Thrifty PayLess, Inc. History

Address:

9275 Southwest Peyton Lane
Wilsonville, Oregon 97070
U.S.A.

Telephone: (503) 682-4100
Fax: (503) 685-6194

Private Company
Incorporated: 1994
Employees: 33,000
Sales: $4.65 billion
SICs: 5912 Drug Stores and Proprietary Stores

Company History:

Thrifty PayLess, Inc., is the second-largest drug store chain in America. It was formed in 1994 when TCH Corporation, controlled by an investment group managed by Leonard Green & Partners, agreed to purchase the PayLess Drug Stores subsidiary of the giant retailer Kmart. Green's group already owned Thrifty Corporation, which it had purchased from Pacific Enterprises in 1992. The Green partnership merged the companies, and Thrifty PayLess was born.

Thrifty began as Borun Bros., a wholesaling business in sundries and proprietary drugs that was incorporated in 1919. The Borun brothers, Harry and Robert, and their brother-in-law Norman Levin opened their first retail drug store in Los Angeles in 1929, and in 1935 they reorganized the business as Thrifty Drug Stores Co., Incorporated. By 1945, the year it went public, Thrifty had 63 drug stores in southern California, principally in the Los Angeles area. Thrifty's stores offered broad selection--stocked items included liquor, electrical appliances, and sporting goods--and also had extensive soda fountain and restaurant facilities. Some of the merchandise was marketed under trade names that Thrifty owned, and some was manufactured by Borun Bros., now a subsidiary.

In the postwar period, Thrifty continued to thrive. In 1964, when the company had grown to 238 stores, sales and earnings had risen for each of the past ten years; in nine of those years, the dividend was increased. At that point, 75 percent of Thrifty's sales volume came from southern California, 20 percent from northern California, and the remainder from 12 units in Idaho, Oregon, Nevada, Utah, and Arizona. Most stores were profitable during their first year of operation, as the company continued to capitalize on the growth in the California market. The stores were also getting bigger: in the late 1950s and early 1960s they averaged 16,000 feet, but in the second half of the 1960s the mean was 20,000 feet, with a few as big as 27,000 feet. By 1970, the company was reporting annual sales of more than $325 million and earnings of more than $7 million.

After generating nearly all of its growth internally, in 1971 Thrifty bought the Big 5 chain from United Merchandising Corp. of Los Angeles; the chain had 18 stores, most of which were in California. Thrifty's profits plunged 58 percent in 1974 as the result of a 19-day strike and a change in inventory accounting, but the company quickly recovered and continued to post higher sales and earnings in the late 1970s. Thrifty also remained relatively unaffected by the economic slowdown of the early 1980s. At that point, Thrifty had begun to shift its emphasis from opening new stores to refurbishing existing units, which produced sales increases of up to 50 percent per store within 18 months of remodeling. The company was also continuing to expand the number of Big 5 Sporting Goods stores, operating 62 units in 1982 versus 48 in 1978.

In 1986 Thrifty was purchased in an exchange of stock by Pacific Lighting, a natural gas distributor in southern California that was seeking to diversify its operations. The drug retailer initially performed well for Pacific Lighting, and in 1988 Thrifty added the 147-store Pay 'n Save chain through a purchase for stock. Soon afterward, however, significant problems emerged. Competition grew fierce, as nationwide discount chains like Phar-Mor and Drug Emporium entered the southern California market, and older rivals like Sav-On picked up steam. Moreover, pharmacies were becoming a common feature in supermarkets, warehouse clubs, and discount superstores like Wal-Mart and Kmart. By most accounts, Thrifty did not respond well to the challenge. Industry observers found its stores dirty, employees lackadaisical, information systems outdated, and inventory shrinkage excessive. The company was also heavily unionized, while most of its key competitors were not. In 1990 Pacific took a $100 million charge for inventory adjustments and the planned closing of marginal stores. In 1991 Thrifty reported a loss of $164 million on sales of $3.3 billion, and in the first quarter of 1992, Pacific took an after-tax writeoff of $475 million to reflect the reduced value of its Thrifty assets.

That May, Thrifty suffered another jolt. As one of the earliest of the retail drug chains in southern California, Thrifty had numerous stores in older, inner-city neighborhoods. When Los Angeles was struck by riots after the Rodney King trial, the retailer was hit hard. Four of its stores burned to the ground, and some 19 others were looted. At Thrifty headquarters in Los Angeles, 1,750 employees were evacuated. Later, a crowd of 300 surrounded the building; a fire was started but soon extinguished.

These events capped Pacific's ill-starred venture in the drugstore field. A month later, in June 1992, the company announced that it would sell Thrifty Corporation to two different buyers. The Thrifty chain and five other smaller retail operations were sold to the L.A.-based investor group of Leonard Green & Partners. The Pay 'n Save business went to Kmart's PayLess subsidiary. After six years of dealing with the problems of a drug retailer, Pacific announced that it intended to refocus on its natural gas business.

The first PayLess Drug Store was opened in La Grande, Oregon, in 1939. By 1945, under the leadership of Peyton Hawes, PayLess Drug Stores had opened nine stores in Oregon, Washington, and Idaho. PayLess expanded rapidly during the 1960s--between 1959 and 1967, sales increased by more than 400 percent. By that time, PayLess was operating 25 stores through 22 separate companies in which Peyton Hawes held varying degrees of ownership. In 1967 these companies were amalgamated as PayLess Drug Stores Northwest Inc., and the firm went public. Two years later, PayLess began trading on the New York Stock Exchange.

