Sears Holdings Corp (SHLD): Evercore Says Liquidity Event Just A Matter Of Time

Sears Holdings Corp (SHLD): Evercore Says Liquidity Event Just A Matter Of Time

It seems Sears Holdings shares have stabilized following Tuesday’s release of a negative preliminary fourth quarter financial update. After slumping all day on Tuesday, the stock is up 0.39% at $15.31 per share as of this writing. Meanwhile Evercore analysts warn that a liquidity event is forthcoming and that it’s not a question of if rather than when.

The nitty gritty of Sears’ report

Sears said on Tuesday that Kmart comparable store sales declined 7.2%, while Sears comparable sales fell 6.9% and overall comparable sales tumbled 7.1%. Evercore analyst Greg Melich said in his report dated Feb. 9 that all three numbers were worse than his estimates of declines of 7%, 5% and 6.1%, respectively, as the retail chain exited the consumer electronics space and apparel. It also continued to cede market share and is struggling amid a difficult macroeconomic climate.

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As a result of all these factors, Melich believes Sears will either need external funds are sell off some assets by the third quarter in order to fund inventory for the holiday shopping season.

Sears hit by bad retail market

The analyst added that the retailer’s margins were also worse than he had expected, seeing an accelerated decline as the difficult overall retail climate weighed on its results. Management guided for -$155 million in adjusted EBITDA for the fourth quarter, which was significantly lower than his estimate of $9 million, including Seritage rents. The guide for adjusted EBITDA implies about a 23% gross margin, excluding those rents, Melich added. That’s 200 basis points lower than his previous estimate and 170 basis points lower than last year’s gross margin.

The Evercore analyst said he knew before that exiting some of the unprofitable categories would reduce comparable store sales, but he also though Sears would be benefit from these exits, which were done over the first three quarters of 2015. The problem is that trends reversed during the fourth quarter as a result of unseasonably warm weather and intensified competition, he said.

Can Sears really become profitable?

Sears management said in Tuesday’s financial update that they are committed to making the retailer profitable and is targeting positive adjusted EBITDA this year. However, Melich thinks this is quite unlikely because the “shrink to grow strategy” has reduced sales and deleveraged margins. He’s projecting a $1 billion loss in adjusted EBITDA for this year.

As a result of all these problems, the retailer’s cash position is now much worse than it was, so he expects more debt issuance this year and possibly an even bigger liquidity event in 2017—if it keeps burning through cash at the current rate. He said the preliminary numbers suggest a “slightly negative” operating cash flow during the quarter, a significant decline from the $555 million operating cash flow in the year-ago quarter. As of Jan. 1, Sears had total debt of $3 billion and cash of just $238 million.

In general, Melich doesn’t think the retailer’s business model is viable at this time, and he continues to rate its stock at Sell with a price target of $4 per share.

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