K-mart, Sears to Merge;
May Exchange Locations
NEW YORK -- Sears, Roebuck & Co. and Kmart Holding Corp. will combine their operations with a single "great culture," and the two retail chains may exchange both store locations and merchandise brands in the process, top management said.
In a conference call with analysts and media, top management of the two companies said they see a "significant opportunity" for Sears to take over Kmart locations as it pursues an off-the-mall growth strategy. Kmart, on the other hand, isn't likely to enter any of the mall-based locations operated by Sears, and management said the combined entity will "let customers decide" the fate of Kmart stores.
"I think that there is going to be a lot of work to do in converting Kmart stores into Sears stores where appropriate, bringing Sears products into Kmart Stores," said Kmart chairman and majority shareholder, Edward S. Lampert, who will become chairman of the combined company.
The two companies said Wednesday they will merge in a deal valued at about $11 billion, creating the third-largest retailer in the U.S. The new Sears Holdings Corp. will have about $55 billion in annual revenue, and about 3,450 stores, the companies said. Sears Holdings will act as the holding company for Sears and Kmart, which will continue to operate separately under their brand names.
Lampert said operational progress may be "lumpy" as the two massive operations combine. But management will be "very much customer focused and store focused," Lampert said. Although the new company will continue to look at opportunities to monetize its real estate assets in the fashion that Kmart did earlier this summer in a pair of lucrative real estate deals, it will focus mainly on improving operations, Lampert said.
Chairman Lampert told analysts and media Wednesday that Sears and Kmart combined will aim to achieve a 10% operating profit margin over the long term - a level of performance he noted is achieved by top-notch retailers like Home Depot Inc., Target Corp. and Gap Inc.
Sears and Kmart would "have to consider other alternatives" for stores that can't help the combined company meet that goal, Lampert said. But he emphasized that the company's focus will be on improving store performance and investing in stores whose profitability is low or borderline. To maximize the value of the combined company, "several hundred" Kmart locations may be converted into Sears, executives said.
"I don't think any retailer should aspire to have its real estate be worth more than its operating business," Lampert said.
While there have been some retailers, including Kmart, where that was the case in the past, "the more money the store makes, the more valuable they are as an operating business, and that's something that I think the combined company can do very, very well."
Lampert noted that Sears stores are more productive than Kmart stores, by about $80 in sales per square foot. "If we could ever achieve that level of productivity in the Kmart stores, either as Sears or a Kmart, you're talking about an $8 billion opportunity," Lampert said, noting that the Kmart chain comprises about 100 million square feet.
A key to achieving that will be using Sears to gain access to products that weren't previously available to Kmart, Lampert said. He noted that Kmart has worked to revamp its merchandise "before the company went into bankruptcy, when it was in bankruptcy and since it has emerged," and particularly highlighted apparel. Having shrunk by a third since its January 2002 bankruptcy filing, Kmart's access to products has been limited.
"I think that the ability to access that will make an existing Kmart location with those products be a lot more competitive," Lampert said.
The process of improving operations won't be done with short-term financial targets in mind, Lampert said. He indicated that the combined company's board will have "very, very significant shareholder representation."
He appeared to hint that that could give the company flexibility to be managed in the fashion of Kmart since it emerged from bankruptcy last May. In particular, Kmart has increased its profits while registering steep sales declines - a strategy that has provoked controversy in some retailing circles.
"We will be able to manage the business strategically and for the long term without having to worry about figuring out how to make monthly same-store sales, hit a specific target, and without giving any type of quarterly earnings guidance and then trying to manage the business for that guidance," Lampert said.
Although the Sears and Kmart chains will continue to operate separately under their respective names, management will strive to make the corporate cultures of the two entities as similar as possible, Chairman Lampert said.
"We are really trying to blend this into one great culture, and I think that's a very important distinction," Lampert said.
While Sears admittedly has plenty of room to improve its retail operations, it is far from a hopeless case, Lampert said. The main problem is that Sears' mall-based stores aren't close enough to the company's core customer base, he said. Kmart stores, on the other hand, are located in areas where hot retail chains are building new stores, including Home Depot, Best Buy Co., Lowe's Cos. (LOW), Target and Wal-Mart, he said.
"In terms of the Sears experience, the Sears service, and certainly the Sears products, they're every bit as good as any of the competition," Lampert said. "The problem is they are not where the customers are, and that's the big opportunity. It is not that the retailer per se is weak, but if you have the greatest store and it's not where the customers are, that's a problem."
Sears Chairman and Chief Executive Alan J. Lacy, who will be vice chairman and CEO of Sears Holdings, said Sears sees an opportunity to expand its new, off-the-mall "Sears Grand" store concept into "several hundred" locations that are currently occupied by Kmart stores. He admitted, however, that many Kmarts are much smaller than the prototype for Sears Grand, which occupies 180,000 square feet.
As such, Sears will have to offer "more focused and more edited" merchandise assortments at many of those locations. That makes sense strategically in terms of apparel, because "our off-the-mall customer is typically looking for more of a casual sportswear-like apparel experience, not necessarily looking for a social occasion dress or fine jewelry," Lacy said. Sears Grand stores will likely benefit from the addition of some Kmart brands, he said. He noted that Kmart's expertise in consumable items, health-and-beauty aids and pharmacies is superior to Sears'.
"There are certain categories where they've got more expertise than we've got. We have certain categories where we have more expertise than they have," Lacy said. "So we will figure out the way to get the best of both into the combined company."
Meanwhile, Aylwin Lewis, who became president and chief executive of Kmart Holding Corp. last month, said he "doesn't want our associates to think that Kmart is going away."
"It's undetermined what the numbers are going to be, but we have a tremendous opportunity to let the customers decide and that's what we're going to experiment with over time," said Lewis, who will be president of Sears Holdings and CEO of Sears Retail.
Lewis said he learned of Kmart's plans to merge with Sears only two weeks ago - two weeks after he joined Kmart.
"After a momentary shock, I said 'Let's go for it, I'm ready,' " Lewis said.
In response to a question, Lampert said he has not been in communication with Vornado Realty Trust, which said earlier this month it has taken a 4.3% stake in Sears.
Lacy said the combined management team of the company is "largely in place," noting a string of hires that Sears has made this year to beef up its retail operations, including Luis Padilla, a former Target executive. But Kmart's Lewis said the company remains open to the idea of adding "top talent" to manage the organization.
"Certainly, if we need to bring people in from the outside to help us, we have the resources available to do it," Lampert added.
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