October 2, 2017 / 3:51 PM / a year ago

UPDATE 2-Canada's Metro buys Jean Coutu for $3.6 bln to stave off looming risks

(Adds context, analyst comments)

By Nichola Saminather

TORONTO, Oct 2 (Reuters) - Metro Inc, Canada's third-biggest food retailer, on Monday agreed to buy pharmacy chain Jean Coutu Group for C$4.5 billion ($3.6 billion) for cash and stock, paying what analysts said was a "steep" premium to protect against risks facing the retail sector.

The deal comes at time when global retail giants like Amazon.com Inc, Wal-Mart Stores Inc and CostCo are expanding into Canada while online operators are taking away market share from bricks-and-mortar retailers.

The deal will allow Metro and Jean Coutu to increase product offerings and outlets and navigate some of those risks, said Barry Schwartz, chief investment officer of Baskin Wealth Management in Toronto.

Montreal-based Metro, which last week said it was in talks to buy Jean Coutu, is offering C$24.50 per share for the Varennes, Québec-based company.

That offer price values Jean Coutu at 24 times forward earnings, compared with an industry average of 16, according to Thomson Reuters data.

"There are... significant risks that don't get solved with the Jean Coutu acquisition but clearly they see some synergies and the ability to get returns on their investment," Schwartz said. "It looks like Metro overpaid right now, but these guys aren't dummies."

The deal follows other similar tie-ups, including the acquisition by Toronto-based grocery chain Loblaw Co of Shoppers Drug Mart in 2013 and San Francisco-based McKesson Corp.'s takeover of Rexall Health last year.

"The price paid is steep, (which) means low initial returns for Metro shareholders and returns well below what Metro shareholders have had in the past," Tal Woolley, co-head for research at Eight Capital, wrote on Sept. 28, following the initial announcement. He added that Metro needs to find more than C$100 million in synergies to justify the price.

The companies expect to realize C$75 million in synergies within three years, they said in a statement on Monday.

Metro shares slipped 1.3 percent to C$42.35. They had surged as much as 10.5 percent on Sept. 27 when the talks were announced. Shares of Jean Coutu rose as much as 2.1 percent to touch a more than two-year high at C$24.81 in Toronto on Monday.

The deal would generate over C$1.3 billion in earnings before interest, taxes, depreciation and amortization, the companies said.

Jean Coutu operates drugstores in Quebec, New Brunswick and Ontario, and acquired generic drug maker Pro Doc in 2007. Metro operates more than 600 food stores across Canada.

A deal between Quebec and generic drug manufacturers that seeks to cut costs for the province, which analysts have said could hurt Jean Coutu's profitability, also looms as a challenge.

BMO Capital Markets and CIBC World Markets were the financial advisers to Metro and Norton Rose Fulbright Canada LLP its legal counsel.

National Bank Financial Inc was the financial adviser for Jean Coutu and Stikeman Elliott LLP was its legal counsel.

($1 = 1.2515 Canadian dollars)

Reporting by Nichola Saminather in Toronto and Anirban Paul in Bengaluru; Editing by Arun Koyyur and Dan Grebler

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