THE GOLD IN THE CREDIT CARDS

Byline: Rich Wilner

NEW YORK--In an increasingly tumultuous retail environment, many stores are finding their credit card operations a multimillion dollar profit center and a key marketing resource in getting shoppers into the store.
From the behemoth Sears, Roebuck & Co., with its 50 million credit card accounts on file--that's one of every three households in America--to the smallest of specialty shops, retailers are discovering their proprietary pieces of plastic are worth more than their weight in gold. J.C. Penney also has a large and lucrative credit card business as does Federated Department Stores. And this year, two more department store chains will take back control of their credit card operations after having given up control--and the profits --many years ago.
Mercantile Stores Co., based in Fairfield, Ohio, and Kohl's Inc., Menomonee Falls, Wis., are both taking back their credit card operations from Citibank Retail Services (CRS), and both expect the takeover to result in an increase in profits almost immediately.
"We are making the move to garner some of the income that is going to Citibank and to accrue unto ourselves a marketing tool we can use better than it was being used," a spokesman for Mercantile said, noting that Mercantile first made the decision to take back the business four years ago and notified CRS of the decision at that time. It will finally take over the business on Aug. 1.
Mercantile, with three million total accounts and 1.6 million active accounts, turned over its credit card operations to CRS in 1979 after running it for more than 20 years. The outsourcing move was made, the spokesman noted, because technical changes sweeping through the industry at that time were too costly for Mercantile to purchase. Those same computer services are now within reach of the Mercantile budget and the company said taking control of the business, which had net receivables in 1994 of roughly $600 million, was a "prudent thing to do."
Mercantile will take a 17 cents per share charge in the third quarter (after a 10 cent charge in the first quarter) to cover the costs of acquiring the business, that is, buying out CRS, hiring the executive and sales personnel and setting aside a reserve for bad debts.
In a revenue-sharing formula with CRS, Mercantile and CRS split the yield on receivables in excess of an undisclosed level. Mercantile's portion of that split was $11 million over the term of the deal--after a penalty Mercantile paid to CRS for taking back the business.
Starting 27 cents per share in the hole (the amount already spent on startup costs), Mercantile said "Finance charge income will be dilutive to full year profits, but not significantly so." In 1996, without the startup costs, Mercantile is expected to operate a very profitable credit card business, although it will not comment on the business beyond this year.
In 1994, Mercantile earned $103.4 million, or $2.81 per share.
Last year, 39.3 percent of Mercantile's $2.8 billion in total sales were made with its proprietary card, that is down from 41.2 percent of total sales in 1993. The company attributed the drop in the credit card's stake of total sales to "people paying off their balances quicker."
Mercantile acquired its Maison Blanche division in 1992. At the time, Maison Blanche had its credit card business outsourced to a third party (not CRS). Mercantile has since taken control of that business.
Marketing executives at Mercantile, like those at other retailers, are enthusiastic about the opportunity to develop specially tailored marketing blitzes based on the credit card business.
For example, the Mercantile spokesman said, the store can target specific mailings to just those shoppers who used the card to shop in the big and tall area, or in the evening dress area, when it runs sales in those particular departments.
"Citibank saw the credit card business as a financing tool, we will look at it as a marketing tool; that's the biggest difference between Mercantile running the business and having CRS operate the business," the spokesman noted. That, and millions of dollars in additional income.
At Kohl's, the department store will take over its credit card operation in September or October after having CRS run the business for nine years.
"We sold it to CRS when Kohl's did an LBO as part of the whole financing package," said Arlene Meier, senior vice president and chief financial officer. "We had no choice at the time." Kohl's management purchased the department store from Batus in 1986.
Under Kohl's deal with CRS, the department store receives no income from CRS and pays CRS a fee for handling the business. The company would not disclose the size of the fee it pays to CRS.
"You have to understand that when we undertook the LBO the credit card business was very risky." So at the time it was a good deal, Meier said.
In the nine years CRS operated Kohl's credit card business, it didn't pay Kohl's a dime. Kohl's said it expects the credit card business to add 10 cents per share, or roughly $3.7 million, to the bottom line in 1996, its first full year with the credit card business under its own roof.
In 1994, Kohl's earned $68.5 million, or $1.87 a share.
Kohl's has net receivables of roughly $125 million and its 1.6 million total credit card accounts and 1.2 million active accounts represent just 20 percent of its total $1.6 billion in 1994 sales.
Meier attributes Kohl's rather low percentage of credit card sales compared to total sales (Sear's, by comparison, sees shoppers whip out the plastic for 58.3 percent of total sales) to Kohl's not carrying furniture or other big-ticket items usually placed on charge cards. Also about 50 percent of Kohl's sales are with checks.
Despite not carrying big-ticket items and having an average transaction of only $35 to $45, Meier sees plenty of room for improvement down the road.
"We look forward to micro-managing the credit card business and using it as a marketing tool," she said in a telephone interview. "Of course increasing income was an objective, too, but we also see an opportunity to increase the average purchase size and to take over all the marketing aspects that the card business allows us to do."
Kohl's, Meier said, was previously preoccupied with growing sales, opening stores and on other projects like the Mainstreet acquisition back in the late Eighties.
This next year, concentration will be placed on integrating the credit card business, she said. "We have hired the people at the top and are currently hiring the sales people," Meier added, noting that Kohl's will run the business from its Menomonee Falls headquarters.
Meanwhile, J.C. Penney, with $20.4 billion in total sales in 1994, registered credit card income of $729 million. Almost half of all purchases are made on the Penney proprietary card. The department store chain has 17.6 million active accounts and 26 million total accounts. It had credit card receivables of $4.8 billion in 1994.
Federated Department Stores had income from its various proprietary cards of $320.3 million in 1994. Of its $8.3 billion in total sales, 47.1 percent came from its credit cards, down from 51.8 percent in 1993. Federated has $2.1 billion in credit card receivables, 26 million total credit card accounts, of which 9.8 million were active in 1994.
Still sitting outside Federated's purview is the credit card business of R.H. Macy, which Federated acquired last year. That operation is run by GE Capital Corp.
In May 1991, just months before it would file for Chapter 11 protection, Macy's sold its entire $1.4 billion credit card business for book value. It received no premium for the earning power of the business. Macy's and GE Capital inked a 15-year deal that will have GE Capital running the business through 2006.
At the time of the sale, Macy's was facing payment deadlines on notes it had outstanding and was desperate for cash. GE officials would not comment on the Macy transaction or its current operation. Asked whether Federated had any plans to take over the Macy's credit operation, a Federated spokeswoman said that under the 15-year contract with GE Capital, the current arrangement was continuing.
Sears, of course, is the giant of the credit card business, with a Sears credit card in 50 million of the 97 million households in the country, according to Arthur Martinez, chairman and chief executive. Martinez, in a recent industry talk, said Sears has a total of 77 million households in its database.
According to its annual report, Sears had a total receivables balance of $18.2 billion and revenues from its credit card business in 1994 of $3.6 billion. In 1994 alone, Sears opened up 5.7 million charge accounts, the report said.
Having such a mass of receivables provides Sears not only a direct income stream but also access to a "significant" inexpensive source of capital through the securitization of the receivables. Sears bundles million of dollars of the receivables, deemed high-quality assets by the investment community, and sells securities backed by the receivables. The cost of raising funds this way is well below the cost of borrowing from traditional lending channels.--Fairchild News Service

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