characterized Shoppers associates model as a competitive strength of
the rm. Associate-owned stores comprise the majority of Shoppers store network. These associateowned stores are separate legal entities and Shoppers does not have any direct or indirect ownership
in them. Under its licensing arrangements with associates, Shoppers provides capital and nancial
support to enable associates to operate their stores without any initial investment. Shoppers also
provides a package of services to facilitate the growth and protability of each associates business.
Under its licensing arrangements, Shoppers receives a substantial share of associate-store prots
with associates guaranteed a minimum annual income of $120,000 and additional earnings
dependent on store performance. Shoppers consolidates the associate-owned stores in accordance
with Intemational Accounting Standard 27, Consolidated and Separate Financial Statements, based
on the concept of control under IAS 27. However, as the associate-owned stores remain separate
legal entities, consolidation of these stores has no impact on the underlying risks facing Shoppers.
Shoppers Optimum loyalty card program is another competitive strength that industry analysts
frequently cite. The Optimum loyalty card program is exclusive to Shoppers Drug Mart/Pharmaprix
stores. Members collect Optimum points that may be redeemed on purchases within the f1rms stores.
Optimum members receive 100 points for every 10 dollars spent at the store. This excludes the
purchase of lottery tickets, tobacco products, transit tickets/passes, prescription items, Canada Post
goods, and non-Shoppers gift cards. Promotions for bonus point collection (e.g., 20x the points) or
redemption are offered regularly. There are now more than 10 million active Optimum cardholders,

-26-

and Shoppers intends to employ evolving technologies to exploit its massive Optimum database to
target its promotional efforts more effectively. This is bound to continue the trend that has seen an
increasing proportion of Shoppers sales generated from loyalty-points and other promotions.
In April 2012, Shoppers launched the e-commerce component of its murale.ca website for
Murale, its luxury beauty destination. The transactional site invites customers to shop for over 6,000
beauty items and share their favourite products and reviews via social media. The Murale online
shopping platfonn has allowed Shoppers to grow its digital presence, and feedback from murale.ca
customers is enabling the mr to use the information gathered to initiate further online opportunities.
Shoppers management is also aware that almost half of Canadians own a smartphone and more than
44% follow brands on social networking sites. As result, the rm plans to expand the way it interacts
with its tech-savvy customers by launching a mobile Shoppers Optimum card in 2013.
According to commentary in its 2012 annual report, Shoppers expected its total sales to grow
by between 3.0% and 4.0% in 2013 (the actual total sales growth for the rst half of 2013 was 3.6%,
in line with managements forecast). This expectation was based on projected sales growth of 4.0%
to 5.0% in pharmacy, underpinned by an anticipated above-market growth in prescriptions lled and
an increase in planned acquisitions (however, actual rst half 2013 pharmacy sales increased by only
3.2%, as strong growth in the number of prescriptions lled was offset by a further reduction in the
average prescription value). On a same-store basis, the rm expected pharmacy sales growth of 1.5%
to 2.5% in 2013 (however the growth realized during the rst half of 2013 was only 1.4%). In frontstore items, Shoppers expected to generate sales growth of between 2.5% and 3.5%, reecting both a
reduced pace of network expansion and the anticipated impact of Targets entry into the market for
these goods with its planned opening of 124 stores during 2013 (nevertheless, Shoppers exceeded its
projection during the rst half of 2013, with a 3.9% growth rate, and attributed this to increased
pharmacy trafc combined with higher average basket sizes at checkout counters driven by increased
promotions). On a same-store basis, Shoppers forecasted 2013 front-store sales growth of between
2.0% and 2.5% (but actually achieved a 2.9% increase during the rst half of 2013 as compared to
the comparable 2012 period). While Shoppers offered no prot forecasts for 2013, its actual rst half
results as compared with its 2012 rst-half gures were: operating income decreased by 0.8%;
operating prot margin declined by 34 basis points to 7.70 %; net earnings fell to $266 million from
$268 million, or by 0.8%; while diluted EPS rose from $1.27 to $1.31 largely because Shoppers
repurchased 4,049,400, or 2.0%, of its outstanding shares.
Media and Analyst-Community Reactions to the Announcement of the Merger
In the couple of days irmrrediately aer the Loblaw-Shoppers merger armouncement, Cam
Williams and his colleagues at Hercules Capital Management took note of the media and analyst
community reactions to the proposed merger to inform themselves of the information that investors
were being exposed to and to supplement their own empirical analyses with the assessments of other
analysts. The following is a summary of what Williams and his team heard and read.
There was general agreement among analysts including Boyd Erman writing in the Globe
and Mail on July 16' that it was a conuence of particular events in mid-2013 that both motivated
and enabled.Loblaw to succeed in persuading Shoppers board, and in particular Shoppers chairman
Holger Kluge, to approve Shoppers sale to Loblaw. It came to light that Loblaw had tried to buy
Shoppers in early 2011 but was not able to offer a high enough price to interest Shoppers board at
that time. The primary reason was that Loblaw, with its well-known supply chain and logistics

