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TALES OF THE TAPE: The Brighter Side of Sears
By Ann Keeton - Dow Jones Newswires
June 20, 2000

In a tough year for retail stocks, one of the rising stars comes as a surprise. Along with perennial favorites Kohl's Corp. (KSS) and Wal-Mart Stores Inc. (WMT), some Wall Street analysts have put a strong buy rating on Sears Roebuck and Co. (S).

Sears' stock is up 26% from its 52-week low of 25 1/4 set on Feb. 24, and up 17% since Nov. 1 when it got dumped from the Dow Jones Industrials.

Still, the valuation remains cheap. Recently it traded at 31 13/16, less than eight times projected fiscal 2001 earnings, and well below the historic rate of 10 times earnings. But price isn't the only reason to buy the stock.

"I don't think the Street has recognized what Sears is doing," said Thomas Tashjian, an equity analyst with Banc of America Securities in San Francisco. On June 1, the bullish analyst put a 12-month price target of $51 on the stock.

He and others believe Sears' improving profit margins, particularly on apparel, will reap rewards even if robust consumer spending slows.

But 10 out of 15 analysts surveyed by First Call/Thomson Financial lump Sears in the "hold" category with troubled competitors Kmart Corp. (KM) and J.C. Penney Co. (JCP). All three full-line retailers saw their stock drop about 50% or more in the past year as investors shed their shares in favor of high-flying technology issues. This week, Merrill Lynch & Co. analyst Dan Barry cut second-quarter earnings estimates for several retail companies, trimming his view on Sears by 2 cents to $1.02 a share.

The First Call consensus sees Sears earning $4.52 a share this year, an increase of 16%, and continuing to grow earnings at an annual average rate of 10% for the next five years, compared with a 16.5% five-year growth rate for all retailers.

The Street should take a closer look at Sears' recent financial performance, analyst Tashjian said. "The fourth quarter of 1999 and the first quarter of this year were very strong," he said.

In the most recent quarter, earnings jumped 71%, to 65 cents a share, buoyed by sales growth and a turnaround in the company's credit-card operations. "We see earnings per share increasing 19.5% in the second quarter," the analyst said.

Banc of America analysts have strong buy ratings on a few other retail stocks, including Kohls, Nordstrom Inc. (JWN), Family Dollar Stores (FDO) and Fred's Inc. (FRED). They all have one thing in common, Tashjian said. "They've continued to work on improving operations. Their growth isn't coming just from strong consumer spending."

Wayne Hood, an analyst at Prudential Securities Inc., said he's rated Sears a strong buy since the beginning of this year, largely because improved profit margins. The company has set a long-term goal of generating 5% retail operating margins compared with 2.9% last year.

Ironing Out The Wrinkles In Apparel
Apparel, the retail category with the best profit potential, has been a trouble spot for several years. Soft goods, including clothing and home fashion, accounted for one-third of total sales in 1999. In the past year, Sears cleaned house, cutting the number of apparel vendors it works with by as much as 30%. "They weeded out career apparel, which they couldn't sell, in favor of casual and active wear, and they stopped working with manufacturers who weren't that important to them," Tashjian said.

Sears' chairman and chief executive, Arthur Martinez, who retires at the end of this year, is credited with using his merchandising and financial skills to bring Sears back from near-collapse in the early 1990s. But it's taken until now to iron out the wrinkles in the apparel business. Martinez's award-winning "Softer Side of Sears" advertising campaign brought more female customers into the store, but sales growth was inconsistent and didn't translate to stronger earnings.

Last year, the stores still looked cluttered, filled with crowded racks of marked-down merchandise. Sears told analysts it would retool the "Softer Side" program.

Martinez and his team had known all along what they needed to do, Tashjian said. But while other retailers were able to sharpen their pencils in dealing with key vendors, Sears played catch-up.

To build credibility with customers, the company had to "bend over backwards" to get popular brand names, like Levi's jeans and Nike shoes, into its stores.

Now Sears has the brands it needs. "They can get vendors to work with them, to take more of the inventory risk. On the sales floor, you'll see less merchandise as Sears consolidates its relationships with a few important manufacturers. Customers will find the stores easier to shop in, less confusing. Goods will move faster. Sears can offer more fashionable merchandise."

