SHLD – Unsuccessful profits
Five years ago, the investment world was lauding Eddie Lampert as a “genius” and “the next Warren Buffett.” After taking control of a bankrupt K-Mart and turning it around, he engineered the takeover of the iconic Sears and created what looked to be a potentially dominant new platform for which to execute his investing prowess. Today, with shares having dipped below their price five years ago, the glimmer of Eddie Lampert’s investment prowess has faded a bit and his ability to salvage his investment in K-Mart and Sears (collectively, “Sears Holdings” or SHLD).
SHLD announced a surprise profit of 38 cents per share for the first quarter versus a loss of 88 cents per share expected by analysts. It’s stock is up nearly 14% since Friday and some may be tempted to think that Eddie Lampert and Sears are on their way back from the brink. A closer look at the announcement, however, may tell a different story. Sears achieved its profitability through aggressively managing working capital, closing stores, and drastically cutting advertising and personnel costs. Same store sales at both K-Mart and Sears were down 2.1% and 11.7%, respectively (7.4% overall).
I’ve written before about Eddie Lampert’s age old strategy of managing for cash and using capital to buyback shares – (see: Eddie and Autozone). Generally speaking, I believe that paring back investment and returning capital to shareholders is a good way to maximize value to shareholders of mature businesses. The key to this strategy, however, is that the business in question can remain a going concern. Otherwise, siphoning off cash to return to shareholders is merely a glorified run-off of the business.
This is exactly the case with Sears’ most recent Q1 profits. Same store sales have fallen for eight straight years and profitability, despite the recent results, is down over 90%. The Company has yet to find a true successor to its former CEO Aylwin Lewis and its “strategy” of late can be summed up in 4 steps:
- Close stores
- Monetize real estate
- Rationalize the work force
- Cut discretionary spending (mostly marketing) at all cost
Clearly, this is an unsustainable business strategy. At some point, SHLD will have to prove out its viability. Until then, it’s hard to give much credit to the management’s team proclivity to return cash to shareholders through buy backs. Rather than signaling a vote of confidence in the stock, it seems more a tacit acknowledgement that management has no idea what else to do. For any other company, we might find this a refreshing. This is absolutely not the case with a business where most investors jumped aboard because of their belief in Eddie Lampert and his ability to invest and allocate capital. For Sears Holdings to ever achieve its supposed potential, it will have to do more than manage for cash flow and buy shares back.
Full Disclosure: The author has no position in SHLD at the time of writing.
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