Another news article bid for KSS was reported yesterday. This one is the NY Post reporting that the owners of JCPenney (Simon Property and Brookfield) are bidding for KSS at $68 or $8.6bn. Simon also bought JCP with Brookfield. It also bought Forever 21 with Brookfield and Authentic Brands. But those prior deals were out of bankruptcy to avoid the stores going dark. It made sense as it prevented vacancies in anchors in the mall portfolio that would give many leases the right to terminate on multiple anchor vacancy co-tenancy clauses. JCP is in a lot of high quality malls, those lease agreements were worth protecting, whereas Simon has low exposure with KSS and it’s located in strip centers. That's not a property segment that Simon has an interest in protecting. The comment from the news report around not pursuing the Sephora partnership is also interesting, both because Sephora is a material (or only) part of the KSS growth strategy, and because this ownership group owns JCP, which used to have the Sephora partnership, so it knows the economics as well as anyone, and apparently doesn’t want it. Maybe it couldn’t have it anyway given it owns a competitor. Perhaps there is an angle here for Simon and Brookfield to drive "synergies" on retail investments being made to keep JCP afloat, while also recognizing that a large scale rollout of Sephora at KSS would likely mean huge customer loss risk for JCP which is attempting to revamp its own beauty offering. Either way, it sounds like a bad idea for SPG to take part in buying KSS as SPG likely has real estate investment opportunities elsewhere post pandemic where it could deploy capital in its core business. We’ve outlined that apparel retail is significantly over earning as the category has seen some of its best inflation spreads in history over the last year. Details can be found in our Apparel Deep Dive (replay link below). SPG would be clearly overpaying for the operating asset at KSS and levering itself even more so to the consumer credit cycle which looks to be coming off a never before seen peak in credit quality. Setting up a shared services model with JCP and implementing a cost cutting plan would likely solidify KSS’s long term fate (ie slowing going away, vs a potential turnaround story), but perhaps it would slow its demise vs a mis-executed transformation. If the activists lose the proxy battle this stock likely goes to the mid to low 40s. Maybe a deal gets done, but that would mean upside to mid to high 60s. We like KSS short side on these deal "news" driven rallies.
Apparel Deep Dive Replay Link: Click Here