Tom Nicholson, Sears' director of public relations, said new ideas for stores - such as adding shopping carts and wider aisles - are being tested in 12 Midwest stores and, if successful, are quickly rolled out nationwide.

Sears is adding merchandise in its home furnishings department to keep pace with changing customer needs. That's good, Tashjian said, because "at Banc of America, in the next five years, we see industry-wide apparel sales growing at a rate of about 1% or 2% a year, while home goods will grow in the 4% to 5% range."

The other side of Sears, the hardlines business, with the company's unrivaled brands, Kenmore appliances and Craftsman tools, accounts for the other two-thirds of annual revenues.

Nicholson said the company doesn't dismiss competitive challenges from the likes of Home Depot Inc. (HD). But in appliances, where Home Depot has said it intends to become No. 1, volume leader Sears outsells the next 12 retailers combined. Sears' ability to deliver quality and service should keep it on top with no trouble, analysts said.

Sears is building its Internet business, Nicholson said. "We've been pretty quiet about this, but we're now the fifth-largest retail Web site, in terms of sales. Our sales from the dot-com business are about equal to one of our stores - and we have 850 stores."

Still, he said, the Web has the potential to revolutionize retailing. "The Internet is going to be the Sears catalog of the 21st century."

Sears' Business Model Seen Outdated
Fund managers aren't excited by Sears, said Mark Sellers, an analyst at Morningstar in Chicago. "You see some Sears stock in the very conservative large-cap value funds." Vanguard's Windsor II holds the highest percentage of fund assets, 1.84%, in Sears stock. Conservative investors keep Sears in their portfolios, Sellers suggested, because "the stock pays a good dividend."

Sellers said in the near term, "we may see the stock price go up. Sears has had some mild success with sales growth this year, but I don't think it's something to get excited about. It's a well-managed business, but it's a slow grower."

Morningstar doesn't make buy or sell recommendations on stocks, the equity analyst said. "But over the long haul, I think Sears is going to have a tough time. They're getting competition from specialty retailers and from discounters like Wal-Mart - Sears doesn't have a company culture that can operate on razor-thin margins like Wal-Mart. And their business model - selling 'everything' - is old-fashioned. Sears can only do so much cost-cutting. It's going to be an uphill battle for any of the (broadlines) group, Sears, Penney or Kmart, to generate strong top-line growth."

Earlier this year, Sears' board of directors expressed its impatience with management's growth strategy, prompting Martinez, 60, to take early retirement. The directors asked Martinez to help choose his successor. Candidates from within and outside the company are being considered.

Prudential's Hood said he's not about to write Sears off. "I've been following retail stocks since 1982. There was a time not that long ago when people thought Sears would go bankrupt."

It's not unusual for large retailers to make major charitable contributions.

Target Corp. donates 5 percent of its annual profit to charity. Wal-Mart Stores Inc. regularly works with schoolchildren, building nature paths and cleaning up wetlands.

Sears, Roebuck and Co. has plenty of its own charitable projects. But on July 2, the Hoffman Estates-based retailer will take the unusual step of splashing its latest initiative all over the cover of its Sunday newspaper advertising insert, which reaches 53 million homes.

Instead of featuring hot-selling items such as "tankini" swimsuits or men's khaki shorts, the Sears circular will showcase retired Gen. Colin Powell, who heads "America's Promise," an alliance of 500 volunteer organizations and almost 500 communities across the U.S.

In partnership with Powell's organization, Sears is trying to generate 1 million hours of volunteer work during the next three years from its employees, retirees, suppliers and even customers. The program is being called "The Sears Good Life Alliance," which ties in with Sears' new advertising slogan, "The Good Life at a Great Price. Guaranteed."

Sears and Powell will announce their alliance Sunday at a press conference in Orlando.

Pension costs for the companies in the Standard & Poor's 100 index dwindled last year "to a mere $155 million" from $4.9 billion in 1997, according to Jack Ciesielski, whose firm, R.G. Associates Inc. in Baltimore, publishes the Analyst's Accounting Observer newsletter. The study is the most comprehensive review to date of the role that pension plans played in corporations' 1999 financial results.

