Maryland joins federal opposition to Sysco merger

Food giants' merger could hurt Maryland consumers, attorney general argues

Maryland has joined nine other states, the District of Columbia and the Federal Trade Commission in opposing a merger of the country's two largest food distribution companies on grounds that the union would create a near-monopoly in this region and potentially raise prices for consumers.

The state became a party to the FTC's suit in U.S. District Court in Washington to stop the $8.2 billion merger between Sysco Corp. and US Foods Inc., first announced in December 2013.

The merger would bring together the nation's No. 1 and No. 2 so-called "broadline" food distributors, which offer everything from chicken breasts and produce to spices and paper towels to restaurants, hotels and institutions such as hospitals and schools.

The five FTC commissioners voted 3- 2 last month that there is "reason to believe" the merger would violate antitrust laws by "substantially reducing competition, leading to higher prices and lower quality," according to a motion filed in federal court. Antitrust lawyers say it's rare for the federal agency to file suit to stop a merger.

"This proposed merger would reduce competition, and could have a big impact for Marylanders dining out, as well as for food service providers," Maryland Attorney General Brian E. Frosh said in a prepared statement as he joined attorneys general from across the country in the complaint filed in federal court late last month requesting a temporary restraining order to stop the deal.

Frosh had adopted the FTC's broad claim of the impact in this area, but had no further details, said Alan Brody, spokesman for the attorney general's office.

The federal agency found that the two companies combined would dominate sales among large broadline distributors. In court papers, the FTC argues that the new company would control about 75 percent of broadline sales to national companies, and 80 percent of the Baltimore-Washington market.

Sysco spokesman Charley Wilson strongly disputed that claim. He said the federal agency has defined the market of potential competitors far too narrowly, and as a result overstated the combined strength of the two companies.

"That analysis is just flawed," Wilson said. For the Baltimore-Washington area, he said, "we don't have warehouses enough to handle 80 percent of the food in the market."

He said Sysco, based in Houston, and US Foods, a subsidiary of USF Holding Corp. based in Rosemont, Ill., compete with more than 50 food supply companies in this area, and with some 15,000 across the country.

US Foods is the former U.S. Foodservice, which was based in Columbia until it relocated to Illinois in 2009. U.S. Foodservice, itself the product of consolidation among food distributors, had been acquired in 2000 by Royal Ahold N.V., the Dutch conglomerate that also owns the Giant supermarket chain.

The deal soured when it was revealed in 2003 that U.S. Foodservice had inflated earnings by $800 million. The accounting scandal cost Ahold $1.1 billion to settle a subsequent class action lawsuit brought by shareholder in 2005.

Two years later, Ahold sold off U.S. Foodservice to two private equity firms for $7.1 billion. It became US Foods in 2011 and now boasts nearly $21 billion a year in revenue.

Yet it remained dwarfed by Sysco, which has $46.5 billion in annual sales. Now Sysco wants to buy US Foods for $3.5 billion and assume roughly $4.7 billion of the smaller company's debt.

The union would make the merged company more efficient, eventually producing $600 million a year in savings that could be passed to customers, Wilson said.

Sysco and US Foods overlap in many markets and many of those efficiencies are expected to be achieved through consolidation.

In Maryland, the two companies together employ nearly 1,400 people. Sysco has about 1,000 employees at locations in Jessup and in Pocomoke City, and US Foods has about 360 employees in Severn.

Wilson said it was too early to say how the merger would affect employees in Maryland.

While financial analysts recognize the merger's significant cost savings, antitrust experts have been debating the proposal since it was announced.

Herb Hovenkamp, who teaches antitrust law at the University of Iowa College of Law, told The Baltimore Sun when the merger was announced that the deal was likely to go through, given the industry's fragmented nature, supporting Sysco's argument.

However, the late Robert Doyle, an FTC veteran who founded at Doyle, Barlow & Mazard, an antitrust consultancy, told The Sun he thought it was "a problematic deal."

Robert H. Lande, a professor at the University of Baltimore School of Law, said he thought the FTC's argument in its complaint that customers depend on Sysco and US Foods for "one-stop shopping" they cannot find elsewhere echoes the arguments the agency made against the proposed merger of Staples and Office Depot in the late 1990s. The FTC prevailed in that case.

Michael F. Brockmeyer, an antitrust lawyer in Washington who teaches at the University of Maryland Francis King Carey School of Law, disputed the parallel between the two cases. He said Sysco and US Foods resolved the competitive issue on national markets by agreeing to sell 11 US Foods distribution centers to Performance Food Group. In regional markets, he said, he believed the merged company would face more competition than the combined Staples-Office Depot company would have.

"I think this is going to be a tough case for the FTC," said Brockmeyer, former head of the antitrust division for the Maryland attorney general's office.

When the FTC announced it would seek to block the deal in late February, it said the proposed merger would violate antitrust laws by significantly reducing competition nationwide and in 32 local markets. The agency did not find that selling distribution centers to Performance Food Group would create an effective competitor.

"This proposed merger would eliminate significant competition in the marketplace and create a dominant national broadline foodservice distributor," Debbie Feinstein, director of the FTC's Bureau of Competition, said in a statement. "Consumers across the country, and the businesses that serve them, benefit from the healthy competition between Sysco and US Foods, whether they eat at a restaurant, hotel, or a hospital."

While regulators are citing potential competitive harm, two Maryland trade associations whose members could be affected either had taken no position or were not following the issue and had no comment.

Marshall Weston Jr., president and CEO of the Restaurant Association of Maryland, declined to comment, saying the organization had taken no position on the merger. David Simon, spokesman for the Maryland Hospital Association, said the organization had not been following the case.

A federal judge is scheduled to hear arguments in early May on the temporary restraining order, and a separate hearing on the merger before an administrative law judge is scheduled for late July. The administrative judge would make a recommendation to the FTC commissioners, who would vote again.

A lawyer for Sysco said in a conference call with investor analysts last month that he expected that the May hearing would, in effect, decide the case.

"The real fight will be in federal court," said Rich Parker, the Sysco lawyer. "We expect to prevail in that case and would expect with a strong opinion from a United States district judge that the administrative trial would never happen and the administrative proceeding would be dropped."

Under federal rules, if the FTC loses at the May hearing, it could decide to go ahead with the administrative trial in July.

At least one antitrust activist was equally bullish on the other side.

Diana Moss, president of the American Antitrust Institute, said the FTC complaint gives her confidence.

"It's a very strong complaint, very strong," said Moss, who wrote her own nine-page letter to the FTC opposing the merger. "My guess is they will prevail on the strength of the complaint."

arthur.hirsch@baltsun.com

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