Turnaround Strategy

Founded in 1893, Sears Roebuck grew over the course of the next century to become the world’s largest retailer. Indeed, by 1962—the year that Sam Walton opened his first Walmart discount store—approximately one out of every 200 U.S. workers received a Sears paycheck.1 Even after being surpassed by Walmart as the largest retailer in 1989,2 Sears continued to hold a spot on the Fortune 500 list and was still one of the country’s largest retailers after its merger with Kmart in 2005.3 However, less than 10 years after the merger, the new Sears Holdings Corporation (SHC) found itself in crisis. With intense competition from retail giants such as Walmart and Target (and new competitors such as Amazon and Costco), Sears CEO Edward Lampert faced some serious questions. Eight years into the merger, Sears had closed almost one-third of its stores and had seen annual revenues drop by over 30 percent. Even more concerning, Sears’ operating profits had dropped more than 140 percent (see Exhibit 1; also see Exhibits 2 and 3 for comparative data on Walmart and Target, respectively). Not only had operating profits

EXHIBIT 1 Sears Holdings Corporation Financials ($ Millions)
Fiscal Year 2013 2012 2011 2010 2009 2008 2007 2006 2005
Income Statement Items
Revenues $36,188 $39,854 $41,567 $42,664 $43,360 $46,770 $50,703 $53,016 $49,455
Cost of Sales 27,433 29,340 30,966 31,000 31,374 34,118 36,638 37,824 35,743
S&A Expenses 9,384 10,660 10,664 10,425 10,499 11,060 11,468 11,574 10,892
Depreciation & Amortization 732 830 853 869 894 981 1,049 1,143 942
Operating Profit (927) (838) (1,501) 437 667 302 1,586 2,529 2,123
Interest Expense (254) (267) (289) (293) (248) (272) (286) 335 328
Income Taxes (144) (44) (1,369) (27) (111) (85) (550) 933 715
Net Income $(1,365) $(930) $(3,140) $133 $235 $53 $826 $1,492 $857
Balance Sheet Items
Cash and Cash Equivalents $1,028 $609 $747 $1,359 $1,689 $1,173 $1,622 $3,839 $4,440
Merchandise Inventories 7,034 7,558 8,407 8,951 8,705 8,795 9,963 9,896 9,068
Property & Equipment, Net 5,394 6,053 6,577 7,102 7,709 8,091 8,863 9,113 9,823
Total Assets 18,261 19,340 21,381 24,360 24,808 25,342 27,397 29,906 30,573
Current Liabilities 8,185 8,414 9,212 8,643 8,786 8,512 9,562 9,912 10,350
Total Liabilities 16,078 16,168 17,040 15,746 15,373 15,643 16,730 17,200 18,962
Total Equity 2,183 3,172 4,341 8,614 9,435 9,699 10,667 12,706 11,611
Source: Sears Holdings Corporation, Annual Reports, 2006–2014.
1

EXHIBIT 2 Walmart Financials ($ Millions)
Fiscal Year 2013 2012 2011 2010 2009 2008 2007 2006 2005
Income Statement Items
Revenues $476,294 $468,651 $446,509 $421,849 $408,085 $404,374 $377,023 $348,992 $312,101
Cost of Sales 358,069 352,297 334,993 314,946 304,106 304,056 284,137 264,152 237,649
Operating, SG&A Expenses 91,353 88,629 85,025 81,361 79,977 77,520 70,934 64,001 55,739
Operating Profit 26,872 27,725 26,491 25,542 24,002 22,798 21,952 20,497 18,713
Interest Expense 2,216 2,063 2,159 2,004 1,884 1,900 1,794 1,529 1,178
Income Taxes 8,105 7,958 7,924 7,579 7,156 7,145 6,889 6,365 5,803
Net Income $16,022 $16,999 $15,699 $16,389 $14,370 $13,400 $12,731 $11,284 $11,231
Balance Sheet Items
Cash and Cash Equivalents $7,281 $7,781 $6,550 $7,395 $7,907 $7,275 $5,569 $7,767 $6,193
Inventories 44,858 43,803 40,714 36,437 33,160 34,511 35,180 33,685 31,910
Property & Equipment, Net 115,364 113,929 109,603 105,098 99,544 92,856 93,875 85,390 74,600
Total Assets 204,751 203,105 193,406 180,782 170,706 163,429 163,514 151,587 138,187
Current Liabilities 69,345 71,818 62,300 58,603 55,561 55,390 58,454 52,148 48,825
Total Liabilities 123,412 121,367 117,645 109,535 97,777 96,350 98,906 90,014 85,016
Total Equity 81,339 81,738 75,761 71,247 72,929 67,079 64,608 61,573 53,171
Source: Walmart Stores, Inc., Annual Reports, 2006–2014.