-27-

problems, was trading at a valuation discount to Shoppers - that is, at a lower price-eamings (P/E)
multiple and therefore any share-exchange offer would have required George Weston to sacrice
too much of its ownership-control position in Loblaw to consummate a deal. Nor was a straight cash
takeover a realistic possibility since Loblaw simply did not have the cash resources to effect such a
deal while it was investing heavily in its own restructuring. But Galen Weston, Loblaws executive
chairman feeling the competitive heat from Walmart and Costco and the pending entry of Target
into the Canadian grocery space - continued to covet the acquisition of Shoppers.
Then Loblaws fortunes changed. First, Loblaw created its Choice Properties REIT to acquire
much of the f1rms real estate assets for approximately $7 billion. Contemplating the completion of
this transaction in July 2013 effectively enabled Loblaw to increase the cash component of any offer
it might make for Shoppers, reducing the ownership-dilutive impact from parent George Westons
perspective. The original announcement of Loblaws plan to monetize its real estate assets caused
its P/E ratio to jump from about 13 times to over 1.5 times earnings, and, as investors perceived that
Loblaws long restructuring process was coming to a successful conclusion, its P/E ratio rose further
to over 17 times. At the same time, Shoppers share price which in earlier years traded at 17 to 23
times earnings (see Exhibit 3) had subsided to a 14-to-15-times P/E range during the rst half of
2013, as investors witnessed the depressing effect that provincial generic drug pricing reforms were
having on Shoppers pharmacy margins. These opposite P/E adjustments now made the math for a
share exchange deal more attractive to Loblaw and would allow an-apparently-more-lucrative o'er
to be put before Shoppers board. However, such valuation advantages can be eeting, and when
Sobeys parent Empire armounced on 12 June 2013 that it had concluded an agreement to acquire
Canada Safeway Ltd. creating an even stronger domestic grocery rival Galen Weston knew it
was time to approach Holger Kluge again with a sweetened bid, having already persuaded BofA
Merrill Lynch to underwrite a $5.1 billion debt package to fund the cash part of the takeover offer.
Perry Caicco, a retail analyst at CIBC World Markets, described the dilemma facing Canadas
incumbent grocery chainsin a research report released just after the Loblaw-Shoppers deal was
announced. Caicco estimated that total retail grocery sales in Canada would grow by $1.6 billion
during 2013 (with little or none of this attributable to selling-price ination) but, largely because of
Targets entry into the market and aggressive expansions by Wahnart and Costco, retail selling space
additions would absorb almost all of the absolute sales growth leaving little or no room for sarnestore sales growth at incumbent chains and little incentive for them to add net new stores to their
existing rosters. These industry dynamics would, in Caiccos opinion, force Loblaw to nd new
ways to attract customers.
Caicco also expressed reservations about the extent of the sales synergies that Loblaw might be
able to realize with its takeover of Shoppers. He cautioned that it was not prudent to assume that
simply adding the other guys store brands to ones shelf displays would grow sales faster than the
grocery items they would replace. Any consideration of the cross-selling of products between
Loblaw and Shoppers, he continued, had to be offset by the potential for camribalization-related sales
losses because what had been uniquely available at only one of the rms would now be available at
both of them. As an example, he pointed to Loblaws strategy of pushing its health and wellness
products by leveraging off an increase in its prescription drug trafc, which now, however, might be
achieved at the expense of reduced pharmacy sales at Shoppers. Caicco opined that Loblaws making
its core grocery stores more productive by adding prescription drug trafc had become problematic
with its acquisition of Shoppers. For this and other reasons, Caicco estimated that Loblaw would be

-23able to realize total amiual merger synergies of only $225 million after 3 years, phased in $100
million in the rst year, $65 million during year 2, and $60 million by the end of year 3.
Given the dismal growth prospects for core grocery sales by incumbent supermarket chains,
Jolm Shrnuel, in a 15 July 2013 Financial Post article, highlighted the widespread desire among
Canadas grocery chains to buy pharmacy businesses to shore up their growth rates. He noted that
when Canadian general merchandiser Zellers went out of business in 2012, there was a scramble
among grocery chains to scoop up its prescription les. Loblaw bought $25 million worth of these,
while Metro Inc and The Overwaitea Food Group in BC purchased the rest. Loblaws purchase
demonstrated that it was serious about getting deeper into the pharmacy business. Furthermore, when
Sobeys bought Canada Safeway, it also acquired the latters sizable pharmacy operations. Slrrnuel
pointed out that the massive distribution channels maintained by the major grocery chains would
offer many benets to their associated smaller-scale pharmacies, while drug retailing would offer the
grocers access to an expanding demographic of seniors and provide higher margins to compensate
for the low margins inherent in grocery retailing. He also noted that in-store pharmacy operations are
attractive to grocers because they reliably bring back the same customers, whereas other forms of
retailing have to use loyalty card programs and expensive promotions to retain customer allegiance.
A number ofj ournalists judged that the greatest benet to Loblaw from the proposed merger
was its resultant ability to access Shoppers smaller-format stores situated in high-density central
urban areas that Loblaw could never serve effectively with its big-box supermarket stores designed
for lower-density suburban locations. These commentators observed that younger consumers are
embracing downtown lifestyles close to their ofce jobs, and appreciate the convenience and timesaving of being able to pick up necessities from a local store on their way home from work, rather
than driving to some larger outlet in suburbia. These so-called Millennials are a much-sought-after
demographic cohort because they behave differently from the generations that preceded them. They
are more digitally connected and busy, and are poised to control a massive amount of purchasing
power as they mature. Consequently, retailers are trying to build product awareness and loyalty with
this cohort now so that it can be harvested in the future wherever these Millemrials eventually settle.
Loblaws hope is that these young consumers will treat Shoppers as their local convenience store and
pick up many of Loblaws private-label packaged and fresh foods while they are buying their household necessities or beauty products. In addition, many seniors prefer to stick close to their downtown
condo residences when running errands, and may be enticed to buy some President Choice products
when they visit Shoppers pharmacy counters and postal outlets.
In his assessment of the Loblaw-Shoppers merger, Bobby Hagedorn, an equity analyst with
Edward Jones, made the case that Loblaw could benet greatly from adopting Shoppers associates
model for some of its own smaller-format, specialty stores. Hagedorn noted that pharmacistassociates gain important insights into the local populations they serve through their interactions with
customers on a daily basis. Moreover, these ownership-incented pharmacists generally become the
relatable faces of their stores and of the brands that their stores offer, and the trust that patrons place
in the pharmacist who lls their prescriptions can carry over to the front-store products he/she sells.
Finally, the risk-reduction benets of the proposed Loblaw-Shoppers merger were cited by
joumalist Scott Barlow in a 16 July 2013 Globe and Mail article titled Loblaws boring, protable
future. He proposed that the expanded retail reach of the merged rm, along with the realization of
various cost synegies, would create an enterprise that could more reliably grind out predictable
earnings growth and dividends than either constituent rm on its own. Moreover, he envisioned

