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Big, Bigger, Biggest: More Retail Mergers Seen in Mega Era

There’s a new climate for merger activity following a flurry of deals, such as Kmart buying Sears, Jones taking Barneys and May Co. buying Field’s.

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Terry Lundgren

Photo By WWD Staff

Gene Kahn

Photo By WWD Staff

NEW YORK — Welcome to another monolithic era.

A heated climate of mergers and acquisitions is developing in retailing following the flurry of dramatic moves this year, from Kmart’s deal for Sears to Jones Apparel Group’s play for Barneys New York to May Co. acquiring Marshall Field’s. The trend is being spurred by strong cash flows at retailers such as Federated Department Stores and Neiman Marcus Group; vendors such as Liz Claiborne, Jones and Kellwood eager to expand, and billions sloshing around in investment funds, with estimates ranging from $80 billion to $140 billion available to spend.

Not to mention the Wal-Mart effect. In an environment where the world’s largest company is a retailer with sales of almost $270 billion a year, the name of the game has become economies of scale and synergies and everyone who wants to compete has to bulk up.

Among the possibilities being mooted are Federated acquiring or merging with May Department Stores, J.C. Penney and Gap Inc. moving into acquisitions mode and Liz Claiborne, Nike and VF Corp. eager to continue buying brands to expand their portfolios. Other scenarios being suggested by industry sources — and there is no shortage of them — include major foreign retailers such as Carrefour taking a closer look at the U.S. market as a way to counter the Wal-Mart attack internationally.

“There’s a lot of money out there, easy access to it and everybody agrees that there are too many retailers, so the best answer is to consolidate them,” observed Allen Questrom, the outgoing chairman and chief executive of J.C. Penney Co.

“In the late Eighties and early Nineties, there was a big cycle of retail mergers,” said Arnold Aronson, managing director of retail strategies for Kurt Salmon Associates, citing May Co.’s takeover of Associated Dry Goods, Campeau buying Allied and Federated and Federated later buying Macy’s. “Another cycle is developing, like the tide going in and out. We are in high tide.”

Another reason for more mergers: “Organic growth has been much more difficult; even Wal-Mart is now in the low-single digits, Target is 3 to 4 percent and Kohl’s has not shown any positive store-for-store growth,” noted Aronson.
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“The retail business generates so much cash. Now companies are looking at what to do with it,” added Hal Kahn, the former Macy’s East chairman and ceo, currently a consultant.

“Wall Street demands growth from these [vendor] brands and they’re not going to get it with organic growth from existing labels,” said one venture capitalist. “Wall Street sets you up for continued consolidation, which is good for the bankers. They have a vested interest.”

Recently, there have been rumblings about Federated Department Stores and May Department Stores reopening merger talks, with Federated and its ceo, Terry Lundgren, on a performance high, and May remaining sluggish and its chairman and ceo, Gene Kahn, under pressure. Last summer, Federated was outbid by May for Marshall Field’s, but Federated may be ready to reel in a bigger fish.

In a Federated-May merger, there would be significant geographic overlap. Retailers said that roughly 30 percent of the two retailers operate stores in the same markets. However, one former Federated official said it’s possible to get around the overlap issue in some markets by keeping May stores in the moderate price zone and Federated stores better and higher priced.

On the other hand, some said that Lundgren wants to focus on improving Federated’s newly centralized home business, planting the Macy’s nameplate on all regional operations, and sustaining strong earnings rather than getting distracted by a megadeal.

Another problem: “Gene Kahn wants to paddle his own canoe,” said a Wall Street source. “The only way Federated can make it happen is to make a hostile offer, but that’s not really in their culture.”

Neiman Marcus is showing an increasing “open-to-buy” attitude after recently hiring Steven Dennis, a former Sears, Roebuck executive, as senior vice president of strategy, business development and multichannel marketing to explore new avenues of growth. Neiman’s has little room left for expansion considering it already has stores in most of the nation’s affluent markets. The company has been content to generate growth primarily through existing stores, and has done little to advance the previously stated strategy of seeking emerging brands to buy. Burt Tansky, chairman and ceo of NMG, has been shown scores of properties to buy, even reportedly Harrods, but Harrods is said to be priced very high.
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Financial and retail experts cited other possibilities for deals, among them:

l Regional department stores and family-controlled retailers such as Dillard’s and Gottschalks could capitulate to stronger competitors, after years of lackluster performance and resisting overtures. In a Dillard’s acquisition, May Co. would have an easier time surmounting antitrust hurdles since it has limited presence in the South, whereas Federated operates Rich’s, Macy’s and Burdines there.

“Belk’s is less likely to drop. Since it recently cleaned up a complicated shareholder structure, the company is less leveraged and Belk stores maintain strength in their markets,” said the Wall Street source. “But Dillard’s has to do something. Bill Dillard 2nd may be more willing to do something” than other members of the Dillard family, which controls the stock.

l “I know Liz Claiborne wants to do an industry-transforming deal, different from buying another Ellen Tracy,” said a financial source. “A VF-Liz deal could be interesting. It makes sense to have two giants coming together controlling the department store channel. Those discussions clearly have had to have taken place.”

l One brand said to be on the radar screens of many is L.L. Bean. There’s also some speculation in the food retail arena about Meijers and Fresh Direct being takeover targets. And supermarkets, such as Kroger, Wegman’s and Albertsons, could consolidate for increased buying power against mushrooming Wal-Mart SuperCenters and Target superstores.

l J.C. Penney, with a new ceo Myron Ullman 3rd coming on board this month and flush with cash after selling off Eckerd this year, could shift into acquisition mode. Ullman is financially oriented and more strategic in character rather than being a merchant prince, whereas his predecessor, Allen Questrom, was more about “getting more juice out of the orange,” said a retail analyst. The current strategy under Questrom is to focus on building the Internet business, an off-mall presence, and raising productivity of mall-based stores and no acquisitions are currently being considered.

l There are murmurings about Amazon.com, which one retail analyst said “wants to get more into brick and mortars.”

