Top U.S. department store companies Macy's (M -2.71%) and Kohl's (KSS -0.61%) are set to report their fourth-quarter earnings results later this week. Expectations are higher than they have been in quite a while after both companies -- but especially Kohl's -- achieved better-than-expected sales for the holiday season.
Shares of the two retailers have rallied significantly in the past three months. Nevertheless, there could be more upside for both companies if they can carry their sales and earnings momentum into 2018.
1. Did fiscal 2017 end well?
Kohl's and Macy's have already reported their sales results for the first nine weeks of the fourth quarter. Kohl's delivered a stunning 6.9% comp sales increase for the period, marking its best holiday performance in more than a decade. Macy's posted a comparatively modest 1.1% comp sales gain, but it was still a big improvement relative to the first three quarters of fiscal 2017, when comp sales fell 3.6% year over year.
January is a relatively slow month for retailers. Furthermore, strong holiday season sales can sometimes undermine January results because there are fewer clearance deals available to attract customers. Still, it will be important to see if Macy's and Kohl's were able to close out the fiscal year on a strong note and reach their increased earnings-per-share forecasts.
2. Have sales trends remained strong in February?
An even more important question for investors is whether Kohl's and Macy's are carrying their sales momentum into the new fiscal year.
Wall Street analysts don't seem very bullish about 2018. On average, analysts' estimates imply that Kohl's will post low single-digit comp sales growth this year -- well below its Q4 trend -- while its pre-tax profit will decline. As for Macy's, analysts seem to expect comp sales to be roughly flat in fiscal 2018, with pre-tax profit down dramatically year over year.
However, both companies could benefit from the individual tax cuts that went into effect this year. Many workers have seen an increase in their take-home pay due to lower withholding, which could boost discretionary spending. Furthermore, Macy's and Kohl's are facing easy comparisons for now. Comp sales fell 1.5% at Kohl's and 3.6% at Macy's during the first half of fiscal 2017.
This favorable backdrop obviously doesn't guarantee that sales trends will stay strong this year. If executives at the two companies indicate that comp sales momentum continued into February, though, it should give investors confidence that Macy's and Kohl's will outperform the analysts' modest forecasts in the new fiscal year.
3. Are real estate initiatives moving forward?
Finally, investors should look for progress on the real estate front. Kohl's has stated that it has excess space in about 300 of its stores across the U.S. The company wants to subdivide its space and lease out the extra square footage, ideally to a grocery or convenience store.
This would have two key benefits. First, Kohl's would get a new, low-risk revenue stream in the form of rent. Second, grocery stores and convenience stores generate lots of traffic, which could bolster sales at the attached Kohl's stores. Management may provide more details on this strategy during the earnings call this week.
Macy's has even bolder real estate ambitions. The company continues to sell off noncore real estate at a steady pace. Macy's probably didn't complete any big deals during the fourth quarter. However, it did sell one store in the Chicago suburbs to mall owner GGP for $25 million. It also closed a handful of smaller asset sales last quarter.
There could be some bigger moves in 2018, though. Macy's plans to sell about 700,000 square feet of space on the upper floors of its Chicago flagship store, with the sale price likely to exceed $100 million. The company is also looking to sell part of its headquarters building in Cincinnati.
Most notably, Macy's strategic alliance with Brookfield Asset Management should start to pay off this year. This partnership will likely lead to new real estate development projects on more than 30 properties owned by Macy's. In some cases, this could involve redeveloping an entire store and generating a cash windfall from the real estate.
But for the most part, Macy's wants to continue operating the stores it is contributing to this partnership. Like Kohl's, it hopes to benefit from higher traffic as alternative uses are added next to its stores. Investors should be on the lookout for any concrete plans related to the Brookfield partnership during Macy's earnings call this week.