-29-

\
J1

reduced risk owing from the diversication across Loblaws multi-aged grocery shoppers and the
seniors frequenting Shoppers pharmacy counters. Finally, Barlow pointed out that both drug stores
and grocers are counter-cyclical businesses that, in Canadas current growth-constrairred economy,
might fetch a higher P/E multiple when combined if they could promise more dependable (less
volatile), if slow, earnings growth.
Cam Williams Decision Problem
It was now the morning of Wednesday, July 17. It had taken Williams team two days to pull
together the quantitative and qualitative material that he and his colleagues would need to formulate
their recommendations to Hercules Senior Investment Committee regarding their clients holdings
of Loblaw and Shoppers shares. Williams had scheduled a team meeting team for 1:00 pm that day
in anticipation of their being able to thrash out a set of recommendations and supporting analyses
that he could write up and e-mail to the members of the Senior Investment Committee by the end of
the day, so the Committee could make its nal decision prior to the market opening on Thursday,
July 17', and send appropriate instructions to the mrs head equities trader.

-7 Q -

As he perused the exhibits and analyses in ogof hiin, Williams was conscious of a number
of fmancial market factors that would likely pi; a role in his teams valuation analyses. Ten-year
Canada bond yields were hovering mom , while the Toronto stock market as proxied by
the S&P/TSX Composite Index had rise
106 points from its closing level the previous week,
partly due to the jump in the pricesof Loblaws and Shoppers shares after the announcement of
their merger plans. Reecting afm"or Investment Committee consensus, Hercules had been using a
market riskpremium (MRP) of .5%lfor its Canadian equity valuations since the beginning of 2013.
However, Williams had just fmr
reading a paper (published 26 June 2013) from Spains IESE
Business School by Pablo Femandez, Javier Aguirreamalloa, and Pablo Linares, titled Market Risk
Premium and Risk Free Rate Used in 51 Countries in 2013: a Survey with 6,237 Answers, in which
the authors found that the median Canadian vl-'-' used for 2013 by the 110 academics and market
practitioners who answered the survey w
while
these same responders considered the
appropriate ;isk'ee rate for Canada in 20
o be 2.0% which Williams judgementally adjusted
upward t<2.6Z/in light of the 11111 up in North erican rates during May and June.

V L pp

Q T5/.

Loblaws shar>priee'was hovering in the $48.50'tT>_$48T60 range as Williams poured over his
teams ndings, while Shoppers share price, at $60.25, was still reecting its initial exuberance over
the Loblaws offer. It would now be up to Williams and his Canadian Equity Team to assess whether
or not the potential synergies and other valuation effects of the proposed Loblaw-Shoppers merger
were sufcient to justify the enthusiastic post-armouncement market-price reactions in the merging
rms shares. Depending on the results of their analyses, Williams and his team would either be
recommending that Hercules: (a) maintain its Loblaw and Shoppers holdings; or (b) sell some or all
of its Loblaw positions into the current market, while accepting Loblaws offer for all its Shoppers
holdings; or (c) sell all its Shoppers shares into the market on Thursday along with some or all its
Loblaw holdings, with its remaining commitment to Loblaw shares contingent on the condence of
his teams assessment about Loblaws post-merger valuation.

-30APPENDIX A
ABRIDGED VERSION OF LOBLAWS PRESS RELEASE ON JULY 15, 2013

Loblaw Companies Ltd to acquire Shoppers Drug Mart for $12.4 bn in cash and stock
Transformational combination brings together two iconic businesses to deliver more choice, value, and
convenience to help Canadians live life well
Combines best-in-class pharmacy and food businesses to create a unique retailer with unmatched
capabilities in health & wellness and nutrition
- Loblaw gains powerful footprint in the important and growing small-urban store sector
- Retaining its name and brand, Shoppers Drug Mart will operate as a separate division of Loblaw and
expand its product offerings to include Loblaw's private label and convenience food

Combined company generated, on a 2012 proforma basis, revenues in excess of $42 billion, EBITDA of
$3 billion, and annual free cash ow of $1 billion
Loblaw Companies Limited (TSX: L) and Shoppers Drug Mart Corporation (TSX: SC) today announced a
denitive agreement under which Loblaw will acquire all of the outstanding Shoppers Drug Mart common
shares for $33.18 in cash plus 0.5965 Loblaw common shares per each Shoppers Drug Mart common share,
on a fully pro-rated basis. Using the Loblaw closing common share price on July 12, 2013, this amounts to
$61.54 per Shoppers Drug Mart common share. This price represents a 29.4% premium to the 20-day,
volume-weighted-average price of Shoppers Drug Mart common shares as of July 12, 2013.
This strategic union will enhance the companies competitive positioning in an evolving retail landscape,
creating new growth opportunities for shareholders, more and better choices for customers, and greater
convenience through Shoppers Drug Mart's footprint in the important and growing small-urban store sector.

Creating Compelling New Blueprint for Serving Canadian Customers

"This transformational partnership changes the retail landscape in Canada. With scale and capability, we will
be able to accelerate our momentum and strengthen our position in the increasingly competitive marketplace,
said Galen G. Weston , Executive Chairman of Loblaw. "This combination creates a compelling new blueprint
for the future, positioning us to capitalize on important trends in society, from the emphasis on health,
wellness and nutrition, to the imperatives of value and convenience."
"Our custonier proposition is at the heart of this combination," said Vicente Trius, President of
Loblaw. "Together, we will be able to signicantly enhance the customer experience by offering even greater
assortments, service, value and convenience while preserving the unique shopping experiences that make

both companies leaders in their respective segments. We are extremely happy to welcome Shoppers Drug
Mart and its talented people, including their entrepreneurial and trusted Associate-owners, who are wellknown for their patient care and friendly customer service. We intend to preserve the great strengths of what
the company has built by keeping Shoppers Drug Mart as a separate division of Loblaw, with its own
dedicated management team led by Domenic Pilla.
"This acquisition also will allow us to accelerate our success in driving growth and protability at Loblaw
organically. Our customer proposition continues to deliver results, and l am enthusiastic about the prospect of
value creation opportunities on multiple fronts," Mr. Trius concluded.
Domenic Pilla, President and Chief Executive Ofcer of Shoppers Drug Mart, said: "We are delighted to
partner with Loblaw to leverage our combined strengths. For our shareholders, this transaction provides
signicant and immediate value, as well as the ability to benet from future upside by virtue of their continued
ownership of shares in the combined company. For our Associate-owners and employees, who are a valued
part of the equation, it provides the opportunity to pursue rewarding careers as we grow together. And for our
customers, it provides more locations with an enhanced mix of products and offerings that contribute to the
good health of Canadians."

