SAKS FIFTH AVENUE WILL SPIN OFF, ENDING AN AWKWARD UNION
Byline: David Moin / With contributions from Thomas J. Ryan
NEW YORK — Apparently, it wasn’t such a snug fit after all.
Saks Fifth Avenue, after just two challenging years under the wings of the Birmingham, Ala.-based Saks Inc., will become an independent company again, through a spinoff into a separate, publicly owned company expected to be completed Nov. 1.
The new company, to be called Saks Fifth Avenue Enterprises, will include the Saks Fifth Avenue luxury chain, the Saks catalog and e-commerce businesses, international and the Saks Off-5th outlets, all based at Saks’ New York offices.
Saks Inc., which was called Proffitt’s before it acquired Saks Fifth Avenue in September 1998, will be renamed later, to reflect its remaining traditional department store operations: Proffitt’s, McRae’s, Younkers, Parisian, Herberger’s, Carson Pirie Scott, Bergner’s, and Boston Store.
The spinoff will involve a tax-free distribution of 100 percent of SFA Enterprises common stock to Saks Inc. shareholders. Each Saks shareholder is expected to receive one share of SFA Enterprises stock for every three shares of Saks Inc. common stock owned. Fractional shares will be paid in cash. Each shareholder will retain their shares owned in Saks Inc. Management expects that the record date for the distribution will be in mid-October, with the transaction to be completed in November. Both companies are expected to trade on the New York Stock Exchange.
Brad Martin, chairman and chief executive officer of Saks Inc., and owner of between 3 and 4 percent of Saks Inc. shares, will become chairman of both corporations and chief executive officer of Saks Fifth Avenue Enterprises.
A new ceo of the department store group will be recruited. Christina Johnson will continue as president and ceo of the Saks Fifth Avenue stores, but will also hold the title of chief operating officer of Saks Fifth Avenue Enterprises. Philip Miller will continue as chairman of Saks Fifth Avenue stores.
Wall Street has always had a cool reaction to Proffitt’s takeover of Saks, questioning whether it would ever prove to be a good fit. The skepticism was reflected in the declining stock price, which is currently trading at about one-fourth of its peak value of two years ago.
The Saks Inc. maneuver is reminiscent of Limited Inc.’s past spinoffs, including Intimate Brands Inc., which were also designed to unlock “true values” of stocks by separating out the companies, and helping stock analysts to better evaluate the companies and hopefully help pump up the share price.
Leslie Wexner, chairman and ceo of Limited Inc., holds the same titles at Intimate Brands, while Martin becomes chairman of two retail companies, but ceo at just one: Saks Fifth Avenue Enterprises, where he is expected to devote his time to driving growth.
In an interview Wednesday, Martin downplayed the spinoff as a stock maneuver and said it wasn’t due to shareholder pressure. “The key reason is that the businesses each have different challenges and opportunities at this point,” he said. “We think that they must have separate, focused managements. They have separate operating groups, but they should not have one corporate structure.”
Martin said he will maintain pro rata ownership of both businesses.
He also said the spinoff does not entirely undo what was accomplished over the past two years, and defended his record of running Saks Inc., declaring, “Two years ago, we saw a fabulous opportunity to merge Proffitt’s with Saks and of course give Saks Fifth Avenue an opportunity to create a new foundation. What we accomplished is outstanding. We’ve come up with a solid strategy, dynamic management leadership, and results have improved dramatically. Now the [Saks] business has an opportunity for exciting growth, continuing to require significant capital investment.”
While Saks Fifth Avenue had a good year, the department store group didn’t.
Martin said consolidations and synergies created by the merger won’t be entirely wiped out, with “limited negative synergies” from the spinoff. Credit operations, for example, will be provided on contract basis from Saks Inc. to Saks Fifth Avenue Enterprises, as will logistic services and information technologies. Of the $65 million in cost savings realized through the merger, $55 million annually will continue to be enjoyed, he said, adding that the $10 million in new costs will come through having two listing fees on the stock exchange, and some duplicate services and personnel.
He denied the spinoff was motivated by Wall Street pressures, stating, “This was a unanimous decision of our board and recommended by management.” He said the merger was the right decision two years ago. And this is the right decision today.
“Saks has to reestablish itself in a leadership position, and expand more aggressively,” said retail consultant Walter Loeb. “Brad Martin has a three-prong strategy for growing Saks Fifth Avenue globally, online and through acquisitions. He wants to grow Saks fast and this reflects a renewed emphasis on luxury goods.”
“It is a belated recognition by Brad that Wall Street’s valuations of a glamourous Saks is quite different from that of prosaic department stores,” said Isaac Lagnado, president of Tactical Retail Solutions. “This in effect undoes the deal of two years which has never been very popular with investors, given the stock price has dropped to a quarter of its value. They tried it for size and now they’re going in for a second fitting.”
Martin said that each business will design equity incentive programs linked to the share price of each company to encourage management performance, and the spinoff, Martin noted, “will provide for a better allocation of free cash flow in the respective businesses. Saks Fifth Avenue operates 61 Saks Fifth Avenue stores, 46 Off-5th outlets, and Saks Direct, which includes its catalog operations and saksfifthavenue.com., expected to go live with e-commerce before the end of this month.
In his statement, Martin also listed the accomplishments over the past two years, citing improved credit card services, reduced capital investment in new stores by 20 percent by “reengineering the processes” of building and renovating stores, and reduced real estate costs for new locations.
