The Powerful Effect of Letting Your Winners Ride, Starring Metro Inc.

Let’s get into our Delorian and head back to 1985. Michael J. Fox will drive.

Rather than doing anything weird like hitting on our own mother, let’s do something completely normal like checking in on Canadian grocery stalwart Metro Inc. (TSX:MRU). Because that’s totally the first thing I’d do with a time machine. Totally.

The mid-1980s was a time of change for Metro. But first, a little history.

The company was originally founded in the 1940s as a collection of franchised independent grocery stores who grouped together to get better buying power from distributors. Through a series of mergers, acquisition, and a 1950s name change, the Metro chain of stores grew significantly by the 1980s. By that point the company had evolved into both a distributor and owner of stores, although it really only owned stores to resell back to franchisees.

The first half of the 1980s weren’t particularly good for Metro. Quebec struggled with a nasty recession, as well as strong competition from Provigo, which was later acquired by Loblaws. It culminated with Metro losing $417,000 on sales of $1.3B in 1985.

Jacques Maltais was appointed president with one simple mandate — he was tasked to turn the company around. The first step was a public listing. Metro-Richelieu (as it was called back then) listed shares on the Montreal Stock Exchange in November, 1986. A big part of the IPO was raising capital for the company’s turnaround plan.

When Metro said it was going to turn around the company, it really meant it. 1986-87 was marked by a flurry of deals. It purchased McMahon Distributeur, which was a distributor of pharmacy supplies. The deal came with a number of pharmacy franchisees, too. It also purchased 14 Super Carnaval outlets, which were later rebranded as Super C, a brand Metro still uses as its discount banner today.

Those are the deals that, in hindsight, look pretty good. But there’s more to this story, history that has been scrubbed from Metro’s sanitized version of what happened.

(Thanks to the McGill archive for hosting these annual reports. It’s an excellent resource, even if it is incomplete)

We’ve already covered the big deals of 1986, so let’s start with the 1987 annual report. Check out some of these excellent pictures. They sure don’t make them like they used to.

(I saved the best for last. That’s a man, in a suit, reading a dot matrix printout in a produce section, for some reason I couldn’t begin to fathom.)

Besides the cheesy awesome 80s pictures, the first thing that strikes you when reading these old annual reports is how small they are. Metro’s 1987 annual report is just 40 pages, and even that was an improvement from the 32 pages of the previous year. This is a $2B revenue company, which translates into about $5B today. Pretty sure the risks section of Metro’s annual report are longer than 32 pages these days.

In actuality, the report is even shorter than it seems. There’s a LOT of filler. The true length is probably in the 25-30 page range.

Anyways, onto the terrible acquisitions.

First up, let’s talk about Andre Lalonde Sports, a Quebec-based retailer and distributor of sporting goods, clothing, and recreation equipment. Metro acquired the 25 outlet chain in 1987 for an undisclosed amount in an attempt to diversify away from the core grocery business.

It also acquired 50% of Restaurants Giorgio, which “offer[ed] Italian specialties in a pleasant atmosphere and at highly competitive prices.” By the end of 1987 there were 37 locations in Quebec. Metro was also in the restaurant distribution business back then, meaning it’s possible part of this acquisition was motivated by either gaining or maintaining Giorgio as a customer.

Not content to poorly diversify into the sporting goods and restaurant industries, Metro also acquired a 50% interest in Gestion de Textile Laverdure in 1987 which, as far as I can tell, was spurred on by one of the company’s textile suppliers unexpectedly shutting down. They wanted to secure supply, and one way to do so is to just buy a textile company.

And finally, among all this, Metro acquired a 20% stake in a fast-growing convenience store operator called Alimentation Couche-Tard, exchanging its franchised convenience store division for a 20% stake in the small company.

The aftermath

Before we talk about the terrible diversification plan, keep in mind this was the 1980s, an era where megadeals were dominating Wall Street.