-31-

Financial Highlights
On a proforma basis, the combined company generated in excess of $42 billion in revenue, $3 billion in
EBITDA, and $1 billion in free cash ow* in 2012. The transaction is expected to lead to double-digit
accretion, adjusted for intangible amortization, in Loblaw earnings per share in the rst year.
The combination is expected to yield annual cost synergies of $300 million by year three, phased in evenly
over the rst three years following closing. These synergies are not dependent on any store closings.
The total consideration will consist of approximately 53.9% cash and 46.1% Loblaw common shares.
Shoppers Drug Mart shareholders will have the ability to choose whether to receive $61.54 in cash or 1.29417
Loblaw common shares plus $0.01 cash for each Shoppers Drug Mart share held, subject to pro ration. The
maximum amount of cash to be paid by Loblaw will be approximately $6.7 billion and the maximum number of
Loblaw common shares to be issued will be approximately 119.9 million, based on the fully diluted number of
Shoppers Drug Mart shares outstanding.

Shoppers Drug Mart shareholders, who will own approximately 29% of the combined company, stand to
benet from substantial upside over the long-term, driven_ by the combined company's strategic position and
achievement of full run-rate synergies.
Loblaw has structured the nancing with the intent of maintaining its current BBB-mid credit rating. Loblaw will
nance the cash element of the transaction with available cash resources and committed bank facilities fully
underwritten by Bank of America Merrill Lynch. These committed facilities consist of a $3.5 billion term loan
and a $1.6 billion bridge loan that Loblaw plans to replace primarily through issuance of unsecured notes. The
combined company's signicant cash ow will allow for rapid debt repayment and will ensure that Loblaw will
have ample liquidity and maximum exibility to support ongoing growth prospects, acquisitions & investments.

llj

George Weston Limited, Loblaw's controlling shareholder, has entered into a voting agreement in support of
the transaction. To nance a portion of the cash consideration, Weston has agreed to subscribe for $500
million of additional Loblaw common shares at a price of $47.55 per share, Loblaw's closing share price on
July 12, 2013. After giving effect to this investment, Weston's voting ownership will be approximately 46% of
Loblaw's common shares upon completion of the transaction.

l
'2

Approvals and Closing Conditions

.| i__

The transaction will be carried out by way of a court-approved plan of arrangement and will require the
approval of at least 66 2/3% of the votes cast by the shareholders of Shoppers Drug Mart at a special meeting
expected to take place in September 2013. Under applicable TSX rules, the transaction also requires the
approval of Loblaw shareholders by majority vote, as the number of Loblaw common shares to be issued in
the transaction exceeds 25% of the total number of outstanding Loblaw common shares. As Weston holds
approximately 63% of Loblaw's common shares, Loblaw expects that the TSX will accept Weston's
agreement to support the transaction as evidence of shareholder approval and not require Loblaw to hold a
shareholder meeting. ln addition to shareholder and court approvals, the transaction is subject to compliance

with the Competition Act and certain other closing conditions customary in transactions of this nature. Loblaw

and Shoppers Drug Mart anticipate that the transaction will be completed within six to seven months.
Further information regarding the transaction will be included in the management proxy circular expected to
be mailed to Shoppers Drug Mart shareholders in August. Copies of the arrangement agreement and mgt
proxy circular will be available on SEDAR at www.sedar.com. The transaction will provide a capital gains taxdeferred roll-over option for taxable Canadian holders of Shoppers Drug Mart shares who elect to receive
Loblaw shares. The arrangement agreement provides that Shoppers Drug Mart is subject to non-solicitation
provisions and provides that the Board of Directors of Shoppers Drug Mart may, under certain circumstances,
terminate the agreement in favour of an unsolicited superior proposal, subject to payment of a termination fee
of $300 million to Loblaw and subject to a right of Loblaw to match the superior proposal in question.
Both companies boards of directors have unanimously determined that the proposed combination is in the
best interest of their respective companies. B of A Merrill Lynch is acting as nancial advisor to Loblaw for
purposes of this transaction and delivered an opinion to Loblaw's Board of Directors as to the fairness, from a
nancial point of view, of the consideration to be paid by Loblaw in the transaction. RBC Capital Markets is
acting as nancial advisor to Shoppers Drug Mart and has provided an opinion to the board of directors of
Shoppers Drug Mart that the consideration under the transaction is fair, from a nancial point of view, to
Shoppers Drug Mart shareholders.

\
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I.

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- 32 -

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386888

EXHIBIT 1
LOBLAW COMPANIES LIMITED

)~
/Q;Y'/09;

CONSOLIDATED STATEMENTS OF EARNINGS AND ASSOCIATED FINANCIAL RATIOS, FOR FISCAL YRS 2006-12

(In millions of Canadian dollars, unless otherwise noted)

2010
2009
2008
2007
2006
30,315
n.a.
n.a.
n.a.
n.a.
521
n.a.
n.a.
n.a.
n.a.
30,836
30,735
30,802
29,3 84
28,640

Total Revenue
Grocery Operations
Financial Services
Total
Cost of Merchandise Sold
Grocery Operations
Financial Services
Total
Selling, General & Admin.
Grocery Operations
Financial Services
Total

Depreciation and Amortization

Restructuring Charges
Operating Income
Grocery Operations
Financial Services
Total
Net Interest & Other Fin'l Expenses
Earnings Before Income Taxes
Grocery Operations
Financial Services
Total
Income Taxes
Earnings Before Minority Interest
Minority Interest
Net Earnings
Earnings Per Common Shares ($)
Basic
Diluted
Dividends Declared Per Share ($)

n.a.

n.a.

n.a.

n.a.

