Lowe's Cos (LOW.N), the world's No. 2 home improvement chain, wants to spend C$1.8 billion to buy Canadian competitor Rona Inc (RON.TO), but the struggling Canadian retailer publicly rejected the offer on Tuesday and said its own turnaround plan offered a better chance of success.

Rona, Canada's home-grown answer to Lowe's and Home Depot Inc (HD.N), said the C$14.50 a share proposal was not the best deal for its shareholders. Smarting from years of disappointing sales, it wants to close some of its big box stores and focus on smaller outlets that it says its customers prefer.

At stake is both Rona's long history as an independent company deeply rooted in Quebec, and Lowe's attempt to kickstart its Canadian expansion by acquiring hundreds of stores and a large national distribution network.

Lowe's said its plan has the support of institutional shareholders with about 15 percent of Rona's outstanding shares. Its July 8 proposal represents a 36.7 percent premium to the stock's closing price on Friday, July 6.

North Carolina-based Lowe's sees a deal with Rona as a way to fight Home Depot in Canada, where the domestic economy has been relatively strong, and the housing market never experienced the crash seen in the United States.

Acquiring Rona would also give Lowe's a chance to build up a presence in Rona's home province of Quebec, where the U.S. company has no operations at all.

"We are disappointed that the Rona board said no," Doug Robinson, Lowe's head of international operations and development, told Reuters in an interview. "We really want to take a little bit of time to consider options."

POLITICAL OPPOSITION

But the proposal is already facing political opposition in Quebec, where the ruling Liberals will face a tough challenge from the pro-independence Parti Quebecois in an election campaign expected to start this week.

Quebec Finance Minister Raymond Bachon said the offer was not in the best interest of either Canada or Quebec and he has asked economic development agency Investissement Quebec to work out what could be done to counter the proposal.

Provincial views are not a determining factor in foreign takeovers, but competition lawyers said federal officials reviewing the deal would pay heed to provincial views.

"Traditionally the federal government has been very sensitive to Quebec's needs and desires," said one lawyer, who specializes in regulatory reviews and competition law and who asked not to be named due to possible conflicts of interest.

"It seems that people pay special attention, when Quebec voices its views, especially when it is in relation to companies that are headquartered in its province."

Under the Investment Canada Act, Ottawa can review any foreign investment worth more than C$330 million and can block a deal it thinks is not in Canada's best interests. It has exercised that prerogative only twice, most recently in 2010 when it said BHP Billiton's (BHP.AX) hostile bid for Canadian fertilizer maker Potash Corp (POT.TO) was not of net benefit.

Rona shares rose as high as C$14.49 before easing back to C$13.50, a gain 13.7 percent, as investors lowered their expectations of a deal being struck in the face of Quebec's objections. Lowe's stock was down 4.8 percent at $25.58.

NEXT STEPS

Morningstar analyst Peter Wahlstrom saw little chance that Lowe's would approach shareholders with a hostile bid.

Boucherville, Quebec-based Rona has struggled as Home Depot and Lowe's have made inroads into its home turf. Sales at Rona's established stores, or same-store sales - a key measure for retailers - dropped 7.3 percent in the year ended December 25, 2011.

Rona has blamed its weak performance on poor consumer confidence, and its recovery plan centers on closing or splitting up 23 of its 79 biggest outlets and focusing on smaller "satellite" and "proximity" stores.

Rona spokeswoman Michelle Laberge said a special committee of the board had considered Lowe's offer.

"They believe that the plan that we have announced and that we are rolling out right now has greater potential to create more value in the mid- to long-term," she said.

Neither Home Depot nor Lowe's break out Canadian results, so it hard to compare their performance to that at Rona. But in its last two reported quarters, Home Depot said same-store sales rose in Canada.

A YEAR OF TALKS

Lowe's said the two companies' chief executives first met in July 2011, at Rona's request, "to discuss a potential relationship." Rona's board rejected an earlier proposal from December 15, 2011, was rejected by Rona's board, and Robinson said the new offer was "marginally" higher than the December one.

Lowe's operates more than 1,745 stores in North America, including 31 in Canada. Bigger rival Home Depot, which has been in Canada more than a decade longer, has 180 Canadian outlets.

Rona, founded in 1939 by independent hardware stores in Quebec , operates nearly 800 locations and supplies almost 1,500 stores in Canada. Its stores are mostly smaller than Lowe's outlets and many Rona dealers are family businesses with a long history in the network, and a stake in the public company.

"I have read many comments where people said that Lowe's would not be interested in the smaller format or the dealer businesses. That is just factually incorrect," said Robinson.

Rona's biggest shareholder is pension fund Caisse de dépôt et placement du Québec, which said on Tuesday it had raised its stake in the company to 14.18 percent. It said it will evaluate the offer based on the value it creates for its depositors and shareholders, but also factor in the importance of the continuing development of Rona's Quebec supplier network.

Caisse, formed nearly five decades ago by the government of Quebec to manage the funds of the Quebec pension plan, also has a mandate to contribute to the province's economic development.

Speculation about Lowe's intentions came front and center in early April when one of its top executives told Reuters that Rona was a "very interesting company.

Rona insisted it was not for sale.

But even before Tuesday's news, the stock had risen 12 percent in three months, partly on hopes that Lowe's might bid.

Scotiabank and BMO Capital Markets are acting as Rona's financial advisors, with Norton Rose Canada LLP and Davies Ward Phillips & Vineberg acting as its legal advisors.

Lowe's financial advisors are CIBC World Markets and Bank of America Merrill Lynch, and Stikeman Elliott and Hunton & Williams are acting as its legal advisors.

($1 = $1.00 Canadian)

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