Outlook: Barbarian behaviour as KKR enters the fray for Safeway

Another day, another bid for Safeway. Well, perhaps not quite yet, but the unmasking of Kohlberg, Kravis, Roberts (KKR) as another potential bidder for the beleaguered supermarket group is already beginning to mark this out as a takeover classic, and we are not even two weeks into the battle yet.

It's hard to know at this stage precisely what KKR's interest is. Does the American buyout specialist want to buy the whole thing, or would it only take on the stores two of the three trade buyers, Sainsbury and Asda, would be forced to dispose of if their bids were successful? Either way, I'm sceptical that KKR can make the numbers stack up.

Bidding for the whole thing first. Those with long memories will know that KKR once owned Safeway, both in the US and Britain. The British bit was sold to what was then Argyll for a song, but KKR kept the US chain and eventually made a fortune out of it. That may encourage the firm to believe it can buy back the British business and repeat the trick. Henry Kravis and his partners would be unwise to count on it.

There would be none of the synergy and cost benefits that the trade buyers can get, nor would there be any obvious exit route if the competition authorities balk at the idea of selling the chain to Sainsbury and Asda. Carlos Criado-Perez is a brilliant retailer, but he's struggled to make Safeway work on its own. There's no reason to believe KKR would be any better at it.

Again, those with long memories will recall that we've been here before. Back in the late Eighties, a private equity partnership called Isosceles succeeded in a £2.1bn buyout of Gateway. It was a complete disaster. Bankers to the deal eventually had to write off all their debt in order to refloat the company as Somerfield, which as everyone knows has since been so resoundingly successful that to this day it struggles to turn a profit. I think it highly likely the same fate would await an private equity takeover of Safeway. The solution to Safeway's problems is consolidation with a trade buyer. There is no independent alternative.

Another possibility is that KKR could buy Safeway merely as a vehicle for a break-up among the interested trade buyers. Trouble is that any such transaction would carry enormous regulatory risk as well as leaving KKR open to the substantial costs of closing Safeway's head office and distribution infrastructure. It is hard too to understand how buying out the rump from either Sainsbury or Asda could be made to work as a venture capital deal. Any such business would be just too small to be viable.

I'll probably be made to eat my words either today or later, but I just can't see it. Credit Suisse First Boston, on the other hand, plainly can. The City investment bank yesterday broke all standards of common decency by resigning as Safeway's long-standing broker in order to pursue the fee for whatever it is that KKR is planning. It must be big, for the long established convention is that the adviser always sticks with the target when faced by a conflict of interest of this type. Call me old fashioned, and I know that whatever happens, Safeway is history as a long-term client, but in my book CSFB's behaviour is shabby and disreputable. And investment bankers wonder why nobody trusts them any more.

Mobile charges

It looks as if the mobile phone operators have shot themselves in the foot by appealing to the Competition Commission over Oftel's plans to regulate termination charges. The report isn't published until next week, but already the mobile companies are bracing themselves for an even harsher determination than Oftel was proposing. Oftel wanted the termination charge – that is the tariff a mobile phone company charges for connecting a call to a subscriber on its network – reduced every year by inflation minus 12 per cent.

The Commission has decided that an even larger reduction is justified. What's more, it wants a big one off cut to start with. That wasn't in the original Oftel determination either. I always used to think it fundamentally wrong to try to regulate prices at all in such a young and self evidently competitive industry. This seemed more especially the case given the huge investment in 3G that the mobile companies are expected to make.

More recently, my faith in this view has been somewhat shaken by the mobile operators' own contention that if they are forced to reduce the termination charge, they will merely compensate by increasing other tariffs, possibly by reducing the subsidy on hand sets or by restoring the surcharge on pay as you go. If mobile telephony was really as competitive a market as they claim, they would not, of course, be able to do this. No wonder the Competition Commission has clobbered them. They don't know how to argue their case.

EMI on the up

EMI is sometimes described in the City as the Safeway of the music majors, and it has long been thought ripe for the picking. Actually the perception that it's the weakling of the sector is at least a year out of date, but what is true is that if there is to be any further consolidation among the music majors, EMI is bound to be in the thick of it, if only because it's the only one left with an independent share quote.

Haven't we been here before, I hear you yawn, and of course we have. EMI and Time Warner spent the best part of a year arguing the case for a merger with competition regulators in Brussels. They were never blocked outright, but it eventually became apparent that the combined group would have to sell off so much of its business to keep the authorities sweet that it simply wasn't worth doing.

Then along came Thomas Middelhoff, chief executive of Bertelsmann. "Leave it to me", he told EMI, "I'm a European and Brussels isn't going to refuse me". It did and that appeared to be the end of that. There seemed no way of getting another music industry consolidation through the regulators. But that was then and this is now and things may have changed quite a bit in the intervening two years.

Mario Monti, the EU Competition Commissioner, has been forced by the European courts to tone down considerably the sharper edges of his mergers policy, and with the music industry losing sales at the rate of about 10 per cent a year to piracy – digital as well as physical – it's hard to paint the music majors any longer as profiteering monopolists. In any case, it is easy to see why the industry might believe it's time to brave the regulators again.

As for EMI, don't count on it being the victim in any renewed consolidation. Alain Levy, EMI's head of recorded music appears to have done an excellent job in salvaging what was when he arrived a sinking ship. Costs have been cut as promised, the back catalogue still looks better than anyone else's, music publishing is continuing to perform and even on the recorded music side Mr Levy seems to have succeeded in turning the corner. He's kept Robbie Williams and in Norah Jones, he's even got himself a US number one. Were it not for the continuing problem of piracy, made all the worse by the exponential growth of broadband, his share price would surely be riding high again.

My own view is that though regulators might indeed be more amenable, all this talk of a bid is more in hope than expectation. The shares have sunk so low that they will undoubtedly have attracted the interest of venture capital buyers, who would presumably keep the back catalogue and publishing side and flog off the high risk recorded music interests. Whether the debt markets are again open for a private equity bid of such size is a moot point. Somehow I doubt it.

In any case, Mr Levy thinks of EMI as much more of a consolidator than a consolidatee in any renewed outbreak of industry restructuring. Time Warner is all at sea and so is Sony and Bertelsmann, the latter having been forced hugely to overpay for Zomba. Even the mighty Universal may be up for grabs in the restructuring its parent company, Vivendi, is being forced to undertake. Watch this space.

jeremy.warner@independent.co.uk