It was also an era where other retailers had significant exposure to other sectors. Hudson’s Bay Company, which was still still firmly in iconic retailer status, had invested in sectors like petroleum, alcohol distilling, and fur auctions, which was a lucrative enough business it was sold to help raise cash during a debt crisis in the 1980s.

Both of Metro’s main competitors also ended up with significant holdings outside of grocery. Loblaws ended up diversifying into real estate and financial services. Through its holding company Empire, Sobeys ended up with interests as far and wide as real estate, restaurant distribution, drug stores, U.S. grocers, movie theaters, and trucking. Some of these ended up being decent investments. Others, not so much.

The point is it’s a lot easier to call out Metro’s crummy capital allocation with the benefit of hindsight. Everyone was doing it in the 1980s. Why shouldn’t Metro join the party?

Metro’s 1988 annual report focused on the positives of the new acquisitions. Sales rose above $2B for the first time. Net earnings were $13M, growth of 30% compared to 1987. The company had issued new shares to help pay for the deals, but even earnings per share were up 9%.

Then, in 1989, cracks started to show. Franchised pharmacy operations acquired in the McMahon Distributeur deal were beginning to struggle, so they were unloaded at a loss. Sales struggled at the newly-acquired discount grocery division, too. And the company was hurt by labour action in its Quebec City warehouse.

1990 was when the you-know-what hit the fan. Sales declined from $2.3B to $2.19B and the net loss exceeded $9M, pain management blamed on increased competition from U.S.-based stores in the Quebec market and an overall economic downturn. Super C sales continued to struggle and Quebec City’s labour issues were also a problem in 1990.

These were enough for Metro to announce a major recovery plan, which included:

• Maximizing use of its current storage facilities and selling off any unused real estate

• A reduction of its work force

• Integration of the pharmacy operations with other parts of the company

• A complete overhaul in Super C marketing

• Disposal of their interests in Andre Lalonde Sports, Restaurant Giorgio, and its owned corporate stores

After five years in charge President & CEO Jacques Maltais was replaced by Pierre Lessard. Other key management personnel were replaced as well.

There was really only one investment left untouched, the 20% stake in Alimentation Couche-Tard. This one ended up being held for a very long time and ended up a massive winner.

The lesson

This post was originally inspired by my tweet thread about the Metro investment in Couche-Tard. See below:

I’ve added the link too, since Twitter embeds no longer work on Substack. You’ll be able to read the whole story there.

https://twitter.com/uproarcapital/status/1641459315369463809

Metro held its Couche-Tard investment for longer than 25 years, eventually selling half in 2013 and the other half in 2017 to help pay for its Jean Coutu acquisition. A $4M investment ended up being worth something in the neighborhood of $2B.

It’s one of the most successful investments in the history of Canadian business. Academics should be studying it. Investors should heed its lessons. Instead, it’s largely forgotten, hidden away in the only book to look at the history of Couche-Tard, a book only a few die-hard Canadian business nerds have ever read.

Here’s a link if you’re interested.

Fortunately, I’m here to explain the two key lessons you can take away and use to become a better investor, today.

The first one is to make sure to let your winners run. There were countless times Metro could have pulled the plug and sold shares, but the company was patient. It waited and waited, only getting out once the Couche-Tard investment grew to be a significant part of its stock price.

The much more powerful lesson is the power of one or two massively good decisions in a diversified portfolio. The beauty of investing is a stock can only go down 100%, but can grow by many multiples of that. That asymmetry shows why Metro’s ill-fated expansions into sporting goods or restaurants really didn’t matter in the long run, while the Couche-Tard deal did.

Metro was patient with its Couche-Tard investment and reaped rewards greater than management ever imagined. That’s the important lesson here. It could have sold dozens of times after Couche-Tard hit any number of temporary roadblocks but didn’t, since the overall thesis was still in place. It really made a difference 30 years later. The other acquisitions were long forgotten.