It didn't take long for the pending, $11.8 billion Kmart/Sears merger to spawn a sequel. As the numbers rolled in from the lackluster holiday shopping season — results that again showed significant market share losses for old-line department stores — thebanking community began buzzing about renewed merger talks between Federated Department Stores and May Department Stores. According to sources close to the firms, the stage was set when Gene Kahn resigned as May's CEO, paving the way for Federated CEO Terry Lundgren to head a 1,000-store giant with annual sales of $28 billion.
Whether thisgoes through or not, massive changes are afoot in the department store sector — changes that will have long-term effects on the mall industry that has relied on department stores for 50 years. No matter what, merchandising executives say, consolidation is sure to continue, leading to store closures that will leave mall owners with more department store shells to fill or repurpose.
“Consolidation will have to continue,” says Richard Latella, senior managing director with Cushman & Wakefield Inc.'s retail division. It's simple economics, he says. “Department stores sales continue to slip. Maybe a larger entity can squeeze more out of suppliers or get savings on the distribution front.”
At press time, both May and Federated were refusing official comment on the rumored deal. Shares of the REITs that are believed to be most exposed to the merger (where May and Federated stores now are co-anchors) have fallen. General Growth Properties, for example, was down about $2.50 per share, to $31.70 in the days after the rumor began to circulate. Macerich Co. was down $4.00 per share to $56.51.
Wall Street is figuring that some regional mall owners might even wind up with three anchors in some properties owned by the same company company. If Federated continues its strategy of rebranding regional chains as Macy's, the toll would be heavy in some regions where May chains such as Lord & Taylor compete for the same shoppers as Macy's.
Macerich has the biggest exposure, with 19 of its 70 properties having both Federated and May properties. Macerich president, Art Coppola, tried to put a positive spin on the possible deal, telling the Los Angeles Times the move could help his company in the long run.
“I can't imagine, if it were to happen, that it would be anything but a positive for us as time went on,” Coppola said. “As one department store leaves, 90 percent of the time it's replaced by a store that does better.”
Macerich, and several other affected REITs, including Simon Property Group and General Growth, either refused to comment or did not return calls for this story.
Clearly the “three Macy's” mall is not an option, which suggests yet more vacancies — even before the market absorbs the expected loss of 10 percent to 20 percent of Sears and Kmart 2,350 full-line stores and 1,100 specialty outlets. That has become a constant challenge for owners, some of whom are still dealing with May's decision to shutter 32 Lord & Taylor locations last year.
On the other hand, after years of watching their old anchors disappear — remember Montgomery Ward? — owners have become more adept at reinventing regional malls without replacing a lost department store with another one. “People are recognizing that a lot of old stores are not the traffic generators that people envisioned when the malls were originally conceived,” Latella says. With department stores living off sweetheart deals they made decades ago, it may be more profitable to bring in a tenant that will pay more, say Latella.
Clearly, the department store sector will continue to consolidate — if only to produce a few survivors. Prudential Securities analyst Wayne Hood estimates that a Federated/May merger would lead to $200 million in cost savings through divisional and logistical consolidations.
Other chains that don't have the resources to bulk up will become buyout bait — if only for their real estate. Saks Inc. and Dillard's Inc. are possible targets along with regional chains like Boscov's or Bon Ton. Federated and May could both be acquirers, as could Target Corp., say analysts.