Is Sears Stumbling?

Last week Steve's Blog featured an article about Sears Holdings Corp. that I'd like to share here. It appears that the company is struggling in its recent attempts to remain relevant in today's ultra-competitive retail environment.

Kmart Holdings Corp. acquired Sears Roebuck & Co. in March of this year but the combined company assumed Sears' name as well as its headquarters in Hoffman Estates, Illinois. The merger was orchestrated by financial whiz Eddie Lampert, who brought Kmart out of bankruptcy and turned it into a Wall Street darling by selling off scores of the company's underperforming units. By unlocking the value of Kmart's extensive real estate holdings, Mr. Lampert amassed the pile of cash necessary to acquire Sears.

The management at Sears was compelled to sell out to Kmart because it had already decided to move the company into "off-mall" locations. Before the merger, the venerable retailer had opened a few experimental Sears Grand units (massive big-boxes not unlike Wal-Mart's Supercenters) and acquired 56 former Kmart and Wal-Mart stores. Sears was wise to realize it would suffer if it continued to hitch its wagon to conventional malls, as it has done for 50 years; not only are fewer and fewer malls being built each year, but the company's target customers are more comfortable shopping in big-box stores these days. Kmart's remaining stores presented a golden opportunity for Sears to move into big-box retailing in a big way. The merger seemed a "win-win" for all involved.

Shortly after the merger was consumated, the "new" Sears announced that, within 3 years, 400 Kmart stores would be converted into a new format called Sears Essentials. The Sears Essentials stores, about half the size of the new Sears Grand units, would combine Kmart's strengths in pantry (food), HBA (drug store merchandise and cosmetics), pharmacy, and garden centers with Sears' more valuable brand and its expertise in appliances (Kenmore) and hardware (Craftsman). Retail observers noted the overlap between Sears' mall stores and Kmart's "off-mall" units. Mall owners were delighted by the assumption that Sears would close some of its "mall-based" stores as a result of its big-box push because the vacated square footage could be put to more profitable uses. The prospect of Eddie Lampert selling off a large portion of the combined company's "underperforming" stores also excited Wall Street.

When I wrote about Wal-Mart in June, I predicted that Kmart's name was so tarnished that it would vanish from the retail scene within 5 years, the strongest of its stores having been converted to the Sears Essentials format. I felt that if any mass-merchandise chain could hope to compete with Wal-Mart and Target, that chain would be Sears, but I also stated that if the company didn't execute its "off-mall" push perfectly, it would go the way of fomer rival Montgomery Ward.

Recent observations (summarized in the following article) lead me to believe that the Kmart-Sears merger is not bearing any fruit. Few customers percieve the new Sears Essentials stores as offering a decidedly unique shopping experience, a fact that prevents the format from being considered a serious competitor to the big-box giants. While the company has bragged about its success with Sears Grand, it has been eerily silent about the results at Sears Essentials and whether the company will remain true to its ambitious Kmart conversion plan. Furthermore, investors have grown impatient with Eddie Lampert's reluctance to sell large chunks of "underutilized" real estate, the proceeds from which could be used to fuel other investments.

In the end, Eddie Lampert may prove to be a better investor than a retailer. Both Kmart and Sears have been on a downward spiral for years, and the merged company may not be worth more than the sum of its parts. Alas, the real estate owned by Sears Holdings seems to be more valuable than its store operations. While there is still hope that Sears can become a major competitor to Wal-Mart and Target, I wouldn't bet on it.

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Rumors of stalled Sears strategy grow

October 25, 2005

BY SANDRA GUY Business Reporter

Chicago Sun-Times

A Wall Street analyst gave voice Monday to rumors that Sears' ballyhooed strategy of building new stand-alone stores is in trouble.

Sears is counting on its newest store, Sears Essentials, to compete with big-box rivals such as Target, Kohl's and Wal-Mart, while also selling refrigerators, treadmills, lawn mowers and patio furniture.

Sears has denied reports that it is slowing or halting its plans to convert 400 Kmart stores into Sears Essentials stores within three years -- at a cost of about $3.5 million per store. But Sears hasn't yet announced how many Sears Essentials stores it will open in 2006.

Furthermore, two top Sears executives integral to the strategy have left or are leaving the Hoffman Estates-based retailer, Gregory Melich, an analyst at Morgan Stanley & Co., said in a note to investors Monday.

Catherine David, a former Target executive that Sears named to oversee Sears Essentials and two other stand-alone stores, left the retailer in September.

Sears hired David in July 2004 to turn around the struggling Great Indoors home-decor chain, which Sears had downsized a year earlier to 17 stores.

Sears also is losing Luis Padilla, another former Target executive and a merchandising whiz credited with putting the "chic" in Target's "cheap chic" reputation. Padilla is leaving at month's end, following Sears Chairman Edward S. Lampert's decision to install his own top strategists.

Furthermore, Sears is investing less than its retail rivals in its stand-alone stores, and has cut its advertising by more than 40 percent, Melich wrote.

More than 50 percent of Sears Essentials stores are within five miles of a Target, a Lowe's or a Home Depot, giving them tough conditions under which to compete, he said.

Other analysts have questioned the Sears Essentials format as unfocused and underwhelming.

"The store seems a hodgepodge of everything, and there's no clear message to consumers about what to expect," said Kim Picciola at Chicago-based Morningstar.

John Melaniphy III, a Chicago real estate expert at Melaniphy & Associates, said Sears has been noticeably silent about Sears Essentials' performance, in contrast to its bragging about exceeding expectations with Sears Grand, the company's largest stand-alone stores that are twice the size of a Sears Essentials.

Investors were hoping Lampert, a billionaire hedge-fund whiz, would have dropped any designs he had on retailing and sold much of Sears' real estate to turn a quick profit.

As time goes by, investors have gotten impatient. Analysts had estimated that Sears' stock would climb to $169 to $200 by year's end if Lampert sold assets. The stock ended the day Monday at $125.07.

Sears will open 49 Sears Essentials stores by year's end.

In Chicago's suburbs, Sears has converted former Kmart stores in northwest suburban Palatine and in southwest suburban Homer Glen to the Sears Essentials format. A Sears Essentials will open this weekend in west suburban Elmhurst.

Said Neil Stern of Chicago's McMillan Doolittle consultancy, "It's critical to the future of the company as a retailer to make this [Sears Essentials] work."