Shares of Rite Aid (RAD) , Fred's (FRED) and Walgreens (WBA) were hit Wednesday on rumors that the Federal Trade Commission is leaning towards filing a lawsuit seeking to block Walgreens planned acquisition of Rite Aid.

Rite Aid shares were down 39 cents Wednesday to $4.08, or 8.72%. Fred's fell $1.37 to $13.68 or 9.10%. Walgreens edged down 0.5% from a high of $83.93 earlier in the day to $83.51.

Wednesday's reaction followed a report by specialty publication the Capitol Forum that the FTC is mulling a lawsuit to challenge the deal.

The market's negative reaction was muted in large part because investor's have increasingly discounted the chances that the FTC would approve the Rite Aid deal.

A government challenge to the acquisition by Walgreens would be bad news for Fred's, a relatively unknown drug store chain based in Memphis, because it has a deal to acquire up to 1,200 Rite Aid stores that the FTC would have ordered divested as a condition of antitrust clearance for the merger of the two larger retailers. That would be be nearly twice Fred's current 650-store footprint, mainly in small and mid-size town across the southeastern states. The purchase would presumably give Fred's, which has a mainly rural presence, a larger footprint in urban.

Walgreens has repeatedly upped the number of stores it is willing to divest to win FTC clearance but got a dose of bad news on April 5 when the FTC took action regarding another retail antitrust divestiture to an untested buyer that didn't work out.

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The FTC sought public comment on private equity firm Sycamore Partners II LP's wish to sell 323 Family Dollar Stores it acquired as part of Dollar Tree's 2015 acquisition of Family Dollar Stores Inc. Sycamore Partners wants to sell them to Dollar General and says they "can no longer operate as a viable standalone business."

Walgreens' plan to win FTC approval of its Rite Aid purchase, contingent upon a spinoff to Fred's, is similar to the one Sycamore tried to make work.

Sycamore Partners, the acquirers of the divested dollar stores, say the Family Dollar Stores it bought "can no longer operate as a viable standalone business." Sycamore has been running the stores as the corporate entity Dollar Express LLC but retained the Family Dollar signs on the storefronts.

This deal setup was seen in many circles as a template for Walgreens' acquisition of Rite Aid. Walgreens agreed to acquire smaller drugstore peer Rite Aid for about $9.7 billion back in October 2015. Originally the company said they would have to divest roughly 500 stores.  But when the plan shed stores to Fred's was announced in December 2016, they said they would divest 865 stores.

But the FTC said that divestiture would not be enough for Walgreens and Rite Aid to go ahead with the proposed merger.

The number of divested Rite Aid stores has since swelled to around 1,200, and the FTC has continued to delay approval of the deal. The Fred's deal is worth approximately $950 million.

All parties involved in the Rite Aid deal say they expect a decision to be finalized by July.

A key issue for the FTC is whether Fred's can convince the agency it is capable of acquiring so many stores and operating them successfully.

Also weighing on the outcome of the merger is the debacle that followed when the FTC allowed Albertson LLC to sell 146 stores to Haggen LLC, another small chain store, as a condition of antitrust approval for Albertson's 2015 purchase of Safeway. But instead of flourishing, Haggen filed for bankruptcy.

"The FTC prides itself on being able to craft remedies that restore whatever competition they predict will be lost. Recent divestiture transactions have demonstrated that predictions in retail are more complicated and cumbersome than in other industries, so it's not surprising that the commission is proceeding cautiously here," said Andrea Murino, co-chair of Goodwin Procter LLP's antitrust practice.

She said the FTC will insist that whoever is the divestiture buyer will immediately be in position to restore competition lost because of the original merger. "Fred's seem excited about the prospect of acquiring the divested stores but it is not the trans-national player Walgreens and Rite Aid have become," Murino said. "It's going to be very tricky to convince the commission that the proposed remedy to Fred's will be sufficient."

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