Chasing Target and Wal-Mart. Why bother?
CAN REAL ESTATE BE THE SILVER LINING FOR NEW SEARS/KMART ENTITY
Jeff Green
CEO, Jeff Green Partners
The first month of the New Year celebrates Janus, the Roman god of gates and doors, of beginnings and endings. We are all familiar with Janus’s double-faced head, each looking in opposite directions. For Sears, Roebuck & Co. and Kmart Holding Corporation, the allusion couldn’t be more apt. Looking back will be two of the illustrious names in retail history, part of the fabric of American life for generations. Who hasn’t used a Craftsman tool or Kenmore appliance in their lifetime, let alone now own several. Kmart was a pioneer of the “mart” format, blue light special and the fun or “circus” atmosphere punctuated by that inviting whiff of just-popped popcorn as we entered the store. Nothing for Martha Stewart to turn her nose up at.
Looking forward will be the new Sears Holding Corporation. The numbers behind this $11 billion deal are compelling. When officially merged, Sears and KMart will become the nation’s third largest retailer, with estimated annual revenues of $55 billion. It will control nearly 3,500 locations, existing KMarts and Sears mall and off-mall stores.
Can Sears Holding (Sears/Kmart) effectively compete with discount juggernauts, Target and Wal-Mart? If so, what would be the optimal format or formats going forward to recapture retail customers and cash register receipts. Or should the new entity try and carve out a niche of its own?
The short answers are No and Maybe. Here’s why. Of all categories of real estate, retail is the one where location, configuration and end-user are most intimately related. Put an office building or industrial building somewhere else, and workers, clients and the UPS truck can—and will—still find their way, even if a bit inconvenienced. Misplace a store and no one may enter at all.
With Sears-Kmart, we must measure up a different animal, based on the deal making history and stock run-up of Kmart since emerging from bankruptcy in 2003 as Kmart Holding Corporation, as well as the sheer number of locations involved. Like Janus, the new Sear-Kmart entity should be viewed in two lights—as a retail endeavor and as a real estate deal. Let’s consider some prospects for each side of the value equation.
Been There, Didn’t Do It
I won’t belabor the obvious: two distressed retailers coming together, sharing a recent heritage of poor customer loyalty, service standard and merchandise appeal. Even driving customers into stores isn’t enough. We can remember when KMart had annual revenues of $30 billion—yes, that’s BILLIONS—and couldn’t turn a profit.
KMart, in particular, has never got the merchandise mix and service standard on track. This is a merchant that consumers will “cherry-pick” on specials, not shop as one’s core store. In ways similar to Sears, which has acknowledged strong lines in appliances and tools and does some excellent things even with home electronics or women’s fashions, a lot of folks didn’t bother to find out whether KMart did get better. Those tedious checkout lines didn’t help.
No matter how merchandise or formats are juggled between the two names (or a new one!), we still must question the appeal of specific sites and configurations (more about that later), and the commitment of management to “do retail.” Wal-Mart is retail’s prize champion, Target its exemplar of “mass-class.” Target makes the Top Five of stores regularly shopped by many of those living in our nation’s highest income zip codes. It would be extremely difficult, likely impossible, to budge either from those perches.
On the positive side, Sears Holding doesn’t face serious threats to be dethroned from Third Place status. The likes of Kohl’s or Mervyn’s don’t seem poised to grab significant shares of existing Sears or KMart business. Next, what about expanded merchandise lines? Can Sears Holding compete in toys, sporting goods, home entertainment-home furnishings or other territories capable of being wrested from weak-kneed category killers.
With hard lines, Sears Holding could compete with Lowe’s or Home Depot, although these latter two are both very strong and very well merchandised. Their service levels need improvement, but they are working hard to get that area of the retail equation righted. To compete well, Sears Holding would need a broader selection of hard lines, more than tools and appliances, and knowledgeable staff. Sears Holding would have a leg down for a long time and they probably don’t have the luxury of time.