For some companies, the income generated in pension plans was so strong that the plans not only paid for themselves but also helped to boost corporate earnings. That was the case at 29 companies, up from 20 in 1997. These companies enjoyed pension income as a result of an accounting rule that allows income-statement relief when expected returns on pension assets exceed the pension plans' annual costs.

Pension income was quite substantial for some companies. At Norfolk Southern Corp., pension income amounted to 12% of operating profit, while it tallied 11% of such profit at Lucent Technologies Inc., Coastal Corp. and Unisys Corp. About 10% of Bell Atlantic Corp.'s 1999 operating profit was pension-related, the report found. Not all companies were immediately able to confirm the figures.

Mr. Ciesielski's report, aimed at analysts and institutional investors, hammers home the idea that investors need to be aware of the often-unpublicized role played by pensions in earnings. "Bottom line: Is management driving the operating income higher -- or is a higher stock market driving operating income higher?" he asked.

Calling pension plans "the invisible gorillas," Mr. Ciesielski noted that "the earnings of a pension plan belong to a pension plan and the pensioners," and that except under rare circumstances, the sponsoring company cannot use the assets without steep tax and other penalties, so pension "income" will never be spent on shareholders' behalf for capital projects, dividends or buybacks.

A spokesman for Allegheny Technologies Inc., whose pension income accounted for 51% of the company's operating income in 1999, doesn't agree that there's little benefit. He pointed out that the company transferred more than $36 million from its overfunded pension plan to pay for retiree medical costs in 1999.

Unquestionably, the impressive investment returns being posted by many pension plans have helped relieve companies of some of the financial burden of retirement obligations. In the two-year period from 1997 to 1999, Dow Chemical Co.'s pension cost fell to $48 million from $139 million, and Walt Disney Co.'s to $11 million from $45 million, the report found. A spokeswoman for General Motors Corp. confirmed the report's conclusion that its pension costs fell by almost two-thirds over that period, adding that, allowing for discontinued operations, the costs fell to $583 million from $1.4 billion.

The kick that comes from slicing pension benefits is significant for some companies. Kmart Corp., for example, froze its pension plan in 1996, so employees ceased earning additional benefits after that. Falling pension costs helped the plan pump $63 million into the bottom line in 1998 and $68 million in 1999. The pension plan went from being under funded by $110 million in 1998 to being overfunded by $161 million in 1999.

Downsizing also plays a role in falling pension costs. Eastman Kodak Co.'s pension costs fell to $49 million in 1999 from $115 million in 1997, the report found. A spokesman confirmed that the cost reduction stemmed in large part from a work-force reduction of 18,000 in 1998.

So swollen were many companies' pension assets at year's end that they "rival the size of the operating assets of many U.S. firms," Mr. Ciesielski said. At four S&P 100 companies, the pension plans were bigger than the companies themselves, in terms of assets: Bethlehem Steel Corp., Lucent, Unisys and Boeing Co. Not all companies could be reached to confirm these figures.

"You might think of the pensions as mutual funds for an exclusive clientele, which just happen to possess an incidental industrial business," quipped Mr. Ciesielski. "They're pensions on steroids."

Calling pension plans "more a profit center than an employee benefit," Mr. Ciesielski noted that the good times won't end if the stock market slows down. "There are plenty of levers that can be pulled to keep pension liabilities from growing, and make the near-funding or overfunding go even further," he said.

Even if astute observers tease the pension influence out of company filings, such filings are made only annually, so there's no way to tell if a company relied on pension income to aid earnings in a given quarter. By Mr. Ciesielski's calculation, pension income last year accounted for about 11% of the improvement in operating profit at the S&P 100. That's down from nearly 70% the year before, but in dollar terms, operating profit grew substantially more in 1999 than in 1998.

Five years ago, Sears, Roebuck and Co. exited the insurance business by spinning off Allstate, a company it created during the Depression and nurtured for 64 years.

Now the Hoffman Estates-based retailer is ready to take another crack at insurance, but its latest venture won't involve "the Good Hands" of Allstate. Instead, Sears is partnering with Hartford Financial Services Group Inc. to offer low-cost auto and home insurance to Sears customers, the retailer said Wednesday.

The insurer, based in Hartford, Conn., will be making its pitch through a direct-mail campaign to 60 million Sears customers beginning July 1. The insurance will be available for purchase over the phone or on the Internet, but not in Sears' 860 department stores.

