SHLD: Not a One Off

 

The preannouncement out of SHLD has set the stage for what we expect to be several negative preannouncements over the coming weeks. Sales are coming in lighter than expected at both Sears and Kmart, but we think that while SHLD has its own challenges (and they are many), it’s not the only retailer recording lighter than expected sales this holiday season. In addition, it adds to our view that price competition in the mid-tier channel is becoming increasingly more aggressive heading in the 1H of F12.


The struggles at SHLD are hardly an overnight development. At the annual shareholders meeting in May, Eddie Lampert (CEO) addressed the need to optimize the company’s real estate/footprint by increasing its allocation to apparel as well
as exploring lease options (e.g. sub-divisions) among other alternatives.

It should come as no surprise then that apparel was a relative outperformer in the company’s QTD results, which were hit particularly hard by weakness in consumer electronics and home appliances – categories in which SHLD has struggled to maintain share. In addition, the company announced it will also be closing stores.


All in, these measures are not the kind of seismic strategic shifts that one would expect in order to turn a retailer with over $40Bn in annual sales and 4,000+ stores from its current downward trajectory of contracting profits. In fact, we think its
just the beginning of more significant actions to come in 2012.


In the meantime, here are a few thoughts on some the broader implications of the SHLD announcement:

  • Kmart comps are running down -4.4% QTD reflecting among other things (i.e. weaker consumer electronics and home appliance demand) lower layaway sales. With WMT now offering layaway on toys and electronics for the first time this year, it appears that heightened competition is taking its toll. For perspective, if we assume that half of Kmart’s comp decline was due to a lost layaway sales equating to ~$300mm and we assume a complete shift of these sales over to WMT, it would add roughly 50bps to WMT’s domestic comps in Q4. A notable contribution in light of +2% comp guidance.
  • Closing 100-120 Kmart and full-line Sears Stores is a rounding error when considering the company’s 4,000 store base. With the average box size of a Kmart store at 93,000 sq. ft. and Sears  at 133,000 sq. ft., competitors of similar size (i.e. JCP at 101,000 and TGT at 134,000 sq. ft.) will likely see additional pressure as it relates to real estate optionality. Less of an issue for TGT, but a key consideration for JCP with Johnson reviewing any and all options in an effort to transform the retailer. 
  • In addition, with apparel one of the few bright(er) categories for SHLD, we expect the retailer to get more aggressive in attracting branded content as it looks to boost its portfolio. JCP is in the midst of a similar initiative. As such, we expect heightened competition for brands to result in higher acquisition costs. This is not really new news, but incrementally worse on the margin given SHLD’s reliance on apparel performance.
  • Reducing inventory by $500-$580mm from peak 2011 levels = more price competition at the mid-tier. Between
    Sears and Kmart, SHLD accounts for ~5-8% of the ~$180Bn domestic apparel industry and roughly 15% of the mid-tier segment. While $500mm accounts for less than 1% of the mid-tier, it’s yet another factor that will weigh on prices and margins in the 1H of F12. The reality is that SHLD is not going to get there without promotionally induced sales
    activity.

With retailers set to report on Holiday sales next week coupled with ICR the following week, we suspect SHLD won’t be the only company in retail preannouncing between now and then.

 

SHLD: Not a One Off - SHLD Sent

 

SHLD: Not a One Off - SHLD SIGMA

 

SHLD: Not a One Off - SHLD RNOA

 

Casey Flavin

Director



 


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