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Lampert Losing His Luster

Originally published: 24 July 2007

Original link: http://www.chicagobusiness.com/cgi-bin/article.pl?article_id=28127&seenIt=1

With the announcement that Sears' second-quarter net will plummet, Chairman Edward Lampert needs a new plan to boost profit.

Time is running out for Edward Lampert, the hedge fund manager who controls Sears Holdings Corp.

Investors who bid up Sears shares on the strength of Mr. Lampert's reputation as a financial alchemist now see the company for what it is — a struggling retailer. Slack sales and falling profit have knocked 20% off the share price since May, ratcheting up the pressure on Mr. Lampert to come up with a new strategy that will reverse the slide.

Sears' recent announcement that net income will fall by almost half in the second quarter, the first decline since Mr. Lampert took control of the company in March 2005, shows his strategy of boosting earnings through cost cuts is no longer working. Observers say he must move quickly with a new plan to boost revenue if he hopes to placate shareholders.

"He had a shareholder base of people believing in a turnaround," says Mitch Zacks, senior portfolio manager of Chicago-based Zacks Investment Management, who has unloaded most of a Sears stake that once totaled 20,000 shares. "Now that earnings have stopped growing and are going in the wrong direction, there's not much of a turnaround play."

Mr. Lampert's options include the kind of financial engineering many expected from him when he merged Kmart into Sears in a $12.3-billion deal that left his hedge fund with a 43% stake in the combined company: sell Sears' real estate or pull off another acquisition. His other choice: try to reinvigorate Sears by pumping a significant amount of cash into remodeling the stores and boosting advertising, the type of investment he's been reluctant to make since installing himself as chairman.

Mr. Lampert declined to comment for this story, but Sears has acknowledged the need to make stores more relevant to customers and has overhauled its Web site. The company also launched a new ad campaign and moved Craftsman and Kenmore products into Kmart stores. Still, Sears' first-quarter capital spending was $113 million, well below the $244 million rival J. C. Penney spent opening new stores and remodeling old ones.

"Competitors like Kohl's and J. C. Penney have gotten smarter, their merchandising is better and Sears is donating share to them," says Arun Daniels, research analyst at New York-based ING Investments LLC, which owned 288,680 Sears shares at the end of March.

A BOMBSHELL
Since taking the helm, Mr. Lampert has used cost-cutting to boost profits and cash flow despite steadily falling sales at Sears stores open at least a year, a benchmark for retail performance. Shares climbed 50% from the time he took control until April 30, just before quarterly profit fell short of Wall Street estimates for the first time.

Earlier this month, Sears dropped the bombshell that second-quarter profit would fall as much as 46% from the year-earlier period to between $160 million and $200 million. Derivatives trading, which boosted earnings by $101 million in the third quarter of 2006, has since generated a $48-million loss.

Cash flow, which surged early in Mr. Lampert's tenure, has been declining since last year. Total cash is expected to drop to $2.8 billion by August from $4 billion in February.

A plan announced this month to repurchase $1 billion in Sears shares will buy time, but won't reverse declining sales. Meanwhile, the retailing climate has only grown tougher in recent months as sales turned down across the industry.

Rather than fix stores, he could opt for a financial maneuver to raise more cash — such as selling real estate. But that won't fetch as much as it would have before demand for shopping mall real estate slumped around the country.

Or he could try to bolster the company with the acquisition of another retailer, perhaps a grocery chain like Safeway or a big-box retailer like B. J. Wholesale Club. But his record so far with Sears and Kmart raises questions about his ability to integrate a third acquisition.

URGENT SITUATION
"The real question (for Mr. Lampert) is how much synergy has been created so far with the Kmart and Sears combination," says William Marquard, former executive vice-president of Kmart supplier Fleming Cos. and now president of Chicago-based retail strategy firm Marble Leadership Project.

The urgency of the situation can't be lost on Mr. Lampert, whose Sears shares have shed $2.7 billion in value since April.

"At this point, he has to look in the mirror and make a decision," Mr. Marquard says. "Is this the time that I cash out or do what I need to do to create a better shopping experience for customers?"