Retail Bottomfishers Have Better Options Than Saks

Last weekend’s issue of Barron’s highlighted a money manager’s bullish stance on shares of luxury retailer Saks (SKS). The stock is up more than 10% since then, and now fetches $4.50 per share. The manager in question believes Saks has normalized earnings potential of 50 to 60 cents per share, which he thinks will translate into a stock price of between $5 and $7 per share in more “normal” times.

I took a look myself and quite frankly I think retail bargain hunters have better options. Here are a few reasons why:

1) Normalized earnings of 50-60 cents per share seems high

Saks earned $0.42 in 2007, which most people would agree was the peak in the retail cycle. Therefore, assuming Saks will earn between 20% and 45% more than that during “normal” times is not a bet I would feel confident making.

2) In the red even during Q4

I am relying on analyst estimates here, but not only did Saks lose money in the second and third quarters of this year (before retail really started to get clobbered after the market collapse and subsequent increase in unemployment), but they are projected to lose money in the fourth quarter too. Good retailers tend to make money all four quarters even though the fourth quarter is by far the strongest. Historically, sub-par retailers have lost a bit or broken even during the first three quarters of the year and then clean up handily during the holiday season (bookstores and toy retailers fall into this category a lot). Even in a bad economy, if you are losing money in the fourth quarter, that is a sign of poor management or a severely tarnished market position (the former is more likely in this case).

3) Unimpressive gross margins

A premium store like Saks should have very impressive profit margins due to the luxury items they sell. In both 2006 and 2007 Saks posted gross margins of only 39%, and that was in a very strong retail cycle. For comparison, JC Penney (JCP) also had a 39% gross margin for both of those years. This signals some deficiencies in merchandising at Saks, as they should have more pricing power (less of a need to discount) than a lower tier department store.

4) There are competitors that are doing better and also have cheap stocks

I picked Nordstrom (JWN) here as an example. Their market sits between JC Penney and Saks, but they are viewed as a little higher end, approaching if not matching Saks. Nordstrom has made money every quarter this year and will continue that trend in the fourth quarter. Their stock price is similarly depressed, as are most retailers, so you are getting both value and what appears to be a better run company.

All in all I think there are better bargains than Saks on the retail racks right now.

Full Disclosure: No positions in any of the companies mentioned, but positions may change at any time