EXHIBIT 3 Target Financials ($ Millions)
Fiscal Year 2013 2012 2011 2010 2009 2008 2007 2006 2005
Income Statement Items
Revenues $72,596 $73,301 $69,865 $67,390 $65,357 $64,948 $63,367 $59,490 $52,620
Cost of Sales 51,160 50,568 47,860 45,725 44,062 44,157 42,929 40,366 34,927
SG&A Expenses 15,375 14,914 14,106 13,469 13,078 12,954 12,670 11,852 11,185
Depreciation & Amortization 2,223 2,142 2,131 2,084 2,023 1,826 1,659 1,496 1,409
Operating Profit 4,229 5,371 5,322 5,252 4,673 4,402 5,272 5,069 4,323
Interest Expense 1,126 762 866 757 801 866 647 572 463
Income Taxes 1,132 1,610 1,527 1,575 1,384 1,322 1,776 1,710 1,452
Net Income $1,971 $2,999 $2,929 $2,920 $2,488 $2,214 $2,849 $2,787 $2,408
Balance Sheet Items
Cash and Cash Equivalents $695 $784 $794 $1,712 $2,200 $864 $2,450 $813 $1,648
Inventory 8,766 7,903 7,918 596 7,179 6,705 6,780 6,254 5,838
Property & Equipment, Net 31,738 30,653 29,149 25,493 25,280 25,756 24,095 21,431 19,038
Total Assets 44,553 48,163 46,630 43,705 44,533 44,106 44,560 37,349 34,995
Current Liabilities 12,777 14,031 14,287 10,070 11,327 10,512 11,782 11,117 9,588
Total Liabilities 28,322 31,605 30,809 28,218 29,186 30,394 29,253 21,716 20,790
Total Equity 16,231 16,558 15,821 15,487 15,347 13,712 15,307 15,633 14,205
Source: Target Corporation, Annual Reports, 2006–2014.

declined sharply, but Sears’ return on equity and return on assets had plummeted as well (see Exhibits 4 and 5). In a January 2014 blog post, Lampert said that the poor financial performance did not clearly reflect the company’s true success. In particular, Lampert cited customer engagement growth in Sears’ Shop Your Way program, a digital loyalty program that not only gave customers opportunities to save on Sear’s products, but also served as a social network that allowed shoppers to connect and share their shopping experiences.4 Despite Lampert’s optimism, investors appeared to share analysts’ concerns about Sears’ future: since 2010, SHC market capitalization has fallen nearly 75 percent (see Exhibit 6). As Brian Sozzi of Bellus Capital Advisors put it, “Sears is in crises. Sears is not investing in their name brands so they can keep the customer coming back to the store for them. I view Sears in a slow death spiral.”5

15%

10%

5%

0%

–5%

–10%

SHC
Walmart Target

–15%

–20%

EXHIBIT 4 Return on Assets

Year

Source: Sears Holdings Corporation, Walmart Stores, Inc., and Target Corporation, Annual Reports, 2006–2014.

40%

20%

0%

–20%

–40%

SHC
Walmart Target

–60%

–80%

EXHIBIT 5 Return on Equity

Year

Source: Sears Holdings Corporation, Walmart Stores, Inc., and Target Corporation, Annual Reports, 2006–2014.

$30,000

$25,000

$20,000

$15,000

$10,000

$5,000

$–

Month

EXHIBIT 6 Sears Holdings Corporation Market Capitalization
Source: Yahoo! Finance.

