Sears Holdings (NASDAQ:SHLD) shareholders have come to dread the company's quarterly earnings announcements. There hasn't been much good news from the parent company of this storied retailer over the past decade.
Last week, Sears Holdings posted yet another giant loss. While executives continue to talk about returning the company to profitability, the financial position has been getting worse, not better. The company is working on a variety of initiatives to improve its profitability and raise cash -- but these efforts are only delaying what seems like an inevitable bankruptcy filing.
Sales plunge again
Department stores had a tough time during the third quarter. Even J.C. Penney (OTC:JCPN.Q) -- which has been posting better sales results than its rivals recently -- reported a 0.8% decline in comparable-store sales for Q3. Sales of fall-season apparel suffered as the U.S. had the warmest September on record, according to J.C. Penney CEO Marvin Ellison.
While all department stores were hurt by unfavorable weather last quarter, Sears is also losing market share to healthier competitors. J.C. Penney has been particularly aggressive in luring customers away from Sears. Most notably, it recently re-entered the appliance market, one of Sears' strongest merchandise categories, after more than a three-decade absence.
Thus, it's not surprising that Sears Holdings' sales plummeted in Q3. Comparable-store sales fell 4.4% at the Kmart chain and a ghastly 10% at Sears-branded stores. Sears has also been closing stores at a rapid pace. As a result, quarterly revenue sank 12.5% year over year to $5.0 billion.
Demand is evaporating
Sears executives routinely talk about shrinking to profitability by closing underperforming stores while focusing on better-performing locations. But a massive downsizing over the past decade has not helped the company's bottom line.
In Q3, Sears posted a net loss of $748 million and an adjusted loss of $333 million. For both metrics, Sears' performance was even worse than it was in Q3 2015. The problem isn't on the expense side. Sears has cut costs to the bone in recent years, and its operating expenses as a percentage of sales are roughly in line with those of J.C. Penney.
Instead, dreadful gross margin results are the primary cause of Sears' woes. Last quarter, gross margin was just 19.1% at Sears Holdings, compared with 21.9% a year earlier. Management blamed the bad performance on increased markdowns, especially on apparel. Some of that was driven by the uncooperative weather. That said, J.C. Penney's gross margin was nearly twice as high, at 37.2%.
There's a simple explanation for why Sears Holdings' gross margin rate is extremely low and heading even lower. It indicates that consumers are no longer interested in shopping at Sears. As a result, the company has had to resort to deeper and deeper discounts to sell its merchandise.
Sears is bleeding cash
As Sears' management likes to emphasize, the company still has lots of assets. It's looking to monetize its Kenmore, Craftsman, and DieHard brands, as well as its home repair business. (Sears already has suitors for the Craftsman brand, and the sale price could reach as high as $2 billion.) Furthermore, despite selling off lots of real estate in the past five years, Sears still owns hundreds of properties -- and has below-market leases on hundreds more.
However, analysts at credit rating agency Fitch expect Sears to burn through $1.6 billion-$1.8 billion of cash this year. Thus, selling off the valuable Craftsman brand will cover just a year of Sears' negative cash flow.
Sears may be able to reduce its losses by closing or downsizing many of its stores. However, competition from J.C. Penney and a slew of other retailers will just get more vicious over time. As a result, the chances that Sears will ever get back to breakeven are very slim.
If Sears had been more aggressive about investing in its best locations over the past decade, a strategy of downsizing and selling off its excess real estate might have held promise. Today, management is just buying time and hoping for a miracle that isn't likely to materialize.