Shopping Spree
Federated buys rival May to create a mammoth of the mall
Having spent the better part of his adult life in retail, Federated Department Stores CEO Terry Lundgren has plenty to say about the nature of selling. But when it comes to his personal retail philosophy, the 52-year-old Lundgren is a man of surprisingly few words: "I believe that if you can't buy it at Bloomingdale's or Macy's," he says, "you don't need it."
If only more shoppers shared Lundgren's point of view and spent a little less time and money at Neiman Marcus, Nordstrom, and Wal-Mart, he might not be in the position he is today: presiding over the creation of a retail colossus that could either reshape and revitalize the American department store or seal its long-anticipated demise.
Last week, Federated, owner of Bloomingdale's and Macy's, announced a deal to acquire May Department Stores, parent of Robinsons-May, Hecht's, Marshall Field's, and others, in a deal valued at $11 billion, or roughly $35.50 per share, plus the assumption of $6 billion in debt. Should shareholders and regulators approve, Federated would become the second-largest department-store chain in the country with 950 stores and $30 billion in annual sales. The company, which has not had much of a Midwest presence, would gain a foothold in nearly every major market and would be second only to the new combination of Kmart and Sears, Roebuck, whose $11.5 billion pairing was announced in January.
Reverberations. "This deal is a blockbuster in the world of department stores," says Christine Augustine, who follows the retail industry for Bear Stearns & Co. "It could completely reshape the retail landscape in ways that go far beyond the mall to suppliers and manufacturers, off-mall and big-box retailers, media outlets, and just about everything."
Lundgren offered few specifics about how the merger would work but confirmed there would be layoffs (analysts estimate several thousand), store closings (an estimated 150 or more), and that most, if not all, May stores, which include Lord & Taylor, Filene's, and Strawbridge's, will be "reinvented" as Macy's or Bloomingdale's by 2007. This will transform Macy's from mostly a bicoastal chain into a nationwide retailer with as many as 300 newly branded stores in 15 new states. Lundgren also made clear that the new Federated will be even better equipped to exercise its clout with manufacturers and suppliers, who may be forced to lower their prices or absorb merchandise that doesn't sell. "This merger will take all the management expertise and acumen that anyone can muster to create an 850-store chain that can operate as a single brand and achieve the economies of scale that are necessary," says George Whalin, president and CEO of Retail Management Consultants in San Marcos, Calif. "But it can be done, and Federated has a management team that could do it."
Despite its potential to reshape retailing, the merger was hardly a surprise to those in the industry, where consolidation has become synonymous with survival. Mainstream department stores, which count on apparel sales for nearly 80 percent of their revenues, have been in steady decline for years as discount stores, high-end retailers, and specialty stores have pecked away at their customer base. In the late '80s, department stores accounted for nearly 70 percent of all domestic apparel sales. That share has been cut in half to around 35 percent today, as shoppers have turned to discounters like Wal-Mart and Target, high-end retailers like Neiman Marcus and Nordstrom, and specialty stores such as Victoria's Secret and Banana Republic. "Department stores are simply being nibbled to death," says Cynthia Cohen, president of Miami retail consultants Strategic Mindshare.
Lundgren has been wooing May for years. Federated made several attempts over the past two decades to merge with May, only to be thwarted again and again over issues of price and management. But when May CEO Eugene Kahn was ousted in January, Lundgren finally got the opening he needed to make a deal. Now he will rule the empire alone and avoid all that pesky post-merger jockeying for power that so often plays out between alpha male executives from merging companies. "It only made sense that these two huge retailers would ultimately come together," said Greg Fowlkes, a retail-stock analyst at Morgan Stanley. "And the planets finally aligned."
For Lundgren and Federated, yes, but the rest of the retail world may feel as if it has left the gravitational pull of the Earth. Perhaps the greatest change will come at malls themselves, where scores of anchor stores will close their doors. This new round of closings comes amid strong profits but growing uncertainty in the mall business. The Kmart-Sears combo will lead to many store closures, and some retail experts anticipate restructurings at Saks Fifth Avenue as well as Mervyn's, which changed hands last year.
