PENNEY’S SEEKS NEW GROWTH AVENUE WITH ECKERD BUY

Byline: Diane E. Picard / Rusty Williamson

NEW YORK — The deal between J.C. Penney Co. for the acquisition of the Eckerd Corp. drug store business is a graphic illustration of the difficulty Penney’s might have in expanding its department store business in an aggressive manner.
As Thomas H. Tashjian, retailing analyst at Montgomery Securities, put it, the Eckerd deal gives Penney’s the opportunity to put its cash flow to a productive purpose. Tashjian noted that Penney’s department store business has grown to a point where dramatic gains will become tougher to achieve, but its drug store division still has room for significant increases.
The deal, announced Sunday, is for $3.3 billion.
“Penney could either sell its own [drug store] business, or take advantage of the consolidation and grow the business,” observed Steven Kernkraut, retailing analyst at Bear Stearns.
With Eckerd, Penney’s drug store operations would generate about one-third of overall sales and be a “significant contributor to the company’s earnings,” officials of the Plano, Tex.-based chain said in a statement Sunday.
The deal, which includes Penney’s assumption of $760 million of Eckerd debt, should help generate fiscal 1997 drugstore sales at J.C. Penney of about $10 billion from a total of 2,800 units across much of the U.S.
Eckerd would be the latest drugstore chain Penney’s has picked up since 1995, joining Fay’s and Kerr. It is also in the process of purchasing the 200-unit Rite-Aid chain.
Shares of Penney’s rose 2 5/8 to 53 3/4 Tuesday on the New York Stock Exchange, while shares of Eckerd gained 23/32 to 34.
Reacting to the proposed merger, Moody’s Investor Service and Standard & Poor’s placed Penney’s debt rating on review Monday for a possible downgrade, while both put Eckerd’s ratings on review for upgrade.
S&P believes the merger will hurt Penney’s credit profile, while considerably improving Eckerd’s creditworthiness.
Moody’s said its review will focus on the impact of the proposed merger on Penney’s debt protection measures and ongoing financial flexibility.
Moody’s review will also take into account the outlook for Penney’s department store business, whose recent performance has been weak, as well as the company’s further strategic direction, including the likelihood of further acquisitions.
The ratings affected at Penney are its senior unsecured debt rating, its corporate credit rating and its bank loan rating. Eckerd’s ratings are for corporate credit and commercial paper.
Penney’s plans to merge its own Thrift Drugs chain under the Eckerd banner through a cash tender offer at $35 a share followed by a second-step merger in which Eckerd shareholders will receive 0.66 of a share of Penney’s stock for each remaining share not purchased in the tender offer.
Penney’s has also authorized a stock repurchase program of up to 15 million of its shares, which will occur prior to the issuance of some 24 million Penney shares in the merger.
It is expected that the acquisition and the share repurchase will be completed in early 1997.
Just how strategically beneficial could the Eckerd deal be for Penney? For one thing, Thrift stores house Penney catalog desks, a non-drug volume generator that could become a feature at Eckerd’s.
Kernkraut noted that the catalog segment accounts for “about 10 percent of Thrift’s business.”
The purchase of Eckerd will increase Penney’s debt levels, but it will also make the company the third-largest drug chain in the country, and it could potentially generate substantial cost savings, analysts noted.
For the six months ended July 29, Penney’s earnings sank 13.6 percent to $235 million, as sales inched ahead 2.8 percent to $8.9 million.

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