Share Price: Hi-Lo Average ($)

Average Price/Earnings Ratio
Dividend Payout Ratio (%)

n.a.

23,520
14
23,534

23,883
11
23,894

24,141
44
24,185

4,809
464

30,703
547

n.a.

11.3..

23,891

23,539

n.a.

11.3.

n.a.

11.8.

11.3.

n.a.

n.a.

4,928
399

4,703

5,047

5,309

5,402

5,327

5,273

4,941
505
5,446

590
844

588
222

550

589

628

699

777

11.3..

n.a.

n.a.

n.a.

11.3..

n.a.

n.a.

n.a.

1,239
108

1,312
72

289
259

736
252

1,052
263

1,205
269

1,347
353

1,384
327

1,101
95
1,196
331

n.a.

n.a.

n.a.

n.a.

n.a.

n.a.

n.a.

n.a.

928
66
994

1,033
24
1,057

815
50
865

22,214 e
11.8.

22,791
'

30

484

789

936

248
(218)
1
(219)

150
334
4

229
560
10

269
667
11

319
675

288
769

215
650

330

550

656

675

769

650

(0.80)
(0.80)
0.84

1.20
1.20
0.84

2.01
2.01
0.84

2.39
2.38
0.84

2.43
2.38

2.73
2.71

2.31
2.28

LjiA<9-.851

@331

4.0
6.0
1.1
2.3

3.3
5.3
2.9
5.8
6.0
2.4

3.4
5.2
4.0
10.7
9.7
4.2

3.9
5.8
4.5
12.0
10.9
(1.1)

4.4
6.4
3.8
12.0
12.6
(0.6)

4.4
6.7
4.2
12.0
13.2
0.9

3.8
6.2
3.6
10.0
10.5
(0.2)

nmf

42.87
35.7

nmf

70.0

31.02
15.4
41.8

33.20
13.9
35.3

39.06
16.4
35.3

38.39
14.2
31.0

36.60
16.1
37.3

SELECTED FINANCIAL RATIOS

Operating Prot Margin (%)

EBITDA Margin (%)
Interest Coverage Ratio (times)
Return on Average Net Assets (%)
Retum on Avg. Shareholders Equity
Same Store Sales Growth (%)

n.a.

31,250

2012
30,960
644
31,604

2011

(3.9)
0.8
51.81

n.a. = not available; e= estimate; nmf = not a meaningful gure.

_33EXHIBIT 2
LOBLAW COMPANIES LIMITED
CONSOLIDATED BALANCE SHEETS AND ASSOCIATED FINANCIAL RATIOS, FOR FISCAL YEARENDS 2006-12

(In millions of Canadian dollars, unless otherwise noted)

ASSETS
Cash & Short-Term Investments
Accounts Receivable
Credit Card Receivables
Inventories
Other Current Assets
Total Current Assets
Net Fixed Assets & Investments
Goodwill & Intangibles
Deferred Income Taxes
Other Long-Term Assets
Total Assets
LIABILITIES
Trade Payables & Other Liabilities
Provisions
Income Taxes Payable
Short-Term Debt
Long-Term Debt Due Within Year
Total Current Liabilities

2006
996
728

2007

2008

655
885

753
867

2,037
187
3,948

2,032
199
3,771

2,188
152

1,394
367
2,095
1,982
157

3,960

8,055
794

7,953
_ 806

689

1,144

2009

2010

1,611
366
1,997
1,956
162

2011

2012

1,720
467
2,101
2,025
I49

1,795
456

2 302
2,007

5,995

6,092

6,462

6,667

8,045
807

7,890
1,023
258

8,451
1,026
227

8,807
1,029
232

9,073

16,841

1,045

898
17,428

904
17,961

3,677
35
14
905
87
4,718

3,720
78
21

J11

4\

1,057
260

13,486

13,674

1,173
13,985

924
16,090

2,598

2,860

2,823

3,522
62

648
27

421
432

242
165

3,372
62
42
1,235
312

3,273

3,713

3,230

5,023

5,031

Long-Term Debt
Deferred Income Taxes
Capital Securities
Other Long-Term Liabilities
Total Liabilities

4,212
234

3,852
180

326
8,045

384
8,129

4,070
171
219
465

5,041
27
220
699

11,421

11,544

Com Share Capital & Contr'd Surplus

Accumulated Retained Earnings

1,196
4,245

Total Shareholders Equity

Total Liabs & Shareholders Equity

545
902

(AL

905

,-672. _

Ow

8,155

11,010

5,198
35
221
753
11,238

1,196
4,349

1,196
4,634

1,308
3,772

1,476
4,127

1,588
4,419

1,622
4,795

5,441

5,545

5,830

5,080

5,603

6,007

6,417

13,486

13,674

13,985

16,090

16,841

1 7,428

17,961

5,493
21
222
967

223

910

SELECTED FINANCIAL INFORMATION

No. of Shares Outstanding (MM)

274.2

274.2

274.2

276.2

280.6

281.4

281.7

Book Value Per Common Share ($)

19.85

20.22

21.26

18.39

19.97

21.35

22.78

5.6

3.6

2.8

3.7

3.4

3.1

3.3

Total Debt to Capitalization (%)

47.3

45.9

42.5

55.4

53.3

51.0

Capital Expenditures ($MM)

937

613

750

1,067

1,190

Retail Square Footage (MMfeet2)

