Hoping for a Feliz Navidad at Kmart

The troubled chain is targeting Hispanic and urban shoppers, hoping that healthy holiday sales will win over suppliers and Wall Street

By Amy Tsao

Hoping for a Feliz Navidad at Kmart
In Kmart's new TV spots, a multiracial group frolics through city streets and Kmart stores. Domestic diva Martha Stewart and Latina pop star Thalia form the letter K with their fingers and flash toothy smiles at the camera. The tone is energetic and bright. The catch phrase: "Right here, right now."

The peppy marketing campaign highlights Kmart's three big guns -- a new focus on urban shoppers, best-selling domestic diva Stewart, and up-and-coming pitchwoman Thalia. But Kmart -- little watched by analysts any longer -- will need more than first-class commercials to reenergize the brand and propel shoppers into its stores. "It has been terrible at delivering on promises to the general population," says Robert Passikoff, president of brand and customer-loyalty research consultancy Brand Keys. He's among many who are doubtful that Kmart, which emerged from bankruptcy in May, is doing enough to bring back customers. "They're still fumbling around in the dark."


  Kmart's focused marketing to urban communities may be a case of too little, too late. Same-store sales declined 5.4% in its second fiscal quarter, which ended July 30, following a drop of 3.2% in the previous quarter. "There's nothing yet to suggest it has turned the corner," says Michael Collins, partner with Bain & Co.'s retail practice.

The Troy (Mich.) retailer has made some progress on the financial front. In its reorganization plan, Kmart conservatively forecast adjusted EBITDA (earnings before interest, taxes, depreciation, and amortization) of $75 million for fiscal 2003, ending in January, 2004. It has exceeded that goal, posting $164 million adjusted EBITDA through its second quarter. Shares in Kmart Holding Corp. (KMRT ) -- formed after the bankruptcy -- have soared 80% from the initial trading price of $15, to around $27. Yet that optimism may be overdone.

The retailer continues to lose money and market share. Kmart reported a $5 million aftertax loss on revenues of $5.7 billion in its second quarter. The loss was far less than last year's net $293 million for the same period, but revenues were down 21.3%, reflecting in part the closing of a third of its stores.


  A good Christmas season would go a long way toward restoring faith, says Kurt Barnard, president of Retail Forecasting in Upper Montclair, N.J. What would count as good? Breaking even on a net basis and showing a single-digit increase in same-store sales would be respectable, says Barnard.

Until then, Wall Street is likely to continue ignoring Kmart, even though it's the second-largest discount retailer in terms of store numbers. Pessimistic analysts won't be all that interested in crunching Kmart's numbers, Collins say, until it chalks up "multiple quarters of comparable-store increases vs. the competition," by which he means outfits such as Target (TGT ) and Wal-Mart (WMT ). More important, since Kmart has disappointed suppliers as often as it has shoppers, increasing sales performance is key to convincing suppliers to stick with the retailer.

Kmart is banking heavily on its appeal to urban consumers, which makes sense since many of its remaining 1,511 stores are in metropolitan areas. "Inner cities are underserved," says Candace Corlett, principal at WSL Strategic Retail. "In these markets, Kmart is the majority." The plan is to expand this customer base as Target and Wal-Mart focus on rural and suburban areas.


  The main thrust of that strategy involves Hispanic shoppers. Kmart has expanded girls and women apparel with the Thalia clothing and accessories line. It also gives out a Spanish-language magazine called La Vida. These are good moves, says Erika Prosper, director of account services at market-research outfit Garcia 360. So far, though, no evidence suggests that the Hispanic population, which is growing in record numbers, will turn to Kmart, says Prosper.

Low-price merchandise is likely to be a bigger draw than items tagged with a Thalia label, some experts say. "They may be innovations that aren't really so innovative," Prosper says. When it comes to pricing, Kmart actually trails rivals. Deals are better at Wal-Mart on the vast majority of merchandise. And competition from dollar stores, which, like Kmart, are common in urban areas, is heating up.

Presentation, another one of Kmart's major weaknesses, seems to have improved since the chain emerged from bankruptcy, but Corlett fears tidier and better-stocked stores may reflect fewer customers rifling through merchandise.


  Kmart does have branded merchandise beyond Thalia fare. It has Kathy Ireland and Jaclyn Smith apparel and the Martha Stewart Everyday home collection -- by far the most popular. The Everyday line makes up around 5% of Kmart's sales, which are holding up despite legal troubles for namesake Stewart. Shoppers seem not to "give a damn whose towel it is when the price point is low enough," says Passikoff. Could that change in January when Stewart, former head of Martha Stewart Living Omnimedia (MSO ), stands trial for obstruction of justice charges relating to an insider-trading scandal in New York? No one knows.

For now, the focus is on the holidays. Should Kmart fail to score, CEO Julian Day may have to make some tough choices. "What the retail world and consumers are waiting to see is the next step forward," says Collins, who contends Kmart needs a new and exciting store format to become viable again. That's a bit of a catch-22: It probably won't be able to afford bold changes until revenues improve. It emerged from bankruptcy with $2 billion in credit and about $750 million in cash. Kmart declined comment for this story.

Walter Connolly, partner at law firm Foley & Lardner, figures a buyout would be the best fate for Kmart. It has already shuttered its worst-performing outlets and theoretically is left with its strongest stores and favorable lease terms. International buyers looking to gain entry into the massive U.S. discount-store business should seriously consider Kmart, Connolly thinks. He says French retailer Carrefour would make an eligible suitor.

Barring a buyout, Kmart needs badly to get its share of the holiday spending binge. If it doesn't, its new slogan might as turn into "right here -- for now."

Tsao covers the markets for BusinessWeek Online and writes for the Street Wise column

Edited by Patricia O'Connell

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