The Bills Are Getting Paid, but Investors Are Still Wary of Macy’s

NEW YORK —  Two weeks ago, R.H. Macy & Co. completed a face lift that brightened the limestone facade and put new awnings over the windows of its flagship store here. Soon, potted flowering pear trees will dot the sidewalks around the 88-year-old landmark building.

The months of restoration have made the Manhattan store “once again the pride of Herald Square,” the company boasted.

If only it was that easy for Macy’s to spruce up its image among investors.

The venerable retailer is having trouble convincing Wall Street that it is on sound financial footing, despite evidence that the company’s crushing debt load--the result of a leveraged buyout and acquisitions of two department store chains--has imposed a new sense of discipline on management. Suppliers report prompt payments, and shoppers report better service.

In part, Macy’s suffers from the taint of the industry as a whole as some of the best-known names in retailing have been forced into bankruptcy court. Wall Street also worries that the competitiveness of the retail environment will affect Macy’s bottom line. Macy’s itself has alerted its debt holders that the results for its latest quarter, to be reported this week, will be disappointing.

“In the past year, there has been a lot of concern about Macy’s,” said Joseph J. Carideo, a retailing specialist and partner of Thorndike Deland Associates, an executive-recruiting firm in New York. “Its leveraged buyout is not looking as glowing as it did before.”

Macy’s losses ballooned to $331.1 million for the quarter ended Oct. 28; they were $19 million for the corresponding 1988 quarter. The company must make hefty loan payments. It has $5.4 billion in debt, most from the 1986 leveraged buyout in which senior management took the company private, and the 1988 acquisition of the I. Magnin and Bullock’s department-store chains. The company said that it is confident that it is taking the right steps--reducing inventory levels, consolidating some operations, improving customer service and refocusing its marketing among them--to make itself more profitable.

The retail industry was already sluggish when Campeau Corp., which owns Bloomingdale’s and Abraham & Straus, filed for Chapter 11 bankruptcy in January and when the Hooker Corp.’s B. Altman department-store chain was liquidated late last year.

“Macy’s crossed the street with the light and got sideswiped by Campeau,” said Emanuel Weintraub, president of Emanuel Weintraub Associates Inc., a management-consulting firm based in Ft. Lee, N.J.

The turmoil erupted at the worst possible time of year for retailers. Campeau’s woes sparked deep merchandise markdowns during the all-important Christmas season, boosting sales but at the expense of profits.

By mid-February, Macy’s had sent a letter to debt-holders warning them that the aggressive price promotions for the holiday season had hurt profits. Macy’s Chairman Edward S. Finkelstein told them that sales had increased 9.5% in December, or 7.7% for those stores open longer than a year.

“As expected,” Finkelstein wrote, “the promotional activity and substantial markdowns taken to meet competitive conditions and our inventory goals for the end of the season will have a significant adverse effect on margins and the bottom line for the quarter ended Jan. 27.” Macy’s executives declined requests for interviews for this article.

Shortly after the letter went out, Moody’s Investors Service announced that it was considering downgrading Macy’s bond rating. The financial community suddenly began to scrutinize Macy’s. “After the Campeau bankruptcy, a lot of people are asking, ‘Why is Macy’s any different?’ ” said Kurt Barnard, publisher of Barnard’s Retail Marketing Report.

Macy’s bristles at the suggestion that it is in any danger of failing to make interest payments to bondholders. In response to the Moody’s announcement, the company fired off a press release declaring, “Macy’s financial structure is sound, with ample liquidity to meet the short-term as well as the long-term needs of the business.” The company noted that it recently met with its principal bank lenders and that “they are comfortable with Macy’s’ financial position.”

But Macy’s protests did not stop a price drop in its bonds. Its 14.5% senior subordinated debentures, due in 2001, had traded for about $890 per $1,000 in face value in January. After the Moody’s announcement, traders lowered the price they would pay to $620 per $1,000.