Sears won't bear any of the underwriting risk associated with the policies but will receive revenue based on how many customers sign up, said Sears spokesman Ted McDougal.

But why isn't Sears using Allstate, its former subsidiary and the nation's second-largest auto and home insurer, to underwrite its new insurance venture?

"We looked at the top property and casualty writers in the country and concluded the Hartford is the best fit for our customers based on its satisfaction ratings, capacity and pricing orientation," said Vachel Pennebaker, president and general manager of Sears Financial Products.

Adding to the Hartford's appeal was its experience in marketing insurance to Ford Motor Co. customers and members of AARP, McDougal said.

For Allstate's part, the Northbrook-based company says it isn't sore at being left out.

"We welcome the competition, although we view this new alliance as an attempt by these companies to play catch-up," said Sharon Cooper, Allstate spokeswoman.

Sears does use Allstate to market other insurance products to its customers, including supplemental life, health and credit insurance, McDougal said.

No matter what insurer Sears teamed up with, the move makes sense, said David Schiff, an insurance industry expert who publishes a newsletter in New York.

"Here they won't have any capital tied up in it. I assume they're not paying a cent," Schiff said of Sears.

When the turnaround at Sears, Roebuck and Co. derailed early last year, Chief Executive Arthur Martinez put his corporate memoirs on hold.

Now that Martinez is on his way out the door sometime before the end of the year, "The Hard Road to the Softer Side of Sears" may be back on track. Martinez is considering finishing the book, but when he would do so is "still up in the air," said Sears spokesman Ron Culp.

If the book is revived, former Chicago Tribune reporter Charles Madigan, who wrote the original, will handle the revision. Time Books, Martinez's erstwhile publisher, will have the first right of refusal.

 Same-store sales results are giving investors some insight into what retailers' upcoming earnings reports hold on tap.

At Best Buy (BBY: news, msgs), for instance, comparable-store sales for the three months ended May 27 increased 9.5 percent on top of the 13.3 percent registered in the fiscal 2000 first quarter last year. Best Buy also said sales for the latest quarter came in at $2.96 billion, up 24 percent over the year-ago period. The news pushed shares up 6 11/16 to close at 70 11/16 Thursday.

On the flipside, shares of Pacific Sunwear California Inc., (PSUN: news, msgs) plunged 23 percent after the casual apparel and accessories retailer warned of a possible second-quarter shortfall due to weak sales. The company reported same-store sales in May rose slightly but is looking to June and July for seasonally stronger sales. If same-store sales rise less than 6 percent in the next two months, the quarter will fall short of the second-quarter consensus estimate of 29 cents a share. May same-store sales rose 0.5 percent from last year's levels. Total monthly sales rose 33 percent to $36.3 million from $27.3 million a year earlier. Deutsche Banc wasted no time cutting its rating on the stock to "buy" from "strong buy."

Running down some of the big-name retailers, Wal-Mart Stores Inc. (WMT: news, msgs) reported that same-store sales rose 7.4 percent, while total sales were $14.6 billion, up 23 percent from $13.9 billion recorded last year. The stock slipped 3/8 to 57 1/4.

Target Corp. (TGT: news, msgs) said same-store sales rose 1.5 percent, missing the company's target. Total sales came in at $2.51 billion, up 6.8 percent from the $2.35 billion registered in the year-ago period. But the May results were "below plan," acknowledged Bob Ulrich, chairman and CEO. Shares closed up 5/16 to 63.

Sears, Roebuck & Co. (S: news, msgs) reported total domestic store sales of $2.3 billion for May. On a comparable basis, U.S. store revenues increased 3.5 percent on the month. "Home appliances and electronics continue to show strong increases along with fine jewelry, fitness equipment and cosmetics and fragrances," said Arthur C. Martinez, chairman and CEO. Shares rose 5/8 to close at 37 9/16.

Clothing retailer Gap Inc. (GPS: news, msgs) said that total sales gained 19 percent to $930 million in May, while same-store sales for the same period fell 2 percent compared to an 8 percent increase in May 1999. The comps were dragged down by weakness at the company's Banana Republic and Old Navy units. Shares fell 3/8 to close at 34 11/16.