Sears, Roebuck & Company
In 1893, Richard Sears and Alvah Roebuck founded Sears, Roebuck & Company as a mail order company. In its early years, Sears offered goods that would appeal to the large rural population in America. This catalog targeted the farmers living in rural America where traditional general stores marked up staple goods such as flour by as much as 100 percent. Recognizing that these farmers would respond to goods priced at wholesale, and taking advantage of economies of scale and a more expansive postal system, Sears labeled itself as the “Cheapest Supply House on Earth” on the catalogs it sent out to farmers in rural America. By 1895, the catalog was 532 pages long and contained everything from saddles to musical instruments. By 1900, Sears, Roebuck & Company was nearing one million dollars in annual sales. By the end of 1925, Sears had expanded its exclusive mail-order company to include eight retail stores. Over the next 15 years, Sears opened 600 stores, and soon their retail sales contributed more than mail-order sales to their $180 million in annual revenues.
Aboard a train in 1930, an insurance broker named Carl Odell proposed the idea of selling car insurance by direct mail to the president and CEO of Sears, Robert Wood.6 At the time, car insurance companies sold policies primarily through individual agents who received a commission for each policy they sold. Selling policies via direct mail would eliminate the need for individual agents and give Sears a substantial cost advantage. In 1931, Sears began Allstate Insurance Company as a wholly owned subsidiary in order to provide a low-cost insurance alternative. Allstate would advertise policies in Sears’ catalog, and interested customers would mail their information to Sears in order to set up an individual policy. In its second year of operation, Allstate earned $93,000 in profit and had 22,000 active policies. Building on the success of direct mail, Sears began placing Allstate sales offices in Sears stores in 1933. Over the next several decades, Sears continued to expand its product and service offerings. In 1956, Sears began offering nationwide appliance servicing. In 1967, Sears introduced the DieHard battery brand and later opened Sears Automotive Centers. During the early 1980s, Sears formed Dean Witter Financial Services Group and, by 1985, introduced a new credit card: the Discover Card. (See Exhibit 7 for a list of key events in Sears history). By the late 1990s, Sears’ revenues exceeded $41 billion annually, and the company maintained a profit margin of nearly 6 percent.

Key Events in Sears History

1986 R.W. Sears Watch Company founded
1889 R.W. Sears Watch Co. sold for $72,000 profit
1892 A.C. Roebuck, Inc. formed
1893 Name changed to Sears, Roebuck & Co.

1906 First IPO of Sears stock
1911 Product testing labs open at Sears
1925 Sears opens first retail stores
1927 Sears introduces Kenmore Appliances
1930 Sears opens General Credit Office
1931 Sears launches Allstate Insurance Company
1945 Sears’ sales exceed $1 billion
1946 Sears begins building large stores in suburbs
1953 Sears launches its own credit card
1956 Sears guarantees nationwide appliance service
1967 Sears introduces DieHard batteries
1973 Sears opens Sears Tower HQ, the world’s tallest building
1975 Sears becomes the exclusive supplier of Pong
1985 Sears introduces the Discover Card
2000 Sears launches Sears Gold MasterCard
2002 Sears acquires Lands’ End
2004 Kmart announces intention to buy Sears for $11.5 billion
Source: www.searsarchives.com.

Sears Strategy into the Twenty-First Century
By the end of the twentieth century, Sears had grown to over 3,000 stores in North America, and it had 200 locations in Canada. Among these were traditional “full-line” stores that offered both soft goods (e.g., jewelry, apparel, cosmetics, etc.) and hard goods (e.g., home appliances and electron- ics) and specialty stores such as hardware and automotive stores. In addition to its physical loca- tions, Sears offered a credit service, “Sears Card,” that boasted over 60 million customers (Sears had divested the Discover Card in 1993), and it maintained a 14,000- technician network for product repair services.7 Despite the variety of Sears’ offerings, the company’s profit margins reached a peak in the late 1990s and then began to drop precipitously after 2000. At the same time, Walmart and Target continued to maintain or even improve their operating profits into the twenty-first century (see Exhibit 8).

10%

8%

6%

4%

2%

0%

–2%

Walmart Target Sears

–4%

–6%
Year
EXHIBIT 8 Retail Stores Operating Profit Margin
Source: Walmart Stores, Inc., Sears Holdings Corporation, and Target Corporation, Annual Reports, 1995–2014.