Several, but not all, industry sources contacted said they believe the recent rash of deals will trigger others. “Historically, there are a lot of copycats,” said Gil Harrison, chairman of Financo Inc. “Once they see a company do something, they decide they need to do something, too.”
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While the Kmart-Sears merger was huge, financial and retail sources said it’s not inconceivable that the combined entity gets swept up, perhaps by a multinational foreign retailer. “The major European-based retailers have all resisted coming to the States,” Harrison said. “They stayed out because they don’t understand the American economy, which is bigger and more difficult to manage, but I believe it’s a matter of time. We are the greatest market in the world and they are concerned about Wal-Mart coming into their home turf.” Carrefour was once said to be interested in buying Kmart.

“I hear all the speculation,” said a former M&A executive. “The Kmart-Sears situation is bound to make some people a little ballsier.“

“It is a fact today that only a handful of retail companies can fully satisfy the grow-or-die Wall Street requirements through organic growth alone,” said Aronson. “Accepting this fact underscores the inevitability of more retail consolidation probably sooner than later. There are so few eligible dance partners left that ending up the bridesmaid could ultimately prove fatal.”

“There is no doubt that companies have to grow,” observed Kahn. “They spent the last few years downsizing, reducing personnel, reducing expenses and becoming more productive. Now the question is, you either grow internally or you grow by aligning yourself with a strategic partner or making acquisitions.”

The Sears-Kmart situation, added Kahn, has reshaped the way retailers get valued. “You can add a lot of value by looking beyond the company’s retail business and into its assets, including the real estate,” Kahn said. “Whether it’s companies looking at investment for the real estate value, or strategic partnerships, the trend is just beginning.”

In the aftermath of the Sears-Kmart and Jones-Barneys deals, William M. Smith, a partner with venture capitalist Christopher Burch and former Financo president, said: “Without a doubt, these situations raise awareness. The industry has been consolidating and will continue.”

Edward Lampert, Kmart’s majority shareholder and architect of the Sears acquisition, plans to blend the merchandise of the two chains, cut out a lot of costs, sell off real estate and convert some Kmart sites to Sears. Previously, one source noted, Kmart has been slow to build its softer sides, although many brands, reportedly Bugle Boy and Levi’s, had approached the company. “They were receptive but couldn’t move on it. The merchandising teams just weren’t ready to act quick enough,” said the source. “It was a struggle to get things through new.”
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There was even an idea to put Martha Stewart merchandise on the Home Shopping Network to give additional exposure to the Martha Stewart Everyday collection, but that never got off the ground.

Not everybody agrees that the recent wave of deals will accelerate the deal-making. “My basic read is that people who are interested in making acquisitions or interested in selling their businesses were that way before and the fact that these mergers happened doesn’t really change their horizon,” said Larry Leeds, chairman of Buckingham Capital Management. “I don’t think if Federated was looking at Nordstrom or May or Dillard’s, the fact that Kmart and Sears was done has any particular impact.”

A former Sears official said, “I don’t think [the Kmart-Sears combination] changes the prospects one way or another. The conversations have already occurred and the analysis has already happened.”

The executive, like many, was skeptical that combining the struggling chains of Sears and Kmart would produce a stronger business. “There will be layoffs and synergies, but that doesn’t change the fact that these two stores lack strategic relevance for customers today.”

According to Harrison, buying Barneys is a tremendous opportunity for Jones if it takes advantage of the knowledge that the Barneys retail practice provides. “Barneys sells forward luxury merchandise that can be copied and moved through the better and moderate marketplace where Jones resides. Also, the cash flow from Jones allows Barneys to expand its business.”

Others said that Barneys also would enable Jones to get an early read on the kind of hip new brands that Barneys has a reputation for discovering, particularly out of Europe. That could put more acquisitions on the Jones agenda.

Federated Department Stores Inc.
For quarter ended Oct. 30:
Cash and cash equivalents: $212 million
Long-term debt: $3.04 billion
Stores: More than 450

For year ended Jan. 31:
Revenue:
$15.26 billion

J.C. Penney Co. Inc. For quarter ended Oct. 30:
Cash and short-term investments: $4.58 billion
Long-term debt: $3.96 billion
Stores: 1,020 J.C. Penney stores, 61 Renner stores in Brazil
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For year ended Jan. 31:
Revenue:
$17.79 billion

Liz Claiborne Inc.
For quarter ended Oct. 2:

Cash and cash equivalents: $85.6 million
Long-term debt: $567.5 million
Stores: 282 outlet, 256 specialty as well as presence in 619 “concession stores” such as department stores

For year ended Jan. 2:
Revenue:
$4.24 billion

May Department Stores Co.
For quarter ended Oct. 30:

Cash and cash equivalents: $94 million
Long-term debt: $5.79 billion
Stores: 500 department stores, 229 David’s Bridal stores, 458 After Hours Formalwear stores, 11 Priscilla of Boston stores

For year ended Jan. 31:
Revenue:
$13.34 billion

Neiman Marcus Group
For quarter ended July 31:

Cash and cash equivalents: $358.4 million
Long-term debt: $112.5 million
Stores: 35 Neiman Marcus, two Bergdorf Goodman, 14 clearance centers

For year ended July 31:
Revenue:
$3.55 billion
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