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Bank Sees Japan Retailers in ‘Unprecedented’ Downturn

Deutsche Bank initiates coverage of Isetan Mitsukoshi, Takashimaya and J. Front Retailing.

TOKYO–Deutsche Bank has initiated coverage of three leading department store operators in Japan and warned that the retailers are heading into a “prolonged and unprecedented sales downturn.”

The bank has initiated coverage of Isetan Mitsukoshi Holdings Ltd. and Takashimaya with a hold rating. It forecasts that the retailers’ 2009 sales will drop 4.2 percent and 5.1 percent respectively. Deutsche Bank also initiated coverage of J. Front Retailing Co. Ltd., the parent company of Daimaru and Matsuzakaya Holdings, with a sell rating.

Deutsche Bank noted the sharp decline of department store sales since October 2008, citing falling asset values and bonus payments in Japan as well as increasing economic uncertainty.

“Unlike previous economic downturns, there is a high degree of uncertainty among consumers, which is likely to prolong the sales downturn,” analyst Daisuke Kameyama wrote in a report dated Wednesday. “The major department store operators have already revised downward FY08 earnings estimates and it seems a sharp [year-on-year] profit drop is inevitable.”

Overall, Kameyama voiced skepticism on the consolidation that has swept through Japan’s department store industry over the past couple years. He said there is limited upside for “economies of scale” since individual store profitability is an important aspect of the business.

“Amid competition from other retail formats, the department store industry is in decline,” he wrote. “In order to survive, department store companies need to strengthen the sales capacity of their flagship stores in major cities and work on improving profitability without relying on mergers.”

The bank underscored that Isetan and Mitsukoshi, which merged in April of last year, have the strongest portfolio of stores in the Tokyo area but still questioned how successful the integration of the two retailers will be.

“We are concerned that sales may remain weak, that Mitsukoshi’s margins may fail to improve, and that integrating Mitsukoshi and Isetan may prove difficult despite the company’s unrivaled combined store network and management know-how,” Kameyama wrote.

As for Takashimaya Co., Deutsche Bank said the retailer should make additional cost cuts to defend its earnings during weak sales. “We also expect the developer business and other non-core businesses to contribute to earnings growth over the medium term,” according to the analyst.