Lampert buyback, sales drop drain Sears' cash

Sears Holdings Corp. is entering what may be the worst holiday season in decades with 42 percent less cash on hand than a year earlier, declining cash flow, hard-to- sell real estate and retail operations lagging behind competitors.

While Chairman Edward Lampert has downplayed the importance of revenue growth, the Hoffman Estates, Illinois-based company now has little else to fall back on to boost cash flow. Sears faces a loss of $44 million, or 38 cents a share, excluding some items, on sales of $11 billion when it reports third quarter results Dec. 2, according to a survey of analysts by Bloomberg.

``We're definitely arriving at a point when some people will make the argument that the steps not taken before are logically leading to the operating losses that are building up now,'' said Richard Hastings, a consumer strategist at Global Hunter Securities LLC of Newport Beach, California.

More than three years after Lampert's Kmart Holding Corp. bought Sears Roebuck & Co., the 46-year-old chief still hasn't revived revenue growth at the largest U.S. department-store chain. The combined company has seen sales drop at stores open at least a year in every quarter since the acquisition.

Lampert has bolstered cash from operations while spending less on them. Sears's capital expenditures last year were $570 million, less than half of the $1.2 billion by J.C. Penney Co. and a sixth of the $3.6 billion spent by Home Depot Inc. That may hurt the retailer's ability to compete for Christmas sales, according to Russell Jones, the director of retail at consultant AlixPartners LLP in Southfield, Michigan.

Store Investments

Sears hasn't ``made the investments that would cause consumers to start coming to the stores more, and on top of that, the economy's causing everyone to spend less in general,'' Jones said.

Competitors such as J.C. Penney and Kohl's Corp. have invested in new brands by designers such as Polo Ralph Lauren Corp. and Vera Wang and sprucing up stores.

Cash flow from operations in the second quarter decreased 27 percent to $515 million after Sears's sales declined 4.1 percent from a year earlier.

Third-quarter revenue may fall 4.1 percent, according to the average estimate of analysts.

Lampert also committed $5 billion since the 2005 acquisition for stock repurchases. Cash dwindled from $4.4 billion at the end of 2006 to $1.5 billion in the quarter that ended Aug. 2.

`Not There'

``When times get tough, that cash is just not there anymore,'' said Gerald Hirschberg, a Standard & Poor's credit analyst. ``It could have been there to reinvest in the business if they had not bought back stock.''

For the moment, Sears has ``adequate'' access to cash, with borrowings still available under a $4 billion credit line that's up for renewal in March 2010, said Monica Aggarwal, an analyst at Fitch Ratings Service in New York.

Shareholders have seen the value of the stock drop 51 percent in the past year, compared with a 24 percent decline for Home Depot, 16 percent for Lowe's, 56 percent for J.C. Penney's and 32 percent for Kohl's. Through his investment companies, Lampert controlled 52 percent of the stock as of Oct. 15. Activist investor William Ackman's Pershing Square Capital Management LP hedge fund held 6.7 million shares, or 5.3 percent, as of June 30, according to data compiled by Bloomberg. Ackman declined to comment.

Chris Brathwaite, Sears's spokesman, declined to comment on why the stock hadn't risen since the buybacks began.

Pension Declines

Pension costs may cut into the company's spending flexibility. An Oct. 28 Morgan Stanley report by analysts Abhijit Chakrabortti and Jason Todd said increased pension contributions might cost Sears 41 cents a share over time, starting next year.

Sears's 2008 contribution to the fund was $245 million. The company is ``apt to see potentially some increased contributions necessary,'' according to Charles O'Shea, a senior analyst at Moody's Investors Service, depending on where it had its assets invested. The plan was 89 percent funded at the end of 2007, according to calculations made using figures from the company's annual report.

``I don't think contributions to the pension plan for 2009 will have a material negative impact on Sears's liquidity,'' O'Shea said.

`Strong Capital'

Sears ``has consistently maintained a strong capital structure with more than adequate liquidity,'' Sears's Brathwaite said in an e-mail. The retailer has more than $1 billion available under its credit line for the peak Christmas season, Brathwaite said. ``We currently expect to completely repay these borrowings, in the month of December,'' he said.

Part home-improvement retailer, part department store, Sears's profitability trails competitors. Earnings before income, taxes, depreciation and amortization fell 28 percent last year compared with a drop of 15 percent for Home Depot Inc., little changed for J.C. Penney, and a 2.5 percent gain for Kohl's Corp. Sears's net income, at 1.6 percent of sales last year, trailed the 6.6 percent at Kohl's, 5.7 percent at Home Depot and 5.6 percent at J.C. Penney.

Sears also has been slower to cut inventory levels than Kohl's, J.C. Penney and other competitors. In August it forecast a profit increase in the second half based in part on a pledge to cut inventory after posting a 62 percent net income decline in the second quarter.

Not Done Yet

While the numbers aren't necessarily showing it now, Lampert may be able to show off his cost-cutting prowess during an economic slowdown, Hastings said.

``I would trust this situation to him better than almost anyone else,'' Hastings said.

One advantage Sears has in a recession is a wider range in appliances, including more lower-priced choices, O'Shea said. Its brands such as Craftsman tools and Kenmore appliances are also a draw, AlixPartners' Jones said.

``The problem is, that's not strong enough to sustain the entire business,'' Jones said. ``Sears has definitely failed to seize opportunities that they've had, and they're in a tough situation now.''