Gene Marcial's Stock Picks June 5, 2009, 8:03PM EST

Marcial: Is Saks a Takeover Target?

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BW's Gene Marcial

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"We are unsure whether Saks would be interested in selling, and think a global credit crunch has reduced near-term potential for any Baugur-Saks deal," says analyst Jason Asaeda of Standard & Poor's. (S&P, like BusinessWeek, is a unit of the McGraw-Hill Companies (MHP)). He rates Saks a hold, in part because of the soft sales environment. He thinks investor concerns over an uncertain outlook for consumer spending will pressure Saks' shares over the near term.

However, he is encouraged by Saks' focus on managing its cash and expenses, including targeting a 20% decline in inventory receipts and reducing its capital spending by more than 50% from its fiscal 2009 levels.

Proxy Fight

Recently, Saks has had to deal with interest from some of its shareholders. Activist investor Peter Schoenfeld, who heads Schoenfeld Asset Management, owner of a 1.5% stake in Saks, has launched a proxy fight. At the company's annual meeting in early June, shareholders approved Schoenfeld's proposal to eliminate a staggered election of board members. So if Chairman and CEO Stephen Sadove and the current board agree to implement the proposal, directors henceforth will stand for re-election every year, rather than for staggered periods of two- to five-year terms.

Saks, which offers high-end apparel, shoes, accessories, and cosmetics from such brand fashion houses as Armani, Channel, Gucci, and Prada, got punched by the recession. Management concedes that the outlook for next year isn't looking any brighter.

Operating 53 Saks Fifth Ave stores and 51 OFF FIFTH AVE. units that sell off-price luxury goods, Saks lost $5.1 million in the first quarter ended May 2, vs. a profit of $17.3 million a year earlier. Revenues during the quarter tumbled 27%. In fiscal 2009 ended Jan. 20, Saks posted a net loss of $154.94 million, or a loss of 70¢ a share, vs. net profits of $47.47 million in fiscal 2008, or 44¢ a share.

Little wonder only three of 13 Wall Street analysts who track the company rate the stock a buy. Three other analysts recommend selling the stock and six rate it a hold.

One of the staunch bulls is Charles Grom of JPMorgan Securities, who rates the stock overweight, with a 12-month price target of 6. (Saks was a JPMorgan client.) Even with a projected loss this year, Grom says Saks remains poised to "rise significantly as signs of restored stability continue to emerge." Despite the pullback in discretionary spending and a promotional retail environment that is weighing on sales and margins, "we think the stock has been unfairly hit," he says.

Loyal Customer Base

Analyst Robert Drbul of Barclays Capital (BCS) has a higher price target of 8, although he rates Saks neutral based on the company's better-than-expected results in the recent quarter which, he says, showed "strong expense control and better aligned inventories." So Drbul revised his fiscal 2009 estimates to a loss of 80¢ a share from an earlier loss forecast of $1.05, and his 2010 number to a loss of 55¢ from a loss 70¢. In 2008, Saks posted a loss of 82¢ a share.

While demand for luxury goods remains soft, says Drbul, Saks has responded by effectively cutting expenses and tightly managing inventories, which have fallen 7.3%, to $779.5 million in the first quarter. He argues that Saks continues to maintain a "very strong position and loyal customer base within the high-end department store segment."

Also noteworthy, Saks' balance sheet and cash flow profile remain stable, says Drbul. The company has about $10.3 million cash on hand and about $135 million of direct outstanding borrowings on its $600 million revolving credit facility.

While the retailing environment remains nasty, things clearly aren't quite that gloomy at Saks. And while the stock is consigned to the clearance-sales bin, resolute value investors could rack up tidy profits by snapping up the marked-down shares.

Unless otherwise noted, neither the sources cited in Gene Marcial's Stock Picks nor their firms hold positions in the stocks under discussion. Similarly, they have no investment banking or other financial relationships with them.

Marcial writes the Inside Wall Street column for BusinessWeek. In 2008, FT Press published the book Gene Marcial's 7 Commandments of Stock Investing.