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Department store chains may be ripe for takeover

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Along with beach towels and cropped twill pants in every color, department stores' summer sales this year might as well include a few shares of company stock.

Wall Street has discounted the stock of many major chains from 20 percent to as much as 60 percent below last year's prices.

It's not just a general snubbing, retail analysts say. There are reasons for the declining values.

And when share prices fall - especially in an entire category - Wall Street's thoughts turn to consolidation.

Over the last year, major retailers have missed earnings targets and produced weaker-than-anticipated sales. Others expect gains to come in at a slower pace the second half of the year.

Standard & Poor's composite retail index of 36 stocks has declined 9 percent year to date, while the broader S&P 500 Index is flat to up slightly.

Dillard's stock has fallen from $27.69 per share on April 30, 1999, to $14.81 Wednesday.

During the same period, Federated Department Stores, which includes Macy's and Bloomingdale's, fell from $46.69 to $38.56. And Plano-based J.C. Penney tumbled from $45.63 to $18.13.

That's the backdrop for this year's annual stockholders' meetings. Friday and Saturday, J.C. Penney, Federated Department Stores, May Department Stores and Dillard's Inc. will hold their annual meetings.

L. Wayne Hood, retail analyst at Prudential Securities in New York, said the lower stock prices reflect the industry's earnings performance.

This year, earnings are expected to grow 12 percent to 13 percent, compared with other industries' rates of 20 percent or more, he said.

"Moreover, comparable-store sales growth of 2 percent to 4 percent is not exactly a growth story for most investors," Mr. Hood said.

Two weeks ago, Goldman Sachs & Co. analyst George Strachan cut his ratings on retail stocks, including the department stores, based on his outlook that discretionary spending will slow. That sent stocks tumbling lower.

"The department store industry, while stable, is not a market-share-gaining segment of the retail industry," said Michael Exstein, retail analyst at Credit Suisse First Boston in New York.

"Many players either just barely made their plans or failed to in the second half of 1999," he said.

Year-to-date, the same trend is true, he said.

Mr. Exstein said the industry is ripe for consolidation.

"What will encourage this remains to be seen," he said. "Unfortunately, there are only two players with any sort of meaningful 'currency'" - retailers strong enough to take over other chains.

Those two are May Department Stores Co. and Federated Department Stores Inc., he said.

The St. Louis and Cincinnati-based retailers posted the strongest results among chains that traditionally anchor shopping malls.

Last year, Federated posted an earnings-per-share increase of 18 percent.

May, which owns the Foley's and Lord & Taylor chains, posted its 25th year of record sales and earnings.

Organic growth

Target Corp. also has the ability to acquire other chains but is only "interested in modest organic growth for the department store division in light of the success of Target," Mr. Exstein said.

In fact, the Minneapolis-based chain recently ditched its department-store-derived corporate name, Dayton Hudson Corp., and renamed the company Target.

The Target chain now represents 75 percent of sales and profits for the entire company, which includes Mervyn's California in addition to department store chains Dayton's, Hudson's and Marshall Field's.

Mr. Hood doesn't see a major consolidation in the future.

"With the exception of some regional chains, the industry has already consolidated. I don't see much more for the time being," Mr. Hood said.

"Some stocks are so cheap it makes more sense to buy back shares than to open another store or make an acquisition," he said.

That's exactly what many chains are doing.

Two weeks ago, J.C. Penney said it plans to use some of the proceeds from the sale of its Direct Marketing Services subsidiary to buy back shares.

Dillard's Inc., which acquired Mercantile Stores Co. Inc. two years ago, repurchased $168 million worth of common stock in 1999.

May repurchased about $650 million of its stock last year.

Corporate raider

Wall Street veteran Carl Icahn is also buying.

He told the Federal Trade Commission earlier this month that he intends to purchase more than $15 million but less than 15 percent of the outstanding shares of J.C. Penney.

Mr. Icahn hasn't said why he's buying Penney stock, and Penney says it hasn't heard from Mr. Icahn or his representatives.

The financier, who's famous for his role in the takeover era of the 1980s, was briefly part of the department store consolidation of that period.

Mr. Icahn led a group in 1982 that tried to take over Marshall Field & Co., which was then an independent Chicago-based retailer.

Marshall Field's is now part of Target Corp., but back then it was acquired by Batus Inc.

Mr. Icahn reportedly made about $11 million on that deal.

The consolidations of the 1990s haven't been nearly as exciting.

One of the biggest deals was Dillard's acquisition in 1998 of Mercantile Stores Co., a chain of 106 department stores operating under 13 different names in 17 states.

It proved to be a harder consolidation than Dillard anticipated and has been a drag on results.

Most of the acquisitions have been small regional chains.

Late last year, May acquired a 13-store chain in Utah and Idaho, giving it eight stores in fast-growing metropolitan Salt Lake City.

Other mergers have focused on adding skills and infrastructure for Internet shopping.

Two years ago, Target purchased Rivertown Trading Co., a catalog firm based in St. Paul, Minn., that produces the Wireless, Signals and Seasons catalogs.

In early 1999, Federated made a similar move when it acquired direct marketer Fingerhut Companies Inc.

But online sales still represent only a fraction of department store retailers' business, and long-term prospects don't usually lift stock prices.

Flat for years

The NPD Group, a market research firm, says its data show that the traditional department store category has been flat for several years.

The major loss in market share was triggered during the early and mid-1990s by the "business casual" trend that swept the workplace.

Fewer shoppers were interested in buying suits and other business attire - a stronghold category of department stores, said Peter Simon, NPD vice president.

"The erosion has stopped," he says, because department stores focused on business casual, too, but now that category "isn't growing either."

Who is growing?

National apparel specialty and discount chains are.

It was five years ago, Mr. Simon said, that the Targets and Wal-Marts of the world overtook department stores in dollar volume of apparel sales.

Hybrid success

One major success story is Kohl's Corp., a hybrid department store that locates in stand-alone or strip suburban centers.

Kohl's acquired 33 former Caldor locations last year and opened its first stores in the New York area in March.

Wisconsin-based Kohl's still has several regions to move into, including the West Coast and the Southeast.

Earlier this week, when Kohl's released its earnings report, the company said it "is one of the few broad-line retailers capable of sustaining above-average earnings growth of at least 23 percent well into the new decade."

Last month, Kohl's split its stock 2-for-1 after it shot up over $100 a share. Management wanted to keep the stock in a more affordable price range. That's a problem other retail chains wouldn't mind having.
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