49.7

49.6

49.8

50.6

50.7

51.2

ll! >-4 U1

1,077

1,036

1,036

1,029

1,027

1,046

1,053

Current Ratio (times)

1.21

1.02

1.23

1.19

1.21

1.37

1.24

DBRS Bond Rating

BBB high

BBB

BBB

BBB

BBB

BBB

Total Debt to EBITDA (times)

Total Number of Stores

981
>9 \o\:
GS
"4:-2

-34-

EXHIBIT 3
SHOPPERS DRUG MART CORPORATION
CONSOLIDATED STATEMENTS OF EARNINGS AND ASSOCIATED FINANCIAL RATIOS,
FOR FISCAL YEARS 2006-2012

(In millions of Canadian dollars, unless otherwise noted)

Sales Revenues
Cost of Goods Sold

'

2006

2007

2008

2009

2010

2011

2012

7,786

8,478

9,423

9,986

10,193

10,459

10,782

n.a.

n.a.

n.a.

n.a.

6,284

6,416

6,609

n.a.

n.a.

n.a.

2,730

2,834

2,980

Operating & Admin. Expenses

n.a.

Depreciation & Amortization

145

172

205

249

282

298

311

Operating Income

684

786

867

896

897

911

881

Interest & Financial Expenses

50
634

53

' 64

61

733

803

58
837

837

64
847

58
823

Income Taxes

211

243

249

253

245

233

215

Net Earnings
Earnings Per Common Share ($)
Basic
Diluted

422

490

554

585

592

614

608

1.97
1.95

2.27
2.26

2.55
2.55

2.69
2.69

2.72
2.72

2.84
2.84

2.92
2.92

Dividend Declared Per Share ($)

0.48

0.64

0.86

0.86

L090

8.8

9.3

9.2

9.0

8.8

8.7

8.2

EBITDA Margin (%)

10.6

11.3

11.4

11.5

11.6

11.6

11.1

Interest Coverage Ratio (times)

13.7

14.9

13.6

15.4

14.8

14.2

15.3

Retum on Average Assets (%)

9.1

9.3

9.2

8.9

8.6

8.6

8.2

16.5

16.9

17.0

16.3

15.1

14.7

14.2

6.5

5.2

4.8

4.8

2.1

1.9

2.2

46.9
53.1

47.0
53.0

47.6
52.4

48.3
51.7

48.7
51.3

47.8
52.2

47.3
52.7

45.86

52.69

49.81

45.70

39.33

40.05

41.87

Average Price/Earnings Ratio (times)

23.5

23.3

19.5

17.0

14.5

14.1

14.3

Dividend Payout Ratio (%)

24.4

28.2

33.7

32.0

33.1

35.2

36.3

Earnings Before Income Taxes

__1_'/L95

SELECTED FINANCIAL RATIOS

Operating Prot Margin (%)

Return on Avg Shareholders Equity (%)

Same Store Sales Growth (%)
Sales Mix:
Pharmacy (%)
Front Store (%)
Share Price: Hi-Lo Average ($)

n.a. = not available; e= estimate

-35-

EXHIBIT 4
SHOPPERS DRUG MART CORPORATION
CONSOLIDATED BALANCE SHEETS AND ASSOCIATED FINANCIAL RATIOS,

FOR FISCAL YEARS 2006-2012

(In millions of Canadian dollars, unless otherwise noted)
ASSETS
Cash & Short-Term Investments
Accounts Receivable
Inventories
Prepaid Expenses and Other
Total Current Assets

2006
63
308
1,3 72
32

Net Fixed Assets & Investments

Goodwill & Intangibles
Deferred Income Taxes
Other Long-Term Assets
Total Assets

908
2,167
46
33

2007

2008

2009

2010

"2011

2012

28
372
1,546
135
2,080

37
448
1,743
73
2,301

44
471
1,852
74
2,442

64
432
1,958
89
2,543

119
493
2,042
41

105
' 470
2,148
/-42,

2,696 (2,765,

4,929

1,127
2,303
70
42
5,622

1,442
2,525
83
68
6,419

1,548
2,742
28
17
6,777

1,690
2,765
26
20
7,044

1,784
2,781
21
18
7,300

1,734
2,913
39
23
7,474

869

1,025

1,065

1,178
13

71
638

779

1,148
11
17
531

1,844

1,707

1,528

1,315
1,435
12
11
27
18
172
421
250
Ai
l,776< q 2,335 )

946
25
387

696
39
521
3,032

247
47
S21
3,150

1,775

--/

_/

LIABILITIES
Trade Payables & Other Liabilities
Provisions
Income Taxes Payable
Short-Term Debt
Long-Term Debt Due Within Year
Total Current Liabilities

1,578

65
769
299
2,158

Long-Term Debt
Deferred Income Taxes
Other Long-Term Liabilities
Total Liabilities

300
22
305
2,205

30
358
2,546

647
47
422
2,960

3,065

943
27
444
2,942

Com Share Capital & Contr'd Surplus

Accmnulated Retained Eamings

1,498
1,226

1,516
1,560

1,525
1,934

1,530
2,182

1,532
2,571

1,492
2,776

1,442
2,881

2,724

3,076

3,459

3,712

4,103

4,268

4,323

4,929

5,622

6,419

6,777

7,044

7,300

7,474

Total Shareholders Equity

Total Liabs & Shareholders Equity

337

SELECTED FINANCIAL INFORMATION

No. of Shares Outstanding (MM)

215.0

216.8

217.3

217.4

217.5

212.5

204.5

Book Value Per Cormnon Share ($)

12.67

14.19

15.92

17.07

18.87

20.09

21.14

Total Debt to EBITDA (times)

1.1

1.1

1.3

1.3

1.1

0.9

0.9

Total Debt to Capitalization (%)

25.6

25.8

29.2

28.5

23.8

20.8

20.5

Capital Expenditures ($MM)

424

535

769

593

483

406

Retail Selling Space (MMfeet2)

8.7

9.7

10.9

11.9

Q29

12.7

13.2

13.7

Total Drug Stores & Clinics

987

1,057

1,151

1,125

1,249

1,265

1,301

Current Ratio (times)

1.12

0.96

1.25

1.43

1.66

1.52

1.18

A(low)

A(low)

A(low)

A(low)

A(low)

DBRS Bond Rating

---Z--..

