Once again, Sears Holding Corp (NASDAQ:SHLD) stock has bounced off its lows. Investors appear to have liked fourth-quarter earnings last week — Sears stock jumped 15% the day after the release. Results came in ahead of Street expectations (but absolute figures remain extremely weak).
Overall, revenue declined more than 16% in the key holiday quarter. Sears sold more than $1 billion less in merchandise than it did the year before. Store closures had something to do with that drop, but they don’t explain it away. Same-store sales fell more than 10%. Margins were pressured as well, as Sears had to increase promotional activity to move much of what it could sell.
There’s still a real estate/asset case here — but, there’s long been such a case, and yet Sears stock has continued to decline for most of the last six years. The fact remains that SHLD stock seems likely to go to zero. Any investors with exposure to Sears stock should take the opportunity to exit at current levels.
How Did Sears Stock Gain After Q4 Earnings?
The fact that Sears beat analyst estimates in its Q4 has more to do with expectations than with performance. By any metric, SHLD’s fourth quarter looked abysmal. As noted, sales fell more than 16%, with a 10%+ decline in comparable sales. Kmart was the better performer, with comps down just 8%; same-store sales for Sears Domestic declined more than 12%.
Both figures were actually worse than the performance earlier in the year. Same-store sales for full-year fiscal 2016 (ending January 2017) declined “just” 7.4%. Kmart was down 5.3%, and Sears 9.3%. Notably, in its Q4 release, SHLD attributed the decline at Sears stores to weakness “in the home appliances, apparel, and consumer electronics categories.”
Those are Sears’ most well-known categories! The few shoppers who do visit go to Sears for appliances, apparel and, to a lesser extent, consumer electronics.
So, while Sears revenue and profit might have been better than expected, they weren’t good. It’s just that analysts, by and large, expected worse. And, it’s not just a case of Sears struggling along with retailers more generally. J C Penney Company Inc (NYSE:JCP) posted a modest 0.7% comp decline in its fourth quarter. Macy’s Inc (NYSE:M) same-store sales were down 2.7%. Both of those stocks are at multi-year lows — with better performance than SHLD stock.
Sears’ Business Is Unprofitable
Meanwhile, there’s no good news on the profit front, either. Gross margin declined 190 bps for the full year, though the compression moderated to just 50 bps in Q4. Lower apparel margins, higher markdowns (ie, more sales), and Shop Your Way expenses all contributed. The broader point here is that Sears has had to increase discounts simply to maintain the 90% of business it didn’t lose in Q4. That’s hardly an auspicious sign.
What’s particularly problematic for the bull case for Sears stock is that the business is completely unprofitable. Fourth-quarter adjusted EBITDA was a loss of $61 million. In other words, ignoring interest expense and much-needed store improvement spending, SHLD is still burning cash.
For the year, adjusted EBITDA was negative $808 million. That figure was only modestly better than the year before, despite aggressive cost-cutting and closures of unprofitable stores. And, it compares very poorly to JCP, which drove more than $1 billion in positive adjusted EBITDA over the same period.
Sears is targeting $1 billion per year in cost cuts, which, in theory, would offset that $800 million-plus loss. But, that only works if the business isn’t declining, further pressuring gross margins and leading to increased SG&A as a percentage of sales. Meanwhile, a company whose service is already questioned and whose stores are generally considered to be in poor shape can’t cut its way to profitability forever.
It seems highly likely that the Sears and Kmart businesses have little, if any value, which leaves only one path to value for Sears stock.
The Asset Case for SHLD Stock Doesn’t Work
There’s also the real estate and asset case for Sears stock, of course. But, that case is getting weaker by the quarter. Sears did manage to sell its Craftsman brand to Stanley Black & Decker, Inc. (NYSE:SWK). That cash has already gone to pay down debt. Meanwhile, deferred payments and a 15-year royalty agreement both have outstanding liens to guarantee Sears’ pension.
At this point, what’s left? Kenmore and DieHard have been on the chopping block since May, with little apparent interest. Most of the real estate is already pledged as collateral to existing debt. The Seritage Growth Properties (NYSE:SRG) REIT proceeds have already been spent, and are now leading to increased (albeit declining) rent expense.
There just isn’t a path out of this mess for Sears Holding that doesn’t include SHLD stock winding up at zero — or close to it. We’ve seen these brief bouts of optimism toward Sears stock before, and they usually fade, and fade quickly. There’s not enough reason to expect that this time around will be any different.
As of this writing, Vince Martin did not hold a position in any of the aforementioned securities.