PayLess operated under an unusually high degree of decentralization, with each manager responsible for selecting merchandise, pricing, purchasing, and advertising and managers' compensation tied closely to the pre-tax profits of the store. Seeking to provide one-stop shopping for people living in smaller communities, PayLess served as a general merchandise store, with its product mix including refrigerators and washing machines. Part of its success stemmed from offering consistently lower prices than its competitors.

PayLess continued to prosper in the 1970s. In 1976 it acquired 22 Value Giant Stores located in northern California and the Pacific Northwest. PayLess also continued to grow internally. When a distribution center that opened in 1976 was pinched for space just two years later, the company built a huge, 500,000-square-foot distribution facility in Wilsonville, Oregon (outside Portland), and also established its corporate headquarters there. The company achieved significant efficiencies by purchasing merchandise in volume; while in some respects this limited the autonomy of store managers, they still enjoyed a high degree of independence. Between 1973 and 1978, the company's sales grew from $128 million to $298 million, and earnings rose from $3.5 million to $8.3 million. By that time, PayLess operated a total of 77 stores, including 31 in Oregon, 27 in Washington, 16 in California, and three in Idaho.

In 1980 PayLess acquired the 61 stores of PayLess Drug Stores of Oakland, California, which made a good fit with PayLess because their stores were the same size, they carried the same merchandise, and the geographic distribution of their stores was complementary--in addition to the fact that their names were virtually identical. In 1981 PayLess's sales nearly doubled, rising to some $750 million, while earnings were up 15 percent to $14.3 million. The company discontinued the major appliance business, which was unprofitable, but otherwise continued to display its wide range of offerings. Indeed, no merchandise category, including prescription drugs, represented more than 10 percent of PayLess sales.

In 1985 Kmart purchased PayLess for $500 million. PayLess was allowed a high degree of autonomy and continued to do well, benefitting from the solid financial backing of Kmart. A second 500,000 foot distribution center was opened in Woodland, California, in 1986, and PayLess picked up 24 stores from the Osco chain in 1987. PayLess also continued to grow internally, and in 1990 celebrated its 300th store opening. The company became more efficient by implementing a computerized purchasing system in the early 1990s, which helped the unit increase its inventory by 26 percent and cut inventory investment per store from $302,000 in 1990 to $224,000 in 1992.

In 1991, when Kmart began breaking out the results of its large subsidiaries in an effort to attract buyers, it became clear that PayLess (as it was now spelled) was among its star performers. Sales were up 15 percent from 1990 levels to $1.89 billion, and operating margins were a healthy 4.8 percent. The company had substantially raised the share of higher-margin prescription drugs in its merchandise mix, from below 10 percent in the mid-1980s to over 30 percent. It had acquired 52 more stores from the Osco chain and now operated more than 400 stores. In 1992 PayLess made another leap when it acquired the 124 Pay 'n Save stores from Thrifty, which by that time was experiencing significant problems.

After buying Thrifty in 1992, Leonard Green installed new management that stemmed the string of losses and appeared to turn the company around. Losses fell from $324 million for fiscal 1992 (ended in October) to $3.2 million in fiscal 1993. In the first fiscal quarter of 1994 (ended January 2, 1994) the company made a small profit. Meanwhile, Kmart was seeking to dispose of assets, and PayLess was one of its most attractive properties. With Thrifty apparently on the way to recovery, Green tried to sell Wall Street on a merger of Thrifty with PayLess. Some analysts noted that two of Green's recent acquisitions--Almac supermarkets in Rhode Island and Florida-based Kash N'Karry--had performed poorly, but Green countered that the two flops were minor blemishes on a record of 33 successful deals.

Eventually Green was able to complete the merger, and Thrifty PayLess, Inc., was formed. Several analysts were still unconvinced that the two chains could be easily integrated. Management styles differed sharply--the company's new CEO, Tim McAlear, who had previously been head of PayLess and had worked for Kmart for almost 30 years, described the Thrifty management philosophy as "almost dictatorial." Some departments at Thrifty had as many as seven layers of management; PayLess, in contrast, had operated under much more of a "bottom up" style.

The new company also faced the more mundane problems of merging two large organizations. Neither had a computer that would be able to track the new company's inventory, and Thrifty and PayLess had maintained their books under different accounting methods. Thrifty PayLess also had to decide how and where to put its people (most industry observers thought that the company would eventually be based in the spacious, well-equipped Wilsonville, Oregon, office rather than Los Angeles). Relocations can produce disorder: when the company started to coordinate all purchasing from its Wilsonville office, 70 confused vendors called in one day to find out what was going on. And, of course, many employees wondered whether they would be needed at all in the new organization.

Nevertheless, Thrifty PayLess had notable strengths. The company was certain to realize economies of scale through merging functions from purchasing to accounting. It had decided to leave the names of the stores in the two chains intact, and it would thus benefit from the name recognition they commanded. While Thrifty had had its problems, it still enjoyed a very strong identity in California. According to industry analysts, the company also had an unusually talented and experienced chief executive in Tim McAlear.

Thrifty PayLess, Inc. History

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