In order to combat the drop in profitability, Sears launched a “Sears Gold MasterCard” in 2000 in an effort to continue to grow its credit line of business. Despite the fact that Sears’ credit business became the eighth largest in the United States, the combination of both retail and credit businesses caused investors to have difficulty accurately valuing the company.8 Sears would later sell off its credit and financial products business for $32 billion in November 20039 in an attempt to simplify its business and appease investors. In June 2002, Sears bought clothing merchant Lands’ End for approximately $1.8 billion.10 Sears would keep Lands’ End for 12 years only to spin it off as a publically traded company in order to raise needed cash after experiencing poor sales performance.11 After the first day of trading, the market value of Lands’ End was only $889.7 million, less than half of what Sears had originally purchased it for.12 During that same year, Sears also began to develop and launch an in-house apparel brand—Covington. In addition to adding clothing lines, Sears launched a new store layout in 2003, called “Sears Grand.” This was similar to a normal full-line Sears’ store, but it also included traditional grocery items, such as food, toiletries, and pet supplies.13
Despite these and other changes, investors were pessimistic about Sears’ future. Between 1999 and 2000, Sears’ stock fell by over 50 percent. Although the changes Sears made between 2000 and 2002 initially brought its stock value up to $51.06 per share in May 2002, its stock price eventually dropped to a decade low of $21.76 per share in February 2003. At the time, it seemed that Sears could do nothing to mirror the growth that rivals Target and Walmart were experiencing, and it might even not survive the decade.

KMART and the New Sears
While Sears was experiencing a downward spiral in 2000, another large retailer, Kmart, was approaching bankruptcy. Kmart was founded in the late 1800s in Detroit by Sebastian Kresge as a five-and-dime store called “S.S. Kresge.” In 1962, the first Kmart stores were opened and, by the mid-1960s, Kmart was averaging over $1 billion in annual sales. A decade later, in 1977, S.S. Kresge officially became the Kmart Corporation.14 In order to keep up with the fast growing competition in the retail industry, Kmart began making several changes in the early 1990s. In March 1990, Kmart acquired Sports Authority, a privately held chain of sporting goods stores. Over the next three years, the company invested over $1 billion in order to improve and restructure its stores. It also launched BlueLight.com, an independent e-commerce company whose mission was to “open the doors to the dynamic world of information, goods and services of the World Wide Web by providing easy- to-use, unlimited free Internet service to the world’s shoppers.”15 Although these investments and changes would help bolster its earnings over the next few years, Kmart was experiencing a net loss of almost $2.5 billion annually by 2001. Unable to recover from its crippling losses, Kmart filed for Chapter 11 bankruptcy protection in January 2002. Charles Conaway, the CEO of Kmart at the time, said of the bankruptcy, “We are determined to complete our reorganization as quickly and smoothly as possible, while taking full advantage of this chance to make a fresh start and reposition Kmart for the future.”16
Kmart Corporation emerged from the bankruptcy in May 2003 as Kmart Holding Corp. Kmart described its strategy coming out of the bankruptcy as building senior management, improving the customer store experience, providing quality products at attractive pricing, and enhancing its service culture. This would include continuing to offer exclusive brands such as Martha Stewart Everyday and Joe Boxer.17 On November 17, 2004, Kmart announced its intentions to merge with Sears, Roebuck & Company to create SHC.18 The merger was initiated by Edward Lampert, who at the time was both the chairman of Kmart and the largest shareholder in Sears.19
Although the leaders of Sears and Kmart were optimistic about the merger, analysts expressed concerns over the viability of merging the two struggling firms. Of the merger, Stephen Hoch, a marketing professor at the Wharton School, said, “Here you have two retailers who are doing badly right now and who don’t really see a clear way to pull themselves out of the downward spiral. It’s hard to fathom how combining them is suddenly going to produce a new entity that will do better. That’s tough to do, especially because the competition, including Wal-Mart and Target, isn’t exactly standing still.” Notwithstanding the concerns, the new company experienced initial cost savings of over $300 million and gained $200 million through cross-selling opportunities between Kmart and Sears’ brands.20 As a result, investors responded positively to the new merger for first few years (see Exhibit 6).