Through June of this year, Saks total sales increased 9.6 percent and comparable store sales increased 7.9 percent, Martin said, adding, “We continue to see strong momentum in this business.
“Perhaps our greatest longer-term opportunity for SFA lies in further updating and energizing its merchandising and marketing profile” to modernize the image and broaden the customer base to younger, affluent shoppers.
He also said the chain would continue to strengthen “partnerships with our traditional core designers while adding new, modern designers to our assortments.” Saks Fifth Avenue is also re-launching its private label program this fall, as reported, spending $100 million through 2003 to renovate the Fifth Avenue flagship and in August 2000, will launch a new marketing campaign dubbed “Live A Little.” Key branches, in Beverly Hills, San Francisco, Chevy Chase and Chicago, are also being renovated.
In 2001, the first international store, a licensed operation, will open in Riyadh, Saudi Arabia. If successful, a handful of other Mideast Saks store could open, according to officials.
For 1999, Saks Enterprises would have generated revenues of $2.5 billion.
In 2000, the SFA business is expected to realize high-single-digit sales growth and better gross margins. Between 2000 and 2003, management anticipates a top-line growth rate for the Saks of 6 to 9 percent a year and an average EPS growth rate of about 15 percent annually.
The 251 department stores total $3.9 billion in revenues, with total assets of $2.8 billion. There’s been much consolidation through the divisions, with the near completion of merging McRae’s home offices into the Proffitt’s division and Herberger’s home offices into Carson Pirie Scott. Private label is also being greatly emphasized at the department stores. While most home and cosmetics areas have had mid-single digit gains, apparel businesses, representing about 60 percent of the group’s volume, have declined significantly.
The company sees over the next three years, top-line growth of 3 to 4 percent a year, modest gross-margin growth, and expense reductions.
While Martin will not have operating responsibilities at the department stores, other executives will play bigger roles, including Jim Coggin, president and chief administrative officer, who becomes vice chairman and chief administrative officer, retaining current responsibilities and overseeing the business separation process and the contract services that will be provided by the department store group to Saks.
The company expects to post a modest loss from operations, after an e-commerce loss of 2 cents a share, in the second quarter ending July 29, 2000. Saks Inc. earned 18 cents a share in the second quarter of 1999. The shortfall from the company’s original target will result from a below-plan profit contribution from the department store group, due to lower-than-planned sales and gross margins. The company cited ‘a continuing industry-wide softness in the apparel businesses and higher-than-planned markdowns to clear excess inventories.”
Management expects continuing weakness in sales and gross margins in the department store group in the third quarter ending Oct. 28, 2000.
Saks will take certain charges in the third and fourth quarters of 2000 related to the spinoff and will have separation costs.
Analyst speculated that Saks Inc. may be embarrassed to completely reverse its path after acquiring Saks Holdings two years ago, but they said the new move makes sense, particularly in conveying a clearer investment story to Wall Street.
The management bites the bullet and eats crow but is looking for ways to increase shareholder value,” said Thomas H. Tashjian, at Banc of America Securities.
The move, according to Tasjian, will let Saks Fifth Avenue be positioned as a growth vehicle. On the other side, he called the traditional department store group the “cash cow that will focus on margin improvement and paying down debt.
“You got two different strategies entirely playing to different strengths. It really doesn’t blend, said Tashjian.
The spinoff replicates recent similar successful spinoffs not only by The Limited Inc. of IBI, Abercrombie & Fitch and Limited Too, but spinoffs as well of specialty store concepts in the late Eighties and early Nineties at Melville and May Department Stores.
In particular, the spinoff of Saks Fifth Avenue could capitalize on continued strength in luxury issues. Share of Neiman Marcus have spiked up in the latest month and closed Wednesday at 31 3/4, close to its 52-week high of 33 3/4 and far above its 12-month low of 19 3/8. Tiffany has been a Wall Street favorite for the last two years, closing Wednesday at 74 1/4.
Analysts also said the luxury area may prove to be immune to the expected downturn in consumer spending in the second half.
“The higher end is now an attractive place to be,” said Rosemary Sisson, a debt analyst at Dillon Read. “If we’re talking about a soft landing rather than a hard one, the high end will continue to see better sales. The customer at those places are not going to be hurt by $2 gas prices.”
Martin said that after the spinoff, department stores will have $1.2 billion of equity and $1.2 billion in debt and that Saks will have $1.2 billion in equity and $650 million in debt — $350 million less than when the company was acquired two years ago.
In the first quarter, Saks Inc.s income before special items slid 18.6 percent as weakness at its traditional department stores offset a better performance at Saks Fifth Avenue. Earnings before nonrecurring items slipped to $32.4 million, or 23 cents a share, from $39.8 million, or 27 cents, a year ago. After special items, earnings reached $33.9 million, or 24 cents, up from $24.5 million, or 17 cents. The latest year was boosted by a $1.5 million gain on the disposal of two properties. The year-ago period was dragged down by aftertax charges of $15.4 million related to merger and integration costs and an extraordinary loss on early extinguishment of debt.
Sales increased 2.5 percent to $1.5 billion, with same-store sales ahead 1.4 percent.
On Wednesday, shares of Saks rose 3/4 to 12 9/16, although the news came out after the market’s close. The stock remains well off its 52-week high of 27 1/8 reached in August 1999 and still close to its 12-month low of 10.