Sears' Retail Side Fails to Impress

The earnings report gives a view of Sears' business without credit cards.
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Investors got a preview on Thursday of how


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might perform as a pure retailer -- and it wasn't encouraging.

Sears, which plans to sell its credit card division to


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by the end of the year, announced its second-quarter earnings on Thursday. Although the company's results nominally beat Wall Street expectations, that was largely due to a windfall from the sale of charged-off credit accounts.

Meanwhile, the operating profits of Sears' retail division plunged on flat sales, and the company lowered its full-year guidance.

Company CEO Alan Lacy tried to put the best spin on things, saying in a statement that Sears "delivered a solid quarter that was consistent with our expectations."

But others weren't as impressed. In a report issued Thursday, Goldman Sachs analyst George Strachan said that both Sears' overall results and those of its retail division were "below expectations."

(Goldman Sachs has done investment banking with Sears in the last year.)

And investors seemed unconvinced as well. In recent trading on the

New York Stock Exchange

, Sears shares were off 9 cents, or 0.2%, to $38.11.

In its second quarter ended June 28, Sears earned $309 million, or $1.04 a share, on $10.2 billion in revenue. That was up from the year ago period, in which the company earned $229 million, or 71 cents a share, on revenue of $10.1 billion.

The company's results surpassed Wall Street projections and its own guidance. Analysts surveyed by Thomson First Call were expecting the company to earn 95 cents a share. Sears had previously projected that it would earn between 85 cents to $1 a share.

The company's results were helped by the sale of the charged-off accounts. Sears posted a pretax gain of $93 million, or 20 cents a share, from the one-time gain.

Likewise, the company's year-ago results were depressed by a one-time charge. In the second quarter last year, Sears took a $300 million, or 59-cents-a-share, pretax charge related to recalculating its provision for uncollectible credit card accounts.

In his note, Strachan said that without the one-time gain in the just-completed quarter, Sears' results would have come in below Wall Street's consensus and the company's own guidance.

Sears announced on Tuesday that it plans to sell its credit card division to Citigroup for about $3 billion. The sale represents an opportunity for the company to divorce itself from the troubled division, which has been plagued by increasing delinquencies and bad debt.

But as many problems as the credit division has had in recent months, it still has provided the bulk of Sears' profits. And without the credit division, Sears will be left with a retail division that has struggled to compete with the likes of


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The disparity in the two divisions was evident in Sears' earnings report. Operating profits at its credit card division more than tripled from the year-ago quarter to $355 million. Meanwhile, operating profits at the company's retail division dropped by nearly 40% from the year-ago period to $183 million.

The company blamed the decline in retail profits in part on a promotional retail environment. With a sluggish economy, unfavorable weather and the war in Iraq, many retailers came into the second quarter with more inventory than they wanted, precipitating the need to slash prices to clear merchandise.

But external factors weren't the only ones weighing on Sears' retail division. The company's same-store sales, which compare like results at outlets open for more than one year, declined by 3.5% over the year-ago period. Meanwhile, the company's recently acquired Land's End brand, which has been seen as a potential boon for Sears' troubled apparel department, was a mixed blessing.

Revenue from Land's End helped to offset slow sales in the company's other retail departments. But the addition of the catalog apparel seller helped drive up Sears' overall administrative and marketing costs from the year-ago period.

As a portion of overall revenue, Sears' marketing and administrative costs increased by 78 basis points over the second quarter last year, to 22.82%. But within the retail division, the jump was even more dramatic, as retail-related marketing and administrative costs rose 1.18 percentage points to 22.17% of retail sales.

Strachan, for one, expects business to pick up for Sears in the second half of the year, as the recent tax cut helps stimulate the economy. Instead of the same-store sale declines the company saw last year, Strachan believes that the company can achieve its planned flat- to low-single digit same-store sales gains.

But even taking some improvement in sales into account, Sears still decreased its guidance for the year. The company now expects to earn between $4.80 to $5, down from previous guidance of $4.95 to $5.15.

And, as Strachan notes, the new guidance includes the 20-cent-a-share gain from the sale of the charged-off accounts.