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Coming Soon: The First Department Store Bankruptcy Since the Great Recession?

By Adam Levine-Weinberg - Updated Mar 14, 2018 at 10:00PM

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Bon-Ton Stores is dangerously close to becoming the first department store casualty of the retail apocalypse.

Department stores have been particularly hard hit by changes in consumer behavior over the past few years. However, one of the curious things about the so-called "retail apocalypse" is that not a single department store chain has filed for bankruptcy since the Great Recession. Even the weakest chains have managed to stay alive, thanks to a combination of cost cuts, store closures, and asset sales.

However, that could be about to change. Regional department store operator Bon-Ton Stores (NASDAQ: BONT) is on the ropes following yet another terrible quarterly earnings report. Bon-Ton's dire struggles could spell opportunity for larger rivals like Macy's (M 9.91%) and J.C. Penney (JCPN.Q).

Bon-Ton misses again

Bon-Ton Stores entered 2017 in a weak position, and its hopes of recovery dwindled over the course of the year. It started off on the wrong foot, with a dreadful 8.8% comp sales decline in the first quarter. Comp sales then declined 6.1% in the second quarter.

The exterior of a Bon-Ton department store

Bon-Ton has posted a string of awful results this year. Image source: Bon-Ton Stores.

Last quarter, Bon-Ton took another step backward, posting a 6.6% comp sales decline. Meanwhile, gross margin declined by about 2% year over year. As a result, the company's net loss widened by more than 40%, reaching $44.9 million (or $2.19 per share).

Bad results -- even for a department store

In 2016, Bon-Ton posted a meager operating profit of $2.6 million, or $19.6 million excluding impairment charges. This put its adjusted operating margin at less than 1%. Taking interest expenses into account, Bon-Ton ended up deep in the red.

Starting from this weak foundation, Bon-Ton's results have gone sharply downhill in 2017, even in comparison to other department stores. Through the first nine months of the fiscal year, Bon-Ton has posted a comp sales decline of more than 7%, while its gross margin has fallen to 35.8% from 37% a year earlier.

By contrast, Macy's has posted a 3.6% comp sales decline year to date, with gross margin down slightly from 39.9% to 39.4%. As for J.C. Penney, its comp sales declined just 1% year to date, although gross margin has eroded to 35.1% from 36.9% in the same period of 2016.

Comeback in the works?

Bon-Ton currently expects to post a full-year loss of $2.86-$3.35 per share, and adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) of $100 million-$110 million on a 4.5%-5.5% comp sales decline.

However, this forecast actually assumes that there will be a huge improvement in the business this quarter. Just to hit the low end of its guidance, Bon-Ton would need flattish comp sales and a double-digit increase in adjusted EBITDA. The high end of its guidance range implies solid comp sales growth and a 20% increase in adjusted EBITDA for the quarter.

To support this forecast, management noted that comp sales increased at a high-single-digit rate in the first two and a half weeks of the current quarter. That's good news, but it probably reflects the impact of pent-up demand now that cold weather has arrived in Bon-Ton's markets. The company also cited better execution on a recent promotion.

That said, the bulk of sales for the fourth quarter come in the period between Thanksgiving and New Year's Day. The strong start to the quarter won't help that much if Bon-Ton returns to its prior sales trend during the peak holiday shopping season. (Incidentally, the third quarter also started off better than the previous quarter, but the sales momentum fizzled out.)

Macy's and J.C. Penney are positioned to profit

Bon-Ton Stores plans to close at least 40 locations in 2018, which would be more than 15% of its fleet. Yet even that drastic action may not be enough to save the company. Vendors are already becoming worried, and Bon-Ton doesn't have many options for dealing with its onerous debt load, other than bankruptcy. The company is working with restructuring advisors to craft a survival strategy.

Even in a downsizing scenario, Macy's and J.C. Penney would be likely to pick up some sales at Bon-Ton's expense. J.C. Penney has very high store overlap with Bon-Ton, while Macy's has somewhat less geographic overlap but sells many of the same brands as Bon-Ton's nameplates.

The exterior of a J.C. Penney store

J.C. Penney will probably pick up some sales as Bon-Ton closes stores. Image source: J.C. Penney.

However, Bon-Ton's chances of surviving more than a year or two are slim unless the recent improvement in its sales trend sticks. The company has already cut spending to the bone, and it still has an EBITDA margin of less than 5%, compared to roughly 8% for J.C. Penney and 12% for Macy's.

In short, Bon-Ton's secured creditors won't have much reason to keep the company in business if its performance continues to deteriorate. Barring a miracle turnaround at Bon-Ton Stores, rival department stores could be feasting on its remains before long.

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Stocks Mentioned

J. C. Penney Company, Inc. Stock Quote
J. C. Penney Company, Inc.
Macy's, Inc. Stock Quote
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