There may be opportunities in consumer electronics, digital cameras and the like. Sears has shown itself to be price competitive in this area, including home theatre systems, and with the necessary depth and breadth of merchandise and service, there may be room to show up category killers like Best Buy or Circuit City. Just don’t get lost on the shoals of trying to guess the whims of the teenager or young adult for items like CDs, DVDs or computer games. Censorship aside, Wal-Mart can grab those commodity purchases and Blockbuster, challenged by the discounters and internet sales-rentals, is demonstrating new flexibility.
Perhaps most germane to this discussion, Sears has already had an unsuccessful go at several seemingly well thought-out new formats. Sears Home Hardware looked like a sweet reinvention of the neighborhood hardware store, but Lowe’s and Home Depot have been able to put stores 3 miles to 4 miles apart, including along paths of new home construction. They may not be as convenient as the proverbial neighborhood hardware store, but are they any less convenient than finding a Kmart? On the large end of the spectrum, the Sears Great Indoors looks great, but also hasn’t prospered.
Many cite Sears Grand as a view of things to come, but it is a concept still in test mode. We have been told that Sears Grand is exceeding sales expectations, whatever that means, yet the stores are not profitable.
Not that KMart and Sears haven’t worked hard and made some progress in merchandise lines, including Martha Stewart goods holding their own, and presentation. The analysts have noticed, but have consumers?
Intrinsic Value?
Which brings us to real estate. Here, Mr. Lampert has excelled. KMart’s stock hasn’t increased seven- or eight-fold coming out of the bankruptcy gates because the company became a better retailer. It was about maximizing value in real estate, including that nearly $1 billion sale of 76 stores or lease positions to Sears and Home Depot. Talk about a partial buy-back as Kmart now acquires Sears.
We know that the new Sears Holding has substantial “reserves” in the form of aggressive lease positions on many existing KMart and Sears locations. But the real value of that reserve and how it will be used remains to be seen.
For the sake of argument, let’s say that any new retail entity going forward only needs about two-thirds of the existing 3,500 sites. Will Sears Holding hang on to its best sites and sell off the others, or sell its best ones? In any event, we must consider two factors. Just how good are these sites for any retailer, and how well any given location can be adapted to a new and improved retail strategy?
Obviously, site-by-site analysis is needed. It has already been announced that several hundred KMart sites will be changed to a Sears name. But are those existing KMart sites (even the best ones) as good as those of the home centers, Lowe’s and Home Depot? Yes. Are they as good as those now held by Wal-Mart and Target. Not really. Attractive lease rates are only attractive if other retailers (or banks, or gas stations, etc.) want to do business from there and people want to shop there. Remember, retail is more location-precise/sensitive than any other from of real estate. Thus, Sears Holding will possess excess capacity in sites, but their ultimate value remains to be proven.
What about the appropriateness of locations for a new Sears Holding “format.” At regional and community malls, Sears remains a valuable anchor, although the company has already expressed interest, like many other “department” stores, in operating from stand-alone locations. Any synergy between a Sears mall location and one a couple of miles away in a former KMart shell is dubious. One also has to question how much space a new hybrid store will need. Bigger is not necessarily better. Any new platform would likely do well at about 80,000 square feet, even less. How sites larger than that are repackaged, again, remains to be seen.
The best potential may be for “Sears Grand” locations that anchor or are a lead tenant in power strips. Outside of highly successful, carefully targeted lifestyle malls, the newer spruced-up power strip is where retailers can achieve some of the best sales/rental rate ratios in retail. These locations now fuse elements of lifestyle malls and the older neighborhood strip centers: a ring of big box users harboring a closer to the main road lineup of smaller, mid-scale specialty shops and eateries. Paradoxically, the wisdom of this formula is proven daily by the outstanding retail activity we now see around any Wal-mart or Home Depot location! If you can’t beat them, join them.
Will Sears – Kmart be a creative retailer or a real estate wheeler-dealer? The first takes an exceptional blend of creativity, consumer understanding, and lots of time, effort and money, not to mention the hazards of trying to blend two corporate cultures. I’d put my bets on the latter. Sears Holding’s first moves, its real energy drive, will be the tip-off.