Deciphering Sears' Earnings

Sears Holdings Corporation (SHLD-NASDAQ) has reported net income of $820 million, or $5.33 diluted EPS, for the quarter ended February 3, 2007.  This compares with net income of $648 million, or $4.03 per diluted share, for the fourth quarter ended January 28, 2006. For the quarter, total revenues increased $0.2 billion to $16.3 billion for the 14 weeks ended February 3, 2007, as compared to total revenues of $16.1 billion for the 13 weeks ended January 28, 2006; but if you interpolate the extra week counted in this cycle you’ll see that this is essentially flat on a real revenue basis.

For the fiscal year ended February 3, 2007, net income was $1.5 billion, or $9.57 diluted EPS (after $0.58 accounting change charges) compared with net income of $858 million, or $5.59 per diluted share, for the fiscal year ended January 28, 2006.

Sears is saying that margin improved in apparel and this drove profits at both K-Mart and Sears.  There are 4 items to note in the earnings: 1) a $27 million pre-tax loss ($17 million after-tax or $0.11 per diluted share) on the Company’s total return swap investments; 2) pre-tax gains of $50 million ($31 million after-tax or $0.20 per diluted share) on sale of assets; 3) a tax benefit of $25 million (or $0.17 per diluted share) related to the resolution of certain income tax matters and 4) a pre-tax charge of approximately $74 million ($45 million after-tax or $0.29 per diluted share) related to an unfavorable verdict in connection with a pre-merger legal matter.

Same store sales are still in decline.  For the quarter, domestic comparable store sales declined 3.1% in the aggregate, with Sears Domestic comparable store sales declining 4.9% and Kmart comparable store sales declining 0.9%. For the year, domestic comparable store sales declined 3.7% in the aggregate, with Sears Domestic comparable store sales declining 6.1% and Kmart comparable store sales declining 0.6%.  For this it blames competition and lower transaction items and it also said a sales decline in home appliances from a housing slowdown are contributing to the drop.

As of the quarter-end it held $4.0 Billion in cash and equivalents.  For the year, the Company used its cash actively: $816 million for share repurchases, $474 million in capital expenditures, $318 million in pension contributions, $282 million to purchase additional interests in Sears Canada, and debt payments, net of new borrowings of $250 million.  It actually only repurchased 100,000 shares in the last quarter, so this is perhaps a slowing of share buybacks because of higher stock prices (says $165 average buy price). It still has $604 million it can use for future share buybacks under the current plan.

Shares are down about $3.00 at $177.25 pre-market.  We’ll see if Cramer comes out with his usual long-term endorsement featuring Eddie Lampert as teh next Warren Buffett.  Trying to break apart these numbers out of Sears is much more convoluted since thgey are part equity hedge fund and part major retailer, and this stock is subject to ups and downs after earnings or news.  Perhaps this is why when we ran one of our break-up valuation screens on the company our numbers came back with $205.00 on one method of calculation and $325.00 on another calculation.  That’s what makes a ballgame.

Jon C. Ogg
March 1, 2007

Jon Ogg can be reached at [email protected]; he does not own securities in the companies he covers.