Sears Holdings Corp. still has plenty of work on its hands, even if it doesn’t have as much inventory.

This story first appeared in the August 29, 2008 issue of WWD. Subscribe Today.

The Hoffman Estates, Ill.-based firm’s second-quarter earnings dropped 62.4 percent, even with a big accounting boost, and half a billion dollars in inventory was cleared out, lessening the need to mark down goods in the second half.

Earnings at the corporate parent of both Sears and Kmart dropped to $65 million, or 50 cents a diluted share, from $173 million, or $1.15, a year ago. The most recent quarter included a $37 million aftertax benefit stemming from the overturning of a jury verdict related to the redemption of certain Sears bonds in 2004.

Sales dipped 4.1 percent to $11.76 billion from $12.26 billion, with comparable-store sales down 6.7 percent at domestic Sears stores and 5.6 percent at Kmart.

Despite the drop-off in its financial results, Sears managed to take part in a broader retail rally on Wall Street and saw its stock rise 4.2 percent to $90.62 Thursday.

“While it was a difficult quarter, we were successful in reducing our domestic inventory levels by $500 million, which should lead to lower markdowns and favorably impact our gross margin rates in the second half,” said W. Bruce Johnson, interim chief executive officer and president.

At the end of the quarter, U.S. inventories totaled $8.9 billion, down from $9.4 billion a year earlier. Adjusted earnings before interest, taxes, depreciation and amortization for the U.S. business fell 49.7 percent to $246 million from $489 million — as a percentage of sales, that’s a drop to 2.4 percent from 4.5 percent.

Ana Lai, a credit analyst at Standard & Poor’s, said the second-quarter results were in line with expectations for a poor showing from the company overall this year.

“It didn’t look disastrous,” said Lai. “We continue to think that they will have a difficult time executing in this environment that’s highly competitive.”

She described the apparel business as “very weak.”

“They get so much competition on that category that it’s very hard for them to improve it,” said the analyst.

The firm is controlled by chairman and hedge fund manager Edward Lampert, who bought Kmart out of bankruptcy and later put the chain together with Sears. In January, Lampert shifted the firm’s corporate model to that of a holding company, which owns five types of operations, including brand and real estate businesses.

What changes the switch to that model will ultimately bring about remains to be seen.

“In a world that has Wal-Mart, Target and Costco, there’s no place for Sears,” said Love Goel, chairman and ceo of Minnetonka, Minn.-based Growth Ventures Group, a private equity firm that buys retail companies.

“Sears has outlived its use for the American consumer,” said Goel, who was a consultant to Sears in the Nineties. “That sounds pretty harsh, but that doesn’t mean I don’t love Sears or think the Sears brand has legs. It just can’t be this massive big box, if you will. That cost structure is unjustified.”

Goel said the clock is running on Lampert.

“At the end of two years, either this is going to work or it’s going to be a disaster and it’s going to get sold off,” he said.

For the first half, the company’s earnings fell to $9 million, or 7 cents a diluted share, from $396 million, or $2.60, a year ago. Sales fell 4.9 percent to $22.83 billion from $24 billion.

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