Market Overview

RBC Believes Dept Stores Have Uphill Battle; Initiates Macy's, Nordstrom At Sector Perform, Kohl's At Underperform


Department Stores comps decelerated from +1.5 percent in 1H15 to -1.2 percent in 2H15. The segment’s EPS growth also deteriorated from a 4 percent y/y decline in 1H to a 13 percent decline in the second half, indicating a change in trends.

RBC Capital Markets’ Brian Tunick initiated coverage of the Department Store segment, saying the slowdown was largely a result of several transient factors, like unfavorable weather, lower tourist spending, economic uncertainty and secular headwinds.

Various players in the segment are walking a tightrope between declining balance sheets, capex commitments, 50 percent dividend payout ratios and continuing margin contraction, analyst Brian Tunick noted. He added that only the category leaders in growth categories are expected to perform well in the near future.

Rating Initiations

Tunick initiated coverage of Kohl's Corporation (NYSE: KSS) with an Underperform rating and a price target of $42. The analyst also initiated coverage of Macy's, Inc. (NYSE: M) and Nordstrom, Inc. (NYSE: JWN) with Perform ratings and price targets of $42 and $51, respectively.

Kohl’s operating margins contracted 80bps in 2015. Similarly, operating margins at Macy’s and Nordstrom also declined 170bps and 200bps, respectively, during the year. The debt ratios of these companies are moving beyond their limits and cash balances are at their five year lows, Tunick mentioned.

“Dividend payout ratios are nearing 50%, as we forecast EBIT margins to decline another ~40bps this year to 7.7%, below recession lows of 8.1%,” the RBC Capital Markets report stated.

Department Stores Losing Market Share

Tunick pointed out that Department Stores had lost significant market share over the past twenty years mainly due to category growth outside key department store categories, growth of off-price and the impact of specialty retailers and manufacturers going directly to customer, besides the growing strength of online players.

While department stores continue to innovate and fight back, the cost of doing so is quite high, Tunick noted. He added that capex levels were forecasted to remain elevated in 2016 with the return on these investments remaining uncertain.

“The return on these investments remains in question. IT/ecomm-related capex alone is expected to amount to $4.6B during '13–'16, with only $1.5B in incremental sales dollars forecasted and a decline of $2.1B in EBIT dollars over that same time period,” the report noted.

The analyst believes that department stores will find it difficult to convince investors that their top and bottom line initiatives can stave off secular pressures. He added, “As a result, we expect department store innovation and omni-channel leaders, M and JWN, to trade within their historical ranges (M at ~10-11x and JWN at ~13-15x).”

“As KSS plays catch-up while laying more directly in the crosshairs of AMZN and off-price, we believe the stock will trade closer to ~10x, below its five-year historical average of ~11x,” Tunick wrote.

Latest Ratings for KSS

Oct 2019DowngradesOutperformIn-Line
Oct 2019MaintainsNeutral
Aug 2019MaintainsNeutral

View More Analyst Ratings for KSS
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Posted-In: Brian Tunick RBC Capital MarketsAnalyst Color Short Ideas Initiation Analyst Ratings Trading Ideas


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