Although most analysts praise Macy’s retail performance and say they believe that its financial performance will improve soon, they also underscore the fact that as an investment, it presents some risks. “They have strong franchises and merchandising skills, but they don’t have the financial flexibility to withstand many bumps in the road,” said Joanne Legomsky, a retail analyst at Standard & Poor’s.

In the past, many analysts had touted the Macy’s leveraged buyout as one that worked. When Macy’s took itself private, Finkelstein said the deal would remove the threat of a hostile takeover, allowing the company to plan for the long run without the need to answer to Wall Street’s short-term interest. Further, Finkelstein said, the buyout would help Macy’s retain its best executives because about 400 of them would have a stake in the company.

Still, it cost Macy’s $3.7 billion to buy the company from its stockholders. It borrowed most of that amount, using company assets as collateral. Then it paid $1.1 billion to acquire Bullock’s and I. Magnin from Federated Department Stores, after losing out to Campeau Corp. in the battle to take over the entire chain. Macy’s has not posted a profit since it went private.

Macy’s counted on cost savings related to its two acquisitions to bolster its profits, but retail analysts contend that Macy’s has had trouble adding the two chains. The company denies that.

“They are still suffering from the consolidation of divisions,” said Robert M. Zimmerman, a partner and retail consultant of the Coopers & Lybrand accounting firm. “I hear their internal house is not in order.”

Legomsky of Standard & Poor’s said that it has taken Macy’s longer than anticipated to achieve economies of scale but that the company should now begin to realize some savings.

In the meantime, Macy’s has told its debt holders that inventories will remain at conservative levels this year so that its stores will not have to resort to markdowns to move merchandise. Still, some retail consultants say it may not be so easy for Macy’s to get out of the promotional mode.

If competitors continue to cut prices, they note, Macy’s may be forced to follow suit to maintain its market share. Arthur H. Warshaw, editor of the Apparel Strategist, an industry newsletter, says that for January, department-store sales rose 7.8% while inventories rose 12%. “That means a lot of liquidation will have to go on,” Warshaw said.

In addition, consumers have been conditioned to wait for sales. Said Carol Farmer, a retail consultant in Boca Raton, Fla.: “The question is: Can retailers stimulate demand without price cuts?”

Like other retailers, Macy’s has sought to improve customer service to attract more shoppers. It has gradually been switching its sales associates to a commission payment system to motivate its sales staffs to provide better service.

One danger of heavy borrowing is that too much of executives’ attention can be taken up by financial concerns. Macy’s apparently has managed to avoid this pitfall. Retail consultants and other industry experts give the company high marks for its recent change in merchandising strategy.

“There’s been a change at Macy’s in the last six months,” said Bruce H. Ross, president of JH Collectibles, a women’s apparel manufacturer. “In the past, they would pile the merchandise high, and if it didn’t sell, they would mark it down.” Now, however, Macy’s is being more selective about what it stocks, Ross said. Although JH Collectibles garments are in fewer Macy’s stores, Ross said, his sales in Macy’s stores have increased.

Macy’s also has been shifting its emphasis in its private-label goods, from trendy fashion items to everyday basics. Private-label goods are manufactured especially for a retailer. They tend to be more profitable because there is no middleman and because they are often manufactured in Asia, where labor is cheaper. But it also takes time to order, and the retailer must take all of the risk in selling it. Macy’s is concentrating its private-label offerings in items such as men’s white shirts and women’s panty hose, according to Pamela Stubing, a vice president at Moody’s. Because there is a constant demand for items such as these, markdowns are less likely.

Suppliers say that Macy’s is paying its bills. Although the company has a reputation for demanding special concessions from suppliers, many retail experts note that Macy’s enjoys a good relationship with them. Gail Silberman, a high-yield-bond analyst at Jefferies & Co., said that those relationships are crucial to Macy’s survival. “They need the confidence of suppliers going forward because if suppliers panic and all ask for payment at once, that can bring down a retailer quickly.”