Malls, which make their money from store rents, get about 90 percent of their money from specialty retailers like the Limited and the Body Shop. However, a big, empty space left behind by a closed department store can drag down sales for all tenants. Which is why, with department stores losing steam for more than a decade, mall owners started rethinking the traditional anchor concept long ago. Today, the prime space in many malls is going to off-mall discounters such as Target and Wal-Mart, Costco and Best Buy, which are seen as more relevant to consumers than three copycat department stores.
The mall as magnet. Target now has about 100 stores, or about 8 percent of its outlets, in traditional malls. Wal-Mart also has been opening stores in malls and is likely to open more in an attempt to soften its image as a retail thug and sidestep the bad PR that has dogged so many of its recent attempts to open new stores. In October, the $256 billion giant opened its first multistory store in a Southern California mall. And a new mall owned by the Westfield Group recently opened in Topanga, Calif., featuring Target, Wal-Mart, Sears, Nordstrom, and Neiman's. But it is still unclear whether big discount stores are attracting traffic just to themselves or mallwide--although early estimates seem to indicate that in small malls with weak department stores, a nontraditional anchor can boost overall traffic.
Fulfilling Federated's promise to reinvigorate department store shopping will not be nearly as easy as filling the space. Beyond the cost cutting, systems integration, and real-estate plays, what drives the department store business is fashion, says Cohen, "and consumers learned long ago how to find it elsewhere. Now, it will be very tough winning them back." That fit 45-year-old woman who can dress like a teenager has been picking up her hip clothes at H&M. The size 18 who is tired of being shunted off to fashion Siberia to find clothes that fit simply goes to Lane Bryant.
Federated plans to give May stores a younger, more exciting feel with wider aisles, less clutter, brighter and easier-to-read signs, more luxurious fitting rooms, and merchandise better suited to local shoppers. "What the department store must and will do is re-create itself to appeal to younger consumers by making the stores more exciting and by making shopping an adventure," says Kurt Barnard, president of Barnard's Retail Consulting Group. Federated has been doing this at Macy's and Bloomingdale's for years, which is why its same-store sales were up 2.6 percent last year. At May, a superb cost-cutter but weak merchandiser that has relied on markdowns as a business strategy, sales were down an equal amount. "At the end of the day, a department store has to be local and filled with what the shopper wants," says Cohen.
At Macy's, buyers use market research to profile their customers, then direct their shopping and merchandising to well-defined--if fictional--customer types such as traditional (J. Crew, not Jay-Z) and contemporary (iPod-toting trendsetter). "When [our] buyers go into the market, we really think about buying for the customer," says Lundgren.
The name change is part of the strategy to bring customers back. With the establishment of Macy's as a national name, Federated will be able to fully reach that coveted under-35-year-old shopper; the one with the home and the kids and the multiple needs that she would like to satisfy under one roof. And the one who gets most of her information from TV. As a regional chain, Macy's couldn't advertise on TV effectively, like national chains such as J.C. Penney and Wal-Mart. Now, "Federated is going to present itself far more attractively than it has in the past, and it will gradually wean its target customers from the discount store arena, and bring them back," says Barnard, noting that the $450 million to $500 million the new Federated will squeeze out of the operational side of the business could lead to lower prices and better merchandise. "It's nonsense to say the department store is a dinosaur," he adds.
Even if it were, Lundgren may be just the one to save it from extinction. Before he went into retail, he had other career aspirations: as a veterinarian.
BUILDING A RETAILING GIANT
Federated's purchase of May Department Stores will result in a national retail powerhouse. Here's how the new combination stacks up:
Merger cost: $11 billion in stock, plus assumption of $6 billion in debt
Sales: $30 billion
Stores: 950 department stores, 700 bridal and formalwear outlets
Footprint: Operates in 49 states
Employees: 243,000
Founded: May in St. Louis in 1910, Federated in Columbus, Ohio, in 1929
Name stores: Bloomingdale's and Macy's for Federated; Lord & Taylor, Filene's, and Marshall Field's for May
This story appears in the March 14, 2005 print edition of U.S. News & World Report.