It's really been a roller coaster ride for the shareholders of Sears Holdings (SHLD +0.00%). The stock has been a perennial under-performer over the last half decade or so, in addition to being extremely volatile. Majority owner, and CEO, Eddie Lampert has been stripping out capital expenditures and selling off assets as part of his turnaround plan. Unfortunately, upon closer inspection, it appears that any hope of a turnaround is a long way away. Here's why.
Where have massive cost cutting led Sears?
As previously mentioned, Eddie Lampert came in slashing investment in the company's actual retail business, hoping to boost free cash flow. While this initially worked, the ultimate fallout has led to steep declines in revenues.
In a blog post on searsholdings.com, Lampert attempts to rebut the criticism of his aggressive capital expenditure reductions. He compares Sears to other retailers that have trimmed capital expenditure spending, including Home Depot and Macy's. Where these retailers have been cutting investment in retail stores to boost online sales.
Home Depot and Macy's have been tapering their capital expenditures over the last half decade or so, but this has translated into marked growth in the companies' free cash flow. Both Home Depot and Macy's have grown free cash by 50% over the last five years.
Meanwhile, Sears' initial cut in capital expenditures helped boost free cash, but only for a short period. In 2007 and 2008, Sears spent upwards of $550 million annually on capital expenditures; it's lowered that to $340 million over the trailing twelve months.
Thanks to this, Sears generated $1.25 billion in free cash in 2010, but over the trailing twelve months Sears free cash flow was a negative $1.3 billion.
What's more is that from 2007 to the trailing twelve months, sales have steadily declined from $50 billion to $35 billion. With the decline in sales, and the inability of Lampert to effectively cut costs, Sears has turned to an asset disposal strategy.
Aggressive asset sales doing little to help
Sears has been chopping off limbs to save the body, so to speak. Land's End (LE +3.67%) has been spunoff, so has Sears Hometown and Outlet Stores. It closed its flagship store in Chicago's Loop earlier this year, and has sold off various properties across the country.
But after the spinoff, Lands End continues to excel. Last quarter, Lands' End posted fiscal first quarter earnings that showed comparable store sales up 3.4% year over year. This comes as the retailer is avoiding the decline in traffic that major retailers are experiencing. Lands' End has a very strong online presence
Now it's thinking of dumping its 51% stake in Sears Canada (SCC +0.00%). But there are likely only a handful of potential buyers, meaning the price might not be all that favorable. What's more is that the business only has 14 department stores, Sears has already sold off the company's most profitable stores. Last year, Sears Canada sold off seven of its top properties. One of those properties was the Toronto Eaton Centre store, which is right above the company's headquarters.
The other issue with Sears is that it has been unable to reduce debt, even after selling off some of its most profitable businesses. Its net long-term debt (less cash) was up to $3.2 billion at the end of 2013, which is a big jump from the $2.75 billion in 2012 and $1.75 billion in 2011.
What about the real estate?
Sears Holdings got some of the best news in a long time last year, when Baker Street Capital put together a report that said the company had $7.3B in real estate value -- compared to its current market cap of just $4.1 billion. Sears got an initial boost from the report, trading above $50 a share for a brief period, but its stock price was quickly brought back to reality.
The key issue is that some real estate assets might not be available during a liquidation. There are various stores that are leased back to Sears, of which it doesn't own. Then there are the rights to use various key brands, including Craftsman and Kenmore, that are held in a subsidiary backed by royalties -- meaning they wouldn't be available for sale. What's more is that as Sears sells off more and more assets, there will be less value in the event of a liquidation.
Continued weakness
During the most recent quarter, K-mart's sales were down 6.6% year over year, with comparable store sales down 2.2%. Wal-Mart and Target continue to eat into K-mart's sales, thanks to their effective use of groceries and consumables to drive traffic.
Sears domestic stores had sales falling 3%, but posted a positive comparable store sales growth of 0.2%. The reason for the positive comp was the inclusion of two months of comparable store sales for Lands' End. Sears has been slowly losing market share to Home Depot and Lowe's on the appliance front. As the company sees more market share losses in the appliance space, it will make the potential spinoff of its Warranty business more difficult – which is one of the fell stand-alone businesses it has left to spinoff, with the other being its Auto Center business.
Sears Canada saw sales fall 17.2% and witnessed a 7.6% decline in comparable store sales. Things could have been worse here if not for the inclusion of operating results of stores that the company had already sold.
Bottom line
Trading at a P/S ratio of just 0.12, some investors are attracted to Sears as a deep value stock. But it's traded at or below a P/S of 0.15 for the last three years. It's tough to call a company with no clear plan for a turnaround a value investment. Retail operations continue to struggle, losing market share to major competitors and it has spun off some of its most profitable investments. The greatest turnaround are always the most unexpected, thus, it's going to be a long row to hoe for Sears and Lampert.