A(low) A(low)

_ 35 _
EXHIBIT 5
HISTORICAL AND FORECAST INFORMATION FOR THE
CANADIAN SUPERMARKET AND GROCERY STORE INDUSTRY 1

Year

Sales and
Operating
Revenues
($Bn)

Pre-Tax
Earnings
($Bn)

Total
Total
Per Capita
Employee
Total
Number Personal DisposCompensation Employment of Stores
able Income
(000)
$
($Bn)

8.37
8.42
8.54
8.89
8.55
8.62

406.9
420.3
421.2
427.0
452.8
448.0
430.8
412.2
410.3

9,548
9,656
9,449
9,858
9,911
9,594
9,700
9,742
9,786

23,838
24,662
26,225
27,418
28,665
28,693
29,751
30,398
31,100

9.06

411.1

9,817

35,200

2004
2005
2006
2007
2008
2009
2010
2011
2012

58.9
62.3
65.1
68.8
72.5
75.0
75.5
76.0
76.6

7.11
7.45

2017

80.7

Year

7.87

Employee
Pre-Tax Prot Margin Compensation
Entire
Supermarket As a Percent
IndusBY_
Chains Only of Revenues
%

Revenue
Per
Employee
($000)

Average
Employee
Compensation

Average
Food Price
Inaion
During Year
%

2004
2005
2006
2007
2008
2009
2010
2011
2012

5.1
3.1
3.1
2.5
2.3
2.6
2.5
2.7
2.5

12.05
11.96
12.10
12.17
11.62
11.39
11.77
11.25
11.26

144.9
148.2
154.5
161.1
160.0
167.3
175.2
184.4
186.7

17,461
17,727
18,690
19,601
18,600
19,063
20,628
20,734
21,018

2.1
2.5
2.3
2.7
3.5
4.9
1.4
3.7
2.4

2017

2.5

11.22

196.4

22,033

1 Industry excludes convenience stores, warehouse clubs, and supercenters, as well as the
pharmacy operations embedded in many supermarkets and supermarket chain organizations.
e = estimate

- 37 EXHIBIT 6
TOTAL RETAIL FOOD AND GROCERY SALES AND MARKET SHARES IN CANADA
FOR THE MAJOR GROCERY RETAILERS, 2006-2012 AND PROJECTIONS FOR 2017

Loblaw Empire Co.

Companies jSobeys)

Metro
Inc.

Canada
Costco
Safeway Wholesale

Walmart
Canada

Qlhf
Retailers

Industry
Total

7.1

32.7
33.9
35.1
36.4
37.5
38.0
38.3

96.1
99.6
104.3
107.2
111.8
116.4
122.0

0.0

41.0

136.5

5.8
6.0
6.1
5.5
5.6
5.8
5.8

34.0
34.0
33.7
33.9
33.5
32.6
31.4

100.0
100.0
100.0
100.0
100.0
100.0
100.0

0.0

30.0

100.0

A. TOTAL RETIAL FOOD AND GROCERY SALES, IN $ BILLIONS:2

2006
2007
2008
2009
2010
2011
2012

28.5
29.1
30.4
30.3
30.3
30.7
31.0

2017

'7

5.6
6.0
6.4
5.9
6.3
6.7
?

B. MARKET SHARES, IN PERCENT:

2006
2007
2008
2009
2010
2011
2012

29.7
29.2
29.1
28.3
27.1
26.4
25.4

2017

'7

I Includes other supermarket chains (e.g., those in the Jim Pattison Group), non-chain food and grocery
stores, convenience stores, supercenters and warehouse clubs other than Walmart and Costco, and
grocery sales of drug stores and pharmacies. The gures for 2017 include a projection for Targets
food and grocery sales in that year.
2 For the major chains and superstores, the gures include the pharmacy sales for these organizations.
Sobeys sales are adjusted to a calendar-year basis for sake of comparison.
e = estimate

_ 33 EXHIBIT 7
CANADIAN PHARMACIES AND DRUG STORES AN OVERVIEW OF
THE INDUSTRY AND THE MAJOR PUBLICLY-TRADED COMPANIES

A. INDUSTRY-WIDE DATA FROM STATISTICS CANADA:

Year

Total Sales
& Operating
Revenues

2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012

17.65
18.64
19.74
20.70
22.46
24.11
24.96
27.68
28.34
29.25
30.80
31.30

($bi11ions)

Industry Expenditures For:

Industry Pre-Tax Prots
Cost of
Labour
Other
Prot
Goods Sold Compensa Expenses
Total
Margin
($bi1lions) (sbmns) ($bil1ions) ($bi11ions)
%
12.10
13.50
14.10
14.90
16.40
17.40
17.80
19.50
20.00
20.68
21.87
22.20

2.24
2.46
2.57
2.58
2.79
3.09
3.24
3.68
3.86
3.86
3.98
4.02

1.84
1.80
2.17
2.29
2.51
2.78
2.95
3.24
3.35
3.60
3.75
3.88

1.47
0.88
0.90
0.93
0.76
0.84
0.97
1.26
1.13
1.11
1.20
1.20

8.33
4.72
4.56
4.49
3.38
3.48
3.89
4.55
3.99
3.79
3.90
3.83

B. MAJOR PUBLICLY-TRADED PHARMACY CHAINS:

Q
2004
2005
2006
2007
2008
2009
2010
2011
2012

Shoppers Drug Mart

Prescription Operating
Total Drugs As %
Prot
Revenues
of Sales
Margin
%
%
($Mn)
6,566
7,151
7,786
8,478
9,423
9,986
10,376
10,459
10,782

