The retailers accused the CMA of moving the goalposts after it raised extensive competition concerns as part of its investigation of the proposed merger.
The Competition and Markets Authority (CMA) has found the proposed merger between the supermarkets could lead to a worse experience for in-store and online shoppers across the UK.
The CMA has provisional concerns it could lead to a substantial lessening of competition at both a national and local level.
The deal could also cost shoppers through reduced competition in particular areas where Sainsbury’s and Asda stores overlap.
It also raised concerns the merger could drive up prices and reduce the quality of service for online customers.
Neil Parish, Chair of the Environment, Food and Rural Affairs (EFRA) Committee, welcomed the provisional finding.
“However, while I commend the CMA’s thorough investigation into the merger, I am disappointed that the report was unable to reflect the impact this merger could have on businesses in the food supply chain, other than how it would affect competition at a customer level.
“We sent a letter to the CMA last year, asking them to consider supplier views. We know that businesses working in the food industry already face intense pressure due the uncertainty of Brexit and planning for a no deal scenario.
“The EFRA Committee will be watching the next steps of this investigation closely.”
Stuart McIntosh, chair of the independent inquiry group carrying out the investigation, said: “These are two of the biggest supermarkets in the UK, with millions of people purchasing their products and services every day.
“We have provisionally found that, should the two merge, shoppers could face higher prices, reduced quality and choice, and a poorer overall shopping experience across the UK.
“We also have concerns that prices could rise at a large number of their petrol stations.”
He said the companies and others now had an opportunity to respond to its provisional findings.
“It is our responsibility to carry out a thorough assessment of the deal to make sure that the sector remains competitive and shoppers do not lose out.”
The CMA has set out potential options for addressing its provisional concerns including blocking the deal or requiring the companies to sell off a ‘significant number’ of stores and other assets, potentially including one of the Sainsbury’s or Asda brands, to recreate the competitive rivalry lost through the merger.
It added it was likely to be difficult for the companies to address its concerns.
A spokesperson for Sainsbury’s and Asda said the findings ’fundamentally misunderstand’ how people shop in the UK today and the intensity of competition in the grocery market.
“The CMA has moved the goalposts and its analysis is inconsistent with comparable cases.
“Combining Sainsbury’s and Asda would create significant cost savings, which would allow us to lower prices.
“Despite the savings being independently reviewed by two separate industry specialists, the CMA has chosen to discount them as benefits.
“We are surprised that the CMA would choose to reject the opportunity to put money directly into customers’ pockets, particularly at this time of economic uncertainty.
“We will be working to understand the rationale behind these findings and will continue to press our case in the coming weeks.”
The Food and Drink Federation (FDF) welcomed the news.
An FDF spokesperson said: “We are pleased to see that the CMA findings reflect the concerns of FDF members that the proposed merger would cause a substantial lessening of competition at both a national and local level.
“The CMA has correctly identified a number of issues with the proposed merger and with an ever more consolidated grocery market.
“The CMA should now procced to apply the appropriate remedy.”
The CMA said it now welcomes responses from interested parties to its provisional findings by March 13 and its notice of possible remedies by March 6.
The final report will be issued by 30 April 2019.
Sainsbury's has vowed to fight on but data and analytics company GlobalData said the merger now looks doomed.
Patrick O’Brien, UK Retail Research Director for GlobalData, said the provisional findings had 'devastated any prospect of the merger going ahead'.
“Rather than just point to a number of stores that would need to be divested as had been expected, the CMA has raised concerns about the tie-up in just about every conceivable way – on national and local grounds, on store and online competition concerns and on major stores, convenience stores and petrol stations.
“The CMA even outlined how difficult the required level of divestments needed would be to action.”
He said it seemed CMA did not 'buy' the central strategy of the deal - to benefit consumers by using their combined might to negotiate with major suppliers.
“While Sainsbury’s CEO Mike Coupe vows to fight on, this may be because he cannot concede without losing face.
“The confidence he placed in getting the deal past the CMA in light of its previous - generous - decision to allow Tesco to buy Booker looks like a bad misjudgement now, and recent results have seen Sainsbury’s fall behind its rivals, inviting the suggestion that management have taken their eye off the ball.”
Pricing specialists Simon Kucher said the CMA’s statement would be welcome news for both suppliers and shoppers.
James Brown, head of retailer and consumer goods practice said many suppliers would breathe a sigh of relief the CMA seemed to be moving towards rejecting the merger.
“This looks like good news for suppliers and - if we believe the CMA's analysis - for shoppers too.
“The argument from Sainsbury’s and Asda that reducing competition would lead to lower prices was always going to be tough. That can work if you can make substantial cost savings - but how much more can really be squeezed from grocery suppliers?
“For branded suppliers it was mostly stick and no carrot. There is very little benefit suppliers can take from a merger, mostly they will lose volume sales.
“For private labels (own brand), the chance to win big new contracts could be powerful and have led to real cost savings. Though how much more efficient it is to manufacture to serve 29 per cent of the market versus 15 per cent is up for debate.
“Put simply, the CMA's modelling - which we expect Sainsburys and Asda to challenge both in terms of method and outcomes - shows that any likely cost savings from the merger will not offset the incentives to increase price.
“Sainsburys and Asda are extremely confident in their ability to deliver lower prices - the CMA is clearly less so and we can expect that to be the focus for the remainder of the investigation.”