The COVID-19 pandemic has decimated sales at Kohl's (KSS 1.30%) this year. However, it has also created a long-term growth opportunity for the No. 2 department store chain in the U.S., as many weaker retailers have been forced to downsize or go out of business during 2020.

Kohl's loyalty program and associated personalization capabilities will be key weapons in its fight to gain market share in the years ahead. Last week, the retailer officially rolled out an updated loyalty program that will give it the best possible shot at winning new customers and gaining greater wallet share from its existing customer base over the next few years.

Kohl's has been focused on growing its loyalty program

Historically, Kohl's loyalty program was tied to its store-branded credit card -- a common practice among department stores. However, that made it hard for the company to connect with customers who did not qualify for, or who were not interested in, a Kohl's credit card.

The retailer began to address this issue with the introduction of its Yes2You Rewards program. Yes2You launched in late 2014 after two years of testing. Membership was free and tender-neutral (i.e., not linked to any particular payment method). Members earned one point for every dollar spent at Kohl's and received a $5 reward after reaching 100 points.

The Yes2You Rewards program has been quite successful. At the time of the national launch, Kohl's had already signed up 10 million members. The program has continued to grow over the past six years such that Kohl's now has about 30 million loyalty members. Kohl's has been able to use the program's broad reach to boost sales by sending customers personalized offers.

The exterior of a Kohl's store.

Image source: Kohl's.

A next-generation loyalty program

Despite Yes2You's success, Kohl's executives gradually realized that there was room for improvement. In particular, the benefits from the Yes2You Rewards program, Kohl's credit cards, and the company's periodic Kohl's Cash events were all separate, creating some confusion among customers.

The new Kohl's Rewards program, which launched on Tuesday, addresses this issue head-on. The fundamental concept is unchanged: Program members get 5% back in rewards. However, rather than having a separate "points" currency, rewards are now disbursed as Kohl's Cash in $5 increments. Thus, everyday rewards earnings can be combined with rewards from the retailer's periodic special events that allow customers to earn $10 of Kohl's Cash for every $50 they spend.

Once a customer reaches at least $5 of accrued rewards, they will receive Kohl's Cash at the beginning of the following month, good for 30 days, with no merchandise exclusions. Kohl's will also send reminders to Kohl's Rewards members when they have Kohl's Cash available to spend.

Kohl's began testing this new loyalty program in about 100 stores covering eight markets in May 2018. Since then, it has refined the program and expanded the test to a total of 13 markets. Management has been pleased with the results. The new integrated loyalty program should improve Kohl's personalization capabilities and help the company increase the engagement of existing loyalty program members, driving long-term sales gains.

An attractive turnaround opportunity

After Kohl's reported a big loss in the first quarter of fiscal 2020, its profitability improved more than expected on a sequential basis in the second quarter. Management has acknowledged that sales trends are likely to remain weak in the months ahead because of the pandemic. That said, cost cuts, tight inventory management, and capital spending reductions will help mitigate the impact on Kohl's near-term earnings and cash flow.

Looking beyond 2020, Kohl's has a good chance to return to its pre-pandemic levels of sales and earnings over the next two or three years. The new Kohl's Rewards program -- along with the retailer's convenient store locations, new merchandise partnerships, and omnichannel initiatives like curbside pickup -- will help Kohl's gain market share from rivals that have been hit harder by the pandemic.

With Kohl's stock still down more than 50% year to date, patient investors who can tolerate the risk of investing in the department store industry could see big gains if Kohl's turnaround efforts succeed.