The Counter Trends Rocking Retailers

By Robert Berner

Does Federated Department Stores better-than-expected quarterly earnings report portend good tidings ahead for the nation's retailers for the second half of the year? Don't bank on it.

On Aug. 11, Federated (FD ), the nation's largest department store chain and owner of Bloomingdale's and Macy's, reported that fiscal second-quarter earnings were $78 million, or 43 cents a share -- a drop of 35%, from $120 million and 64 cents per share on the same period last year. But the decline was caused by a one-time cost of $273 million for buying back long-term debt.


  Excluding that item, earnings per share came in at 63 cents, which beat the retailer's forecast of between 57 cents and 62 cents. Federated reported quarterly sales of $3.55 billion, up 3.3%, from $3.43 billion -- an increase driven by a similar increase in sales at stores open at least a year. CEO Terry Lundgren said in a statement that he expects the outfit's strong performance to continue into fall.

Wall Street, however, gave the stock a good whack. By the end of the day, Federated's stock had fallen 3.3%, to $ 44.50. One reason is that the company's selling, general, and administrative expenses rose to 34.2% of sales, from 33.3%, against the year-ago period. Still, Federated raised its fiscal-year earnings guidance from $3.60 to $3.80 a share, to between $3.70 and $3.80.

Investors' less-than-enthusiastic reaction reflects larger concern about the outlook for retailers during the second half, analysts say. Indeed, as Cincinnati-based Federated raised earnings guidance, teen-oriented retailer Abercrombie & Fitch (ANF ) on Aug. 10 lowered its third-quarter forecast while reporting solid second-quarter profits. The market trounced its stock, with shares falling 12.4%, to $29.32, on Aug. 11. As for the broader landscape of retail stocks, Standard & Poor's retailing index is down by more than 9% since the start of July.


  According to Richard Hastings, chief analyst at retailing research firm Bernard Sands, investors are right to be concerned, since a number of forces are putting the brakes on consumer spending. The most readily apparent is higher energy costs, now squeezing consumers at the gas pump. Other negatives include high consumer debt levels and the weak job market, Hastings says. Furthermore, consumers have already reaped the benefits of mortgage refinancings, reduced taxes, and child tax-credit rebates, with little stimulus now left to lift shoppers' spirits and sustain their spending.

While Hastings notes, "higher oil prices have more bite," he expects all those factors to slow retail sales-growth projections by 1 percentage point to 1.5 percentage points over the remainder of the year. By contrast, during the second half of 2003, retail sales increased 6.9%, excluding autos.

BernsteinResearch retail analyst Emme Kozloff notes in a report that if retailers are to look good, they must beat the strong same-store increases of a year ago, when sales started to accelerate. Numerically, those increases will be more challenging to beat, which will further dampen sales gains. "We continue to see rough waters ahead for retailers in the second half," Kozloff says. One of the few pluses in the earnings picture: Most retailers have kept their inventories low, which should help maintain profits.


  Hastings and Kozloff say retailers serving shoppers in the middle-to-moderate income range that will feel the most pressure, as their customers are the most likely to be hit hardest by the weak job market and higher oil prices. That's one reason same-store sales at Wal-Mart (WMT ) rose just 2.4% in July.

Still, certain retailers are likely to feel less pain, with those serving higher income shoppers doing best of all. This trend was reflected in retail same-store sales for July, which retailers released in early August. Neiman Marcus' (NMGa ) same store sales rose 16.6%, while the Saks Fifth Avenue division of Saks (SKS ) were up 12.8%. Nothing new about the rich getting richer and having more to spend, of course. But it's cold comfort for mainstream retailers like Federated.

Berner is a writer for BusinessWeek in the Chicago bureau

Edited by Thane Peterson

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