NEW YORK — The acquisition frenzy continues.

In the latest retail development, Mercantile Stores Inc. said Friday it’s in negotiations with a third party on a possible merger or other business combination. The announcement sent the stock price soaring 7 5/8 to 54 1/2 with 1.6 million shares traded. The leap followed a 6 5/8 surge Thursday on rumors of a possible deal with May Department Stores Co. Mercantile was trading at $33 a share in late July before takeover rumors heated up.

Until Friday, Mercantile had denied rumors it was up for sale. The company declined to disclose the identity of the other party.

May Co., widely expected to be the suitor, declined comment. May Co. stock dropped 5/8 Friday to 40 3/8.

Dillard Department Stores Inc., another potential buyer, said Friday it was not in negotiations with Mercantile. J.C. Penney Co. also said it was not interested.

Mercantile, based in Fairfield, Ohio, said no merger or other business combination had been authorized by its board and that there was no assurance a deal would take place.

The chain of moderate- to upper-moderate-price department stores is controlled by textile tycoon Roger Milliken and his family, which holds a 40 percent stake. Any merger would require Milliken’s approval, but the 78-year-old patriarch is said to be ready to sell.

“It’s not so much that he wants to sell, but he’s doing estate planning, and the Mercantile stock has not been productive for him,” said one retail source.

Milliken was not available for comment.

Analysts expect Mercantile to fetch about $58 to $62 a share at the acquisition price, placing its value at $2.1 billion to $2.3 billion. That’s a price range the cash-rich May Co. could easily handle. And if it pulled off a deal, it would bring the department store giant into several medium-sized markets in the South and Midwest where it does not operate stores, such as northern Florida and southern Ohio, and into such cities as Mobile, Ala., Kansas City and Louisville.

“I think it will make a perfect fit,” said retail analyst Walter Loeb, noting that there are few markets where both companies have stores.

A deal would also enable David Farrell, May Co. chairman, to still say he’s the boss of the biggest department store operation in the country. A May-Mercantile combination would produce a $13.7 billion empire. May Co.’s sales totaled $11.02 billion in 1993 while Mercantile reached $2.73 billion.

Without a deal, Farrell falls short of Allen Questrom, chairman of Federated Department Stores, which is merging with Macy’s to form a $13.5 billion retail empire.

But May Co. wants to maintain an edge. “Acquisitions are in their blood,” said Janet Mangano, at Burham Securities, adding that May Co. is very adept at making acquisitions and getting significant returns. So far this year, the St. Louis-based May Co. has acquired 26 department stores, including 10 from Hess’s Department Stores, eight from McCurdy & Co., six from Albert Steiger, one from J.C. Penney, and one from Sears, Roebuck & Co. “Both May Co. and Mercantile are very disciplined operators, and both are conservative in their balance sheet,” Mangano said. She pointed out that Mercantile has established fine relationships with suppliers and has little debt.

Mercantile’s operating margins, however, are about 6 percent of sales, and below the industry average, she noted. May Co.’s operating margins are around 14 percent.

Mercantile operates five divisions with a total of 101 stores under such names as McAlpin’s, Castner Knott, Gayfers, J.B. White, Maison Blanche, Jones, Joslins, Hennessy’s, de Lendrecie’s and Glass Block. With a takeover, the names would likely be wiped out by the acquiring company as part of efforts to achieve greater operating efficiencies.

Past efforts, including moving the central buying office from New York to Fairfield in 1992, and reducing the number of divisions from 11 in 1992 to five currently, have not produced the expected level of cost savings.

According to Isaac Lagnado, principal of Tactical Retail Solutions, the research and consulting firm, Mercantile needs help “on both the top line and bottom line.”

Comparable-store figures have been flat to negative single digits for the last three years, compared to industry average of 2 to 3 percent, and May Co.’s 4 to 5 percent.

Tactical’s research shows that Mercantile’s McAlpin’s stores used to dominate the Cincinnati-area market, doing $195 a square foot in the late Eighties.

But Federated’s Lazarus division has surged into the lead, pushing McAlpin’s down to an estimated $165 a foot this year.

McAlpin’s is part of Mercantile’s Louisville-based division, which also operates Bacons, Root’s and Lion stores. Mercantile’s gross margins are 29 percent, or two to three points below the industry average.

Mercantile earned $89.7 million, or $2.44 a share, on sales of $2.73 billion last year. May Co. operates 301 department stores, including Lord & Taylor, Foley’s, Robinson’s-May, Hecht’s, Kaufmann’s, Filene’s, Famous-Barr, and Meier & Frank. It also operates Payless ShoeSource.