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Department stores get ratings reprieve

Expecting that a first-quarter rally in retail stocks will follow a weak holiday season, Merrill Lynch analyst Daniel Barry has raised his rating on three major department store players, J.C. Penney, Federated and May Department Stores.

Barry said he expects retail profits will begin to improve early next year, setting the stage for even greater growth later in 2002 as the overall economy gains strength.

Given that hopeful outlook, Barry raised his rating on J.C. Penney and Federated to a "strong buy" from an earlier "buy" rating, and boosted his rating on May Department Stores to a "buy" from an earlier "hold." Barry also upped his rating on luxury retailer Tiffany & Co. to a mid-term "buy" from an earlier "neutral" rating.

"Fundamentally, the earnings estimate erosion under way since Sept. 11 should end in early January, when retail stocks should fully discount the poor Christmas shopping season," Barry said in a research note.

Retail stocks have already staged a recovery from the lows they touched after the Sept. 11 terrorist attacks but still remain beneath their highs for the year.

Following a "poor Christmas shopping season," Barry said he expected "first-quarter sales and earnings, although depressed, should be generally in line or better than expectations, setting the stage for upside surprise in the second quarter, if the economy recovers as expected." Historically, Barry noted, retail stocks have generally outperformed the broader stock market during the first quarter.

First-quarter earnings should come in stronger than fourth-quarter results, Barry said, noting that stocks are already being boosted by low interest rates. The combination of improving earnings and lower interest rates, he said, could ignite a "powerful retailing stock rally in the first calendar quarter."

New JCPenney management yields buy rating

J.P. Morgan retail analyst Shari Eberts has begun coverage of department store giant J.C. Penney with a "buy" rating, citing improvements under a new management team and a stronger balance sheet.

"New management, led by ceo Allen Questrom, has awakened a sleeping giant, changing the company's 100-year history of promoting from within and cleaning up the balance sheet," said Eberts.

The analyst noted that a shift to centralized merchandising is driving sales improvement at the company's core department store business, and also pointed to improved operating performance at the Eckerd drugstore division. Both segments of Penney's business, she said, should show near-term strength compared to the overall retail and drugstore sectors.

For all of 2001, Eberts forecast earnings of 34 cents per share, in line with Penney's own forecast of a 30 cents to 35 cents per-share profit. For next year, Morgan forecast a $1.07 per-share profit, substantially ahead of a consensus forecast of 92 cents. Justifying the bullish outlook for 2002, Eberts said she believes Eckerd's margins will improve rapidly in the second year of the company's turnaround.

Upgrades from both J.P. Morgan and Merrill Lynch helped drive Penney stock up 73 cents a share to $25.46 in early trading last Thursday on an otherwise listless trading day.

Jo-Ann Stores expects strong 4Q growth

Fabric and crafts retailer Jo-Ann Stores said it expects fourth-quarter sales to rise by 5 percent to 6 percent, a strong improvement over a skimpy 0.2 percent increase last year.

The Hudson, OH-based retailer said if the sales goals are met, it should see a "modest" improvement in operating performance for the fourth quarter. The retailer said it expects to return to profitability in the fourth quarter and moving into next year.

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