4 Things To Watch When Macy's Reports Earnings On Thursday

Macy's is expected to report $0.41 of earnings per share on $5.6 billion of revenue. Macy's is on a six quarter negative growth streak for both revenue and EPS. It is expected to continue the trend this quarter, since $5.6 billion in revenue would represent a decline of a little under 4% YoY.

As mentioned, weak sales are the biggest issue plaguing traditional retailers today. More and more Americans are shopping online, no longer bothering to visit physical stores. Macy's is not alone in this regard; other national retailers from Nordstrom (NYSE:JWN) to Kohl’s (NYSE:KSS) are seeing falling sales as well. The ongoing question remains, 'By how much will sales decline?'. Last quarter, Macy's surprised investors with a slower than expected decline, and shares shot up from $34 to $40 as a result, an almost 20% jump. However, skepticism about longer term growth prevails, and the company has already given back half of those gains.

Customers are shopping differently, and Macy's will have to change itself in order to thrive. Initial steps are already being taken in order to increase profitability and adapt. The company is working to increase and improve its online retail offering, as more and more customers are moving to digital platforms in order to shop. Macy's also plans to close 100 underperforming stores in early 2017, or about 13% of its total portfolio of 728.

Much was said by analysts and the financial media about Macy's low operating margin last quarter, which was a record low at 1.9%, as compared to its usual margins of between 6-8%. The recent, frighteningly low margin number however, was almost entirely a result of a $250 million impairment charge on closing underperforming stores. Closing stores could pay out for Macy's in two ways; the company can sell or lease these real estate assets while closing underperformers will allow better use of company capital.

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Macy's is also developing a few retail initiatives include the opening of an 'off-price' business, with six pilot store in New York City, as well as changing the pricing approach to clearance merchandise by offering bigger pricing discounts while eliminating coupons and additional rebates or straight up cash discounts. The company is also betting on the beauty sector via its 2015 acquisition of Bluemercury, a beauty products retailer with over 80 freestanding stores plus a shop within many Macy's locations, with yet more locations expected to open in the next six months.

All of the above, plus the fact that Macy's is undergoing a transition, would suggest that the company should be selling for a discount, since there's still uncertainty surrounding the retail market, and of course Macy's revenue and EPS continue to decline. Nevertheless, though its P/E ratio, at 15, seems low, the market hasn't been discounting Macy's shares. Macy's historical P/E ratios, at under 14 for 5- and 10-year medians, indicate that the retailer is actually, more expensive than it has been on average, despite its regressive numbers. Its price-to-book ratio, at 2.8, is more than twice the P/B of fellow retailers Kohl's and Dillard's (NYSE:DDS).

Conclusion

Macy's is trying to turn things around with its renewed focus on store performance and beauty products. Bricks-and-mortar retailers have indeed become too big to successfully compete with their online competitors. The moves initiated by the company will probably cause short term pain, but should ensure the business stays profitable in the long run. Still, we don't believe Macy's is a good enough value. Its price, within the larger historical context, just doesn't properly represent the risks now faced by the company.

Stay on the sidelines until Macy's' P/E ratio reaches 10, as it did in January and May of this year. Barring new threats to Macy's existence or an additional growth driver, this would be our recommended sweet spot.

Written By: Investing.com