Sears Holding Corporation
Shortly after the merger, the new chairman and CEO of SHC, Edward Lampert, said that by lever- aging the combined strengths of Kmart and Sears, SHC would have the potential to “be a great company with a truly great retail business.” In order to get to that point, Lampert planned to “offer customers a new, more compelling shopping experience with a differentiated and expanded prod- uct range.”21
Over the next several years, SHC began to improve the customer experience at both Sears and Kmart locations by introducing select Sears private label brands such as Kenmore, Craftsman, and DieHard into certain Kmart stores, remodeling Kmart stores, accepting Sears credit cards at all Kmart locations, adding Sears customer services such as Sears Auto Centers and hearing and optical centers to Kmart locations, and improving and combining back-end operations for both Kmart and Sears. In launching all of these initiatives, it was SHC’s goal to improve relationships with its customers and create sustainable top–line growth. In an effort to maximize its revenue, Sears attempted to focus on what it believed its consumers wanted most (see Exhibit 9 for sales breakdown).
Despite SHC’s efforts, consumers have not responded as Lambert had hoped they would. In fact, Sears same-store sales growth* has not been positive since the merger in 2004 and substan- tially lags that of major big box retailers such as Walmart and Target (see Exhibit 10). SHC’s declining revenues have not only been affected by declining same store sales, but also by widespread store closings. According to Lampert, store closings were the company’s only option after efforts to improve sales failed22 (see Exhibit 11).
In an attempt to hedge up ever-shrinking sales, SHC launched the “Shop Your Way” loyalty program in late 2009.23 This loyalty program and social network hybrid not only allows SHC shop- pers to earn rewards, but it also enables shoppers to connect with each other and discuss their pur- chases on a personal “newsfeed.”24
Corporate leadership touts the Shop Your Way program as a major success at Sears. In a presentation to investors, Lampert showed that the percentage of total revenues made by Shop Your Way members had increased 10 percent in 2013, from 59 to 69 percent.25 Even with

60%

50%

40%

30%

20%

10%

Hardware
Apparel & Soft Goods Food & Drug
Service & Other

0%
2009 2010 2011 2012 2013
Year
EXHIBIT 9 Merchandise Sales and Services
Source: Sears Holdings Corporation, Annual Reports, 2009–2014.

*Although the method for calculating same-store sales growth may vary by firm, it is generally the growth in sales for stores that have been in operation for at least 12 months since the reporting period.

8%
6%
4%
2%
0%
–2%
–4%
–6%
–8%
–10%

Same Store Sales Change by Year

Year

SHC
Walmart Target

EXHIBIT 10 Same Store Sales Change by Year
Source: Walmart Stores, Inc., Target Corporation, and Sears Holdings Corporation, Annual Reports, 2006–2014.

Store Closings by Year

Fiscal Year 2013 2012 2011 2010 2009 2008 2007 2006 2005
Kmart Discount 1,135 1,196 1,279 1,278 1,292 1,321 1,327 1,333 1,361
Kmart Super Centers 17 25 26 29 35 47 55 55 55
Total Kmart 1,152 1,221 1,305 1,307 1,327 1,368 1,382 1,388 1,416

Full-line Mall 768 788 834 842 848 856 860 861 866
Sears Grand/Essentials 10 10 33 52 60 73 75 74 58
Specialty Stores 50 54 1,338 1,354 1,284 1,233 1,150 1,095 1,128
Total Sears Dom 828 852 2,205 2,248 2,192 2,162 2,085 2,030 2,052

Canada Full-line 118 118 122 122 122 122 121 123 123
Canada Specialty 331 357 378 361 280 266 259 250 252
Total Sears Canada 449 475 500 483 402 388 380 373 375
Total Stores 2,429 2,548 4,010 4,038 3,921 3,918 3,847 3,791 3,843
Source: Sears Holdings Corporation, Annual Reports, 2006–2014

a net margin of −4 percent for the year, Lampert ended a meeting with investors by saying, “While I am not pleased with our profit performance, I am pleased with the progress we have shown in our transformation by continuing to improve our member engagement by leveraging Shop Your Way and integrated retail. We are working in a very focused and diligent manner to drive this transformation to a member-centric model and achieve improved levels of profit performance.”26
Throughout the years following the merger, Lambert and his team had tried a number of initiatives to improve Sears’ competitive position—with Lambert touting the Shop Your Way program as being among the most important of those initiatives. But despite Lampert’s optimism, many investors and analysts remain pessimistic about Sears’ future. Will the current set of initiatives be enough to turn Sears around? What else might Sears leaders do to dramatically turn around its fortunes and survive the intense competition from Walmart, Target, Amazon, and Costco? Most importantly, what will Sears need to do in order to differentiate itself from its competitors and gain a sustainable competitive advantage?

