When J. Wayne Harris arrived at J.C. Penney (JCP ) in the fall of 2000 to run the department store's ailing Eckerd drugstore unit, his first job was to get the chain back on track by improving its business fundamentals. Growth wasn't in the plan -- until now. Over the past two and a half years as its chairman and CEO, Harris fixed some most serious problems at Eckerd, the nation's fourth-largest drugstore chain. He has boosted sales and profits with more competitive prices, reconfigured stores, and an aggressive marketing campaign.
It all worked -- for a while. The chain stopped losing money and edged into the black, and investors hailed Penney CEO Allen I. Questrom for hiring an aggressive outsider to shake things up. But more recently, Eckerd's momentum has slowed. Blockbuster drugs like Claritin have gone over-the-counter, while consumers increasingly buy less expensive generic or mail-order medications. Meanwhile, competitors have aggressively expanded and stolen market share.
The slowdown comes at a bad time for Penney, whose department stores were hammered in the first quarter by the weak economy. The setback at Clearwater (Fla.)-based Eckerd, which last year accounted for 45% of Penney's $32.3 billion in sales and 40% of profits, is largely responsible for pushing Penney's shares down some 30% since the beginning of the year, to $18.42 as of June 16's close.
To rev up growth again, the 2,680-store chain has just kicked off a major expansion, planning to open an additional 1,000 units over the next four years. Indeed, bulking up may be Eckerd's only option. Investors assumed for years that Penney would strengthen Eckerd and sell it at a handsome price. But without vibrant growth, that may not be possible any time soon.
While Eckerd is expected to remain profitable this year, thanks to productivity improvements, sales at stores open for at least a year fell 1.1% during the first quarter, vs. a 7.6% gain in the year-ago period, lagging behind rivals Walgreen (WAG ) and CVS (CVS ). And for all of fiscal 2003, according to analyst Deborah Weinswig of Salomon Smith Barney, same-store sales are likely to rise only 1%, vs. 8.6% at industry leader Walgreen.
When Penney acquired Eckerd in 1997, analysts hailed it as a smart move. Demographics were working in the chain's favor. An aging population would translate into growing sales of prescription drugs, and that would bolster the struggling department stores, or so the theory went.
It took three years and the arrival of Harris, however, to make that idea a reality. He reduced prices an average of 6% on 5,000 staples like paper towels, soft drinks, and diapers, stocking more of these high-margin goods on shelves and reconfiguring store layouts so that customers were forced to pass those items to get to the pharmacy. He also overhauled advertising and marketing, and began upgrading technology and pharmacy-management systems.
A year ago, when the Eckerd turnaround seemed firmly on track, Penney CEO Questrom estimated that a strong Eckerd chain could be worth between $9 billion to $11 billion by 2004, although he has never explicitly said the chain would be sold or spun off. That kind of cash in Penney's coffers could go a long way in helping to boost its fortunes.
Now that the Eckerd turnaround has slowed, however, such a payday doesn't seem to be in the cards. Analyst Linda K. Kristiansen of UBS Warburg figures that Eckerd is now worth only about $11 a share, or $4.5 billion. "For now, [a sale or spin-off] is out," says Howard Davidowitz, chairman of New York-based retail consultant Davidowitz & Associates. "Without a real powerful sales growth and earnings story, you're going to have a problem."
Questrom, who hired Harris a month after his arrival at Penney in September, 2002, will say only that when the board evaluates Eckerd's progress at yearend, it will look at the alternatives and do what's best for shareholders.
Meanwhile, Harris says the key to getting $14.6 billion Eckerd back on track will be to radically boost its reach. Many of the new stores will be in the fast-growing Sunbelt. It will spend 40% of this year's $500 million capital-spending budget, up from $341 last year, on 250 new and relocated stores.
Why the rush? While Harris was fixing Eckerd, supermarkets and discount-store operators were devoting more space to in-store pharmacies, while some drugstore competitors continued to expand aggressively.
In particular, Walgreen, with its well-stocked shelves and sophisticated inventory controls, made tremendous gains. It has 4,089 stores and boasts annual average sales of $654 per square foot, vs. $490 at Eckerd. Today, Harris sees the rival as an ideal. "We want to be very much like Walgreen," he concedes.
CVS and Rite-Aid (RAD ), the other leading drugstore chains, are recovering from financial crises of their own and also are set to expand. The bottom line: Whether Questrom decides to keep Eckerd or put it on the block, Penney simply can't afford to stand still. Says Harris: "We have come a long way, but the fact remains that we have much to do."
The expansion will see many of those new stores opening in Texas and in Florida. The Sunshine State is already Eckerd's largest single market, with about 25% of total sales. Others will go into new markets, such as Phoenix/Tucson and Denver. Most new stores will be 14,000 square feet, about 25% bigger that most of the existing stores, and will emphasize higher-margin categories such as health and beauty, greeting cards, and photo processing.
Harris is also gearing up to push Eckerd's $500 million private-label business. He figures that he can build it to 15% of sales in three years, from 12% now. "You will start to see our sales slowly but surely turn around," says Harris, who predicts visible improvement as early as this year's second half. Until then, Harris' dream of Eckerd growing like Walgreen will likely remain just that.
By Stephanie Anderson Forest in Dallas
Edited by Robert McNatt