Federated Slowed by May Acquisition Costs

Don Hogsett, May 15, 2006

Still picking up the tab for last year's buyout of May Department Stores Co., Federated Department Stores recorded a first-quarter loss of $52 million, compared with a year-before profit of $123 million.

Weighing down the bottom line were store closing costs that totaled $123 million, another $6 million in inventory valuation adjustments, and interest costs of $138 million on takeover debt.

Pulling out all of the one-time costs stemming from the acquisition, Federated managed to eke out an operating profit of $143 million, down 43.3% from $252 million last year, hampered in part by weak former May stores.

Sales in the opening quarter climbed by 62.9%, to $5.9 billion from $3.6 billion last year. Same-store sales were flat, better than the 0.5% to 1.5% decline the retailer had cautioned analysts to expect. Giving the top line a boost, said Terry Lundgren, chairman and ceo, were “stronger than expected sales at Macy's and Bloomingdale's stores.”

Average gross margin narrowed by 150 basis points, or 1.5 percentage points, to 38.7% from 40.2%, reflecting higher markdowns in former May company doors as inventory levels were brought into line with Federated standards. The gross margin rate for Macy's and Bloomingdale's was slightly ahead of last year.

Operating costs climbed by 300 basis points, or 3.3 percentage points, to 36.3% from 33.3%. Even so, said Lundgren, expense levels were lower than expected.

A number of major transactions will bring in cash this year, the retailer said, including the expected sales of the Lord & Taylor and Bridal Group divisions that came as part of the May deal. A majority of the 80 duplicate stores were put on the block, and the sale of credit-card receivables to Citigroup will yield more cash.

Lundgren said the merger “continues solidly on track,” and added that the 2006 forecast is unchanged, with a target of a per-share profit for $3.50 to $3.75 for the year. Same-store sales are forecast to grow by 3% to 5% during the second quarter, and by 2% to 4% in the secon half of the year.

But Wall Street had been hoping for more, and backed away from the stock in the hours after the retailer put out the news on May 10. By mid-day, Federated stock had drifted lower by $1.03 a share, or 1.3%, to $77.92.

Federated Department Stores Inc.

Qtr. 4/29 (x000) 2006 2005 % change
a. First-quarter results include a $6 million inventory valuation adjustment charge stemming from the integration of former May Department Stores Co. stores; $123 million in costs stemming from the May integration, mostly tied to the closing of duplicate store locations; an income tax benefit of $44 million, compared with income tax expense of $75 million during the same period a year ago; and $22 million in after-tax income form discontinued operations, including the acquired operations of Lord & Taylor and the Bridal Group, including David's Bridal, After Hours Formalwear and Priscilla of Boston, which are being sold off.
Sales $5,930,000a $3,641,000 62.9
Oper. income (EBIT) 143,000 252,000 -43.3
Net income (52,000)b 123,000
Per share (diluted) (0.19) 0.71
Average gross margin 38.7% 40.2%
SG&A expenses 36.3% 33.3%

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