Department store stocks have been under assault in the recent years due to two mega trends. First the rise of e-commerce has left many department store chains with two many stores. Second a shift in consumer appetites towards experiences rather than things has weighed in on retail spending. However several department store stocks look attractive due in part to their low valuations. Nordstrom, JCPenney and Macy's all have plenty of upside. Of the three, Macy's offers the best risk reward trade-off right now. It has a lot to do with Macy's ongoing efforts to monetize some of its real estate assets.
Macy's stock is lost about half of its value since mid-2015 due to sliding sales at its stores. The value of its stores as retail outlets has declined in the underlying real estate is as high as ever. For the past year, Macy's has been working to extract value from some of its most valuable properties, its flagship stores in New York, Chicago, Minneapolis and San Francisco. It may be close to his first deal. In August Macy revealed that it was negotiating to sell roughly 250,000 square-foot building which houses its men's store in San Francisco. The selling price could be as high as 400 to 500 million based on the sales of nearby buildings. Macy’s is trying to strike more real estate deals in the next year to. The Herald Square flagship store in New York is his most valuable property worth roughly 4 billion. It has over 2,000,000 ft.˛ of space which gives me sees ample room to sell off the upper floors while still maintaining a large store presence. Redeveloping that part of the New York store flagship could bring 1 billion or more. Even the smaller run-of-the-mill stores or were something. Macy's plans to close about 100 stores in early 2017. It could potentially bring in hundreds of millions of dollars from selling properties.
While Macy's real estate values important it along would justify buying the stock if the core department store business is losing money. But that's not the case. Over the past 12 months Macy's is generated more than 1 billion of free cash flow. It's less than what they had been producing a few years ago, but is still very solid. By closing nearly 15% of its stores and implementing other cost cuts, Macy's is a good chance to improve its adjusted profit margin for 2017. With a smaller store footprint, it won't need to invest as much money and store renovations.
Nordstrom and JCPenney are good but not the best. Nordstrom arguably has the best long-term prospects of any department store operator due to his diversification. Today the store gets over 50% of its sales from traditional full-line stores. Nordstrom has invested huge sums to grow its e-commerce and off-price businesses in recent years, which is helped in profitability. Over the next few years these investments to start to bear fruit which will help rebound's earnings. However they have a lot of irons in the fire.
Meanwhile JCPenney is in the mist of a remarkable comeback. Management is laid out a plan to boost earnings per share by 2019 and that would make JCPenney stock a bargain. The fact remains however the JCPenney stock is not reliably profitable yet. An economic down turn could easily derail its turnaround. Unlike JCPenney Macys management team decided to use Macys coupons in order to attract consumers and please investors.
Macy's current market cap is about 11 billion. At 10 times free cash flow, the stock is fairly cheap. Investors seem to be completely ignoring the additional value attached to Macy's real estate. In the next few years, Macy's will likely realize billions of dollars from selling that real estate and can return most of that cash to shareholders. So Macy’s is the winner and shares could and should soar as long as the underlying retail business doesn't take a turn for the worst.