References
1“Sears—Where America Shopped,” Crain’s Chicago Business (April 23, 2012), http://www.chicagobusiness.com/article/20120421/ISSUE 01/304219970/sears-where-america-shopped#
2J. Macke, “Sears Enters ‘Death-Spiral,’ Retailer Could Be Gone by 2017: Brian Sozzi,” Yahoo! Finance (January 10, 2014), http://finance
.yahoo.com/blogs/breakout/sears-enters–death-spiral—retailer

• could-be-gone-by-2017–brian-sozzi-151232559.html
  3Fortune 500, “Companies by Year, 1955–2005.” Available at http:// money.cnn.com/magazines/fortune/fortune500_archive/letters/S.html
  4E. Lambert, “What Our Reported Financial Results Don’t Clearly Show,” searsholdings.com (January 9, 2014), http://blog.searsholdings.com/ eddie-lampert/what-our-reported-financial-results-dont-clearly-show/.
  5Macke.
  6“The Allstate Corporation,” International Directory of Company His- tories (1999), http://www.encyclopedia.com, accessed July 12, 2014.
  7Sears, Roebuck & Company, Annual Report, 1998.
  8Andrew Ross Sorkin, “Sears to Sell Card Portfolio to Citigroup for $3 Bil- lion,” New York Times (July 16, 2003), http://www.nytimes.com/2003/07/16/ business/sears-to-sell-card-portfolio-to-citigroup-for-3-billion.html.
  9Sears, Roebuck & Company, Annual Report, 2004.
  10Sears, Roebuck & Company, Annual Report, 2002.
  11R. Abrams, “Sears to Spin Off Lands’ End,” DealBook (December 6, 2013), http://dealbook.nytimes.com/2013/12/06/sears-to-spin-off-lands-end/.
  12M. J. de la Merced, “Rough First Day of Trading for Lands’ End, and Its Former Parent,” DealBook (April 7, 2014), http://dealbook.nytimes
  .com/2014/04/07/rough-first-day-of-trading-for-lands-end-and-its-former
  -parent/?_php=true&_type=blogs&_r=0.

13L. Yue, “Sears’ Grand Idea Set to Debut,” Chicago Tribune (September 19, 2003), http://articles.chicagotribune.com/2003-09-19/business/ 0309190340_1_sears-grand-sears-grand-one-stop-shop.
14Sears Holdings Corporation, “Corporate History,” searsholdings.com., http://www.searsholdings.com/about/kmart/history.htm.
15Kmart 1999 Annual Report 16http://money.cnn.com/2002/01/22/companies/kmart/ 17Kmart Corporation, Annual Report, 2004.
18Kmart Corporation, Annual Report, 2005.
19 Y. Rosenberg, “The Man Behind the Deal,” CNN Money (November 17, 2004), http://money.cnn.com/2004/11/17/news/newsmakers/ lampert/.
20“Sears-Kmart Merger: Is It a Tough Sell?” Knowledge@Wharton
21Sears Holdings Corporation, “Kmart and Sears Complete Merger to Form Sears Holdings Corporation,” press release (March 24, 2005).
22A. Deichler, “Updated: Sears & Kmart Closing 21 Stores; Creating Nearly 2M SF of Vacancy,” CoStar News (March 1, 2010), http://www
.costar.com/News/Article/Updated-Sears-Kmart-Closing-21-Stores;
-Creating-Nearly-2M-SF-of-Vacancy/118441.
23Sears Holdings Corporation, Annual Report, 2011.
24B. Sweeney, “Can This Woman Save Sears?,” Crain’s Chicago Business (July 15, 2013), http://www.chicagobusiness.com/article/20130713/ ISSUE01/307139978/can-this-woman-save-sears
25“Fourth Quarter & Full Year 2013 Transformation Update & Financial Results,” p. 16.
26Transcript of SHC Fiscal 2013 Q4 Financial Results Audio Webcast.