Women's apparel retailer Ann Taylor (ANN: news, msgs) also reported May same-store sales, sending shares higher. Same-store sales increased 3.1 percent. Total sales for the latest four weeks rose to $105 million from $90.7 million. The stock closed up 3 9/16 to 29 9/16.

What's ahead on the earnings front "We expect it to be another excellent second quarter," Chuck Hill, director of research for First Call, said about the next earnings reporting season. Earnings growth for the quarter will be least 20 percent but could go as high as 23 percent, if the current earnings revision pattern holds. However, Hill points out that the number of negative pre-announcements is off to a much faster start than in the first-quarter of 2000.

However, Hill said the real thing to watch for is what analysts will do with their estimates for 2001. Just as the Federal Reserve does, investors should remember the market is looking 6 to 12 months ahead, he noted.

"There's always normal trimming of the estimates," said Hill, referring to the 2001 earnings outlook. "But the worry comes at the point where analysts lower their estimates more than they usually do.

"There certainly is a potential for substantial revision downward," advised Hill. Investors would likely see those types of revisions starting in the third and fourth quarter of calendar 2000.

As for the close of the first quarter of 2000, 99 percent of the S&P 500 companies have now reported results. Overall, earnings are up almost 24 percent over the first quarter of 1999 -- the strongest bottom-line growth seen since the fourth quarter of 1993, according to Hill.

Not bad, considering. Considering all hands were expecting a major sell-off on Wednesday, you'd have to say that a flat to downer (barbiturate!) day is perfectly acceptable. The Dow was off only 4 points to 10522, (nothin'!) while Nazzie, yes, fell a bit more -- 58 to 3400 (EXACTLY!) But sew what? That means most of the gains of yesterday held! Watch me, Don Drysdale (and his wife is?) I mean Andy Serwer, everyday, along with the compelling Terry Keenan and Bill (T-- fer Texas) Tucker on CNN's "In the Money," 11am EST. Here's what else is up:

WHAT HAPPENED.... Glad you axed! We started off the session with a benign housing starts report which gave traders a little optimism. Stocks moved north, but trading was thin and indecisive and you knew it was only a (brain) matter of time before the bear came clawing BACK! And she did, but really we were up and down -- more pos. than neg actually -- the whole day until some sell programs swept in late and took stocks down. Now everyone's sitting on their hands and waiting for the big wage #s on Friday. Jack nothing will happen until they come out! As for today, financials like JP Morgan, Amex, GE (yes they're a financial stock!), and William Harrison's neighborhood (that's Chase -- up $1 plus to $74) held up (Mr.) nicely. Big Chief Winner Today (and holding the freakin' Dow up!) was Wal-Mart, up $6 to $60. Word is the folks from Bentonville, Ark., will make some positive sounds to analysts and the like gathered down there for meetings tomorrow and Friday. Or not!

BIG STORES.... Speaking of big stores, all of 'em are sucking wind EXCEPT for Wal-Mart. Not surprisingly there have been executive searches going on of late at Kmart, Penney, and Sears. Headhunters' Dream!!!! (Reminds you of last year when they were looking for a #2 at Dell, (filled by Vanderslice), a #1 at Compaq (Capellus) and a #1 at H-P (Carly!) Anyway now the search is over at Kmart. The pride of Troy, Michigan has just hired Charles (don't call me Tim!) Conway. (He was the #2 at CVS (drugs), but don't hold that against him. Yet!) Floyd Hall, outgoing CEO thought he had until April 2001. No, no Floydo you are history RIGHT AWAY!!!! Look at a stock chart and you'll see why!!! Stock is down 50% this year!!!! Over at Sears they're looking to replace Arthur MARTinez. Why? Stock has gone from $65ish to $36!!!! And at JC Penney, it's time to replace James Oesterricher. I'm hearin' good things about his #2 Vanessa Castagna (she's from Wal-Mart, and that's good!) The Penney job, P. Sellers says, could be the most tasty since it probably has the most upside! All this is like back in the days when Wal-Mart was crushing everyone. Guess what!?!? WMT is at it again. Over the past three years the stock has gone from the mid-teens to $60 (today's close.) NICE!!!!! Still, the other three stocks are cheap: Penney's P/E is