By and  on November 22, 2004

NEW YORK — Although news of the $11 billion merger between Kmart Holding Corp. and Sears, Roebuck & Co. created a market rally, it was not enough to rebuild losses the sector made early last week.

As a result, the WWD Composite Stock Index tumbled 2.2 percent to 1,169.18 on Friday from 1,195.42 the previous week, while the broader S&P 500 showed a week-over-week gain of 0.4 percent to 1,170.34.

Kmart’s shares dropped 0.9 percent during the period to $104.99, while Sears skyrocketed 15.1 percent to $52.95.

On Friday, as Wall Street digested news of the merger, one question quickly emerged from analyst reports: Can two beleaguered retailers merge to make one viable player?

While it may be premature for a definitive answer to that question, analysts said the deal had its merits. In a research note from Sanford C. Bernstein & Co., the broadlines analysts described the merger as having a “strong strategic rationale.”

“Sears is currently trapped in a capital-consuming, but obsolete, on-mall real estate footprint,” they wrote. “Kmart real estate helps level the playing field with other hardline players. From the Kmart point of view, access to Sears’ brands provides its stores with a competitive advantage, differentiation, which it has sorely lacked in the face of strong discount competitors.”

The Bernstein analysts examined where Kmart and Sears stores overlap, as well as the demographics they serve. In their proprietary research, the analysts found about half of the Kmart store base, roughly 750 units, were within 5 miles of a Sears store, and more than 500 Kmarts were located within 3 miles.

“In order to limit sales cannibalization, we believe it is reasonable to assume that management of the combined company would initially focus on conversions of Kmart stores to off-mall Sears that are more than 5 miles from an existing mall-based Sears,” the analysts wrote. “Therefore, we can consider the number of Kmart stores outside of these proximities to be theoretical limits on the number of conversions in the early phase of the merger.”

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