46.7
46.7
46.9
47.0
47.6
48.3
47.8
47.8
47.3

8.2
8.4
8.8
9.3
9.2
9.0
8.6
8.7
8.2

Jean Coutu Group

Uniprix Group
Total Prescription Canadian
Oper'g
Canadian Drugs As % Oper'g Prot Total
Prot
Revenues of Sales
Margin
Revenue Margin
%
%
($Mn)
($M11)
2,173
2,442
3,148
3,227
3,401
3,637
3,779
4,001
4,040

56
58
60
61
62
63
63
63
63

10.7
10.2
10.1
10.1
9.8
10.4
11.0
11.4
11.8

73
80
81
95
98
113
117
125
140

-39
EXHIBIT 8
SELECTED NATIONAL DEMOGRAPHIC AND ECONOMIC STATISTICS
FOR CANADA, INCLUDING PROJECTIONS FOR 2017

Year

8 \

Estimated
Mid-Year
Population
(millions)

Personal
Number of Percentage of Disposable
Canadians
Population
Income
65 and Over 65 and Over Per Capita
(millions)
%
$

2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012

31.021
31.373
31.676
32.048
32.359
32.723
33.120
33.514
33.905
34.163
34.589
35.017

3.910
4.015
4.120
4.230
4.335
4.450
4.565
4.655
4.745
4.824
4.976
5.178

12.6
12.8
13.0
13.2
13.4
13.6
13.8
13.9
14.0
14.1
14.4
14.8

21,607
22,168
22,812
23,838
24,662
26,225
27,418
28,665
28,693
29,751
30,398
31,100

2017'

37.250

6.185

16.6

35,200

Total Health Care

Expenditures in Current Dollars 1
Year

Total
($billions)

Per Capita
$

As % of GDP
%

2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012

107.2
115.1
123.7
132.2
140.7
150.8
160.2
172.0
182.1
193.1
200.6
207.4

3,456
3,669
3,905
4,132
4,355
4,630
4,866
5,162
5,398
5,659
5,818
5,948

9.7
10.0
10.2
10.2
10.2
10.4
10.5
10.7
11.9
11.9
11.7
11.6

2017

251.1

6,740

11.4

\.

I Source: Canadian Institute for Health Information

e = estimate

Prescription and Non-Prescription Drug

Expenditures in Current Dollars
As % of Total
Total
Per Capita Health Spending
($billions)
$
%
16.7
538
18.4
20.2
21.8
23.2
25.1
26.4
27.9
29.6
30.7
32.0
33.0

5 88
637
680
717
767
798
833
872
900
924
943

39.5

1,060

-40EXHIBIT 9
COMPARATIVE VALUATION METRICS FOR MAJOR CANADIAN GROCERY CHAIN,
PHARMACY AND DRUG STORE, AND CONVENIENCE STORE COMPANIES

Valuation Metric
Closing Share Price on
12 July 2013 ($)
Exp'd EPS For 2013 ($)
Price/Earnings Ratio on
12 July 2013 (times)
Y-E 2012 Book Value
Per Share ($)
Price/BVPS on
12 July 2013 (times)
EPS Growth Rate (% p.a.):
From 2004-12 Trendline
Expld 2012 to 2017
Forward PEG Ratio
(times)
DPS Growth Rate_
over 2004-2012 (% p.a.)
Y-E 2012 Total Assets
in $ millions
2012 Sales Revenues
in $ millions
Price-to-Sales Ratio on
12 July 2013 (%)
Sales Growth Rate
over 2004-2012 (% p.a.)

'

George
Weston

Empire
{Sobe@

Metro
Inc.

Shoppers
Drug Mart

Jean
Coutu

Couche
-Tard

70.46

48.40

18.09

61.88

47.55 .

83.28

2.63

4.73

5.78

4.96

3.06

1.05

3.42

13-1 _

17.6

13.6

14.2

15.8

17.2

118.17

22.78

38.03

54.84

26.19

21.14

11.11

17.15

2.09

2.19

1.44

2.69

2.29

1.63

3.61

2.2

-1.3

14.7
3.0

8.
6.0

11.8
5.0

25.2
7.0

4.73

3.16

3.45

2.58

11.2

12.1

78.'Z5_

4.5

7.0
2.5

3.29

3.91

5.45

/X

QQ

0.2

9.1

12.6

17,961

21,804

7,140

5,150

7,474

1,393

10,546

31,604

32,742

17,613

12,011

10,782

2,468

35,543

42.5

32.7

30.4

56.8

91.3

72.4

32.7

1.3

4.4

9.2 *

Lg)

9.0

20.4

/"1

2012 Operating Margin (%)

3.8

4.3

3.3

5.9

8.2

11.8

2.4

2012 Retum on Equity (%)

10.5

9.3

10.3

19.8

14.2

24.0

21.5

0.02

0.08

0.14

0.28

0.48

0.05

-0.16

64.2

57.8

15.0

9.1

6.2

22.3

18.8

@/9)

59.8

60*

27.9

@)/ 1.9

52.8

3.4

3.8

4.6*

1.1

1.0

0.1

2.6

3.6

3.3

2.8*

15.3

15.3

145.6

7.1

0.96

1.66

0.96

1.00

1.14

0.34

0.30

2.0

2.0

1.2

1.4

2.4

1.9

0.5

745

102

130

331

693

141

301

ear Historical Be@

, M119 131>s V6i.It11r1yK6'1m1

, s 2004-2012 116661166 (%)
Q Y-E 2012 Debt Ratio (%)
-

Loblaw
Cos.

Y-E 2012 Debt/EBITDA(times)

2012 Interest Coverage
Ratio (times)
Annual DPS Rate on
12 July 2013 ($)
Dividend Yield on
12 July 2013 (%)
Average Daily Share Trading
Volume in 000's of Shares

* Pro forma values reecting the acquiquisition of Canada Safeway in June 2013; at its 4 May 2013 scal yearend,
Empire's debt, debt-to-EBITDA, and interest coverage ratios were 20.6%, 1.0 times, and 11.5 times respectively.