Sears Surprises Everyone

“What about Sears? >> What the heck was that? Big surprise of the morning. The Street was looking for a loss, it posted a profit. And also secured a new line of credit, which eases certainly some of the financing concerns there. Sears Holdings is one of the big winners this morning. Up 16%…Now that’s a real surprise.” Squawk on the Street 5/22/2009

Sears Holdings (SHLD) was expected to release earnings next week, but the company had just signed a new credit agreement and the timing seemed appropriate to also reveal the surprising operational results as well. The company had been expected to lose somewhere in the neighborhood of 88 cents per share according to consensus estimates, but instead the holding company responsible for Sears and Kmart reported a profit of $26 million or 21 cents per share. Not only was that far outpacing the most optimistic of analysts, it also beat the companies performance from a year ago when the company lost 43 cents per share.

Interestingly, the better performance can not be attributed to rising sales as the company continued to lose market share to the likes of Walmart (WMT) and Target (TGT) and sales dropped by a total of $1 billion in the quarter from $11.1 billion to $10.1 billion. The company recently unveiled an updated website that it hopes will be a source of sales growth in the coming quarters, especially as same store sales have continued to weaken.

The company has clearly been quite successful in lowering costs, leading to vastly improved margins. The company was able to reduce sales and administrative costs by $168 million. Further improving the company’s financial position, they reduced inventories and debt levels. Their revolving credit line of $4 billion was set to expire in March of 2010, which would have hampered the retailers ability to adequately stock their stores leading into heavier sales cycles. Sears signed a new agreement with Banc of America Securities LLC in which it will have the ability to borrow $4.1 billion through spring 2010 and $2.4 billion through March 2012, with an option for another $1 billion. The statement released by Sears said the reduced borrowing in the future was more in line with its needs.

The strong quarterly performance was unexpected by nearly everyone, and thus the stock is the biggest gainer of Friday morning up 17%. Coming into the day, Ockham’s valuation was our neutral Fairly Valued. The stock currently trades within its historically normal range of price-to-cash flow, and just below that range of price-to-sales but that does not yet account for the most recently reported loss of revenue. It is highly unlikely that we will become more positive on the shares following the major run up in the stock on Friday. The inescapable fact is that the retailer is losing sales, and costs can only be cut so much. It is not hard to understand that sales are what drive retailers and until Sears Holdings can buck the trend of falling sales we will be skeptical of its investment value. Job well done to the management team in this quarter, but if you weren’t in Sears before the run-up then there are likely better places to invest right now.

Original post

Comments

[fcharlie:]

Is it really a surprise? I've been saying on here for over six months that gross margins were improving, beginning with Kmart, and then with Sears. It doesn't take much of a brain to figure out that a small increase in gross margin on a revenue base the size of Sears, divided by a paltry amount of shares outstanding, equals per share earnings and free cash flow exploding higher. I would think this company can easily hit $8.00-$9.00 per share of free cash flow this year. Too bad for all the shorts who's only research was to listen to the garbage being posted in the press about how bad the company is, how no one shops there, and how they were going bankrupt this year.

May 22 01:17 PM

[Stone Fox C...:]

Why would you value SHLD as a pure retailer? You just think we should ignore the balance sheet and assets? Also, its not accurate to just compare them to Wal-Mart. KMart, yes, but Sears is much more like a HD that has been struggling.

Still any research that talks about price to sales is pretty worthless. Come on guys, do some dirty work. Don't just fire off reports based on standard ratios. Thats how you had a stock as Fairly Valued that was up 20% after hours last night.

May 22 03:49 PM

[Ockham Rese...:]

Thanks for your thoughts Stone Fox. This is by no means a complete research report, it is a blog giving Ockham's take on some of the current market headlines.

I understand you are liking what you see on SHLD's balance sheet. It is obvious that you have a different outlook than I on the value of real estate right now. Have you looked at GGP or SGP lately? There is an excess of retail space according to those two balance sheets. You make it sound like Sears has some of the most attractive real estate out there (according to your other comment about Sears today), which is not what I have known to be true.

We could argue the value of commercial real estate until we are blue in the face but that has not changed from 24 hours ago. What did change was a earnings surprise (see fcharlie's point). I stand by the fact that it is not wise to invest in a stock that gapped up close to 20% on falling sales. If you were long before today then congratulation, and best of luck in the future.

Have a great Memorial Day, all!


On May 22 03:49 PM Stone Fox Capital wrote:

> Why would you value SHLD as a pure retailer? You just think we should
> ignore the balance sheet and assets? Also, its not accurate to just
> compare them to Wal-Mart. KMart, yes, but Sears is much more like
> a HD that has been struggling.
>
> Still any research that talks about price to sales is pretty worthless.
> Come on guys, do some dirty work. Don't just fire off reports based
> on standard ratios. Thats how you had a stock as Fairly Valued that
> was up 20% after hours last night.

May 22 04:43 PM

[Moon Kil Woong:]

It's doubtful that Sears can keep slashing cost to keep up with it's revenue shortfall. What will it become later, a property company?

I tend to favor Ockham's general assesment. You still must focus on core business, not get lost in the mumbo jumbo of how to value it's breakup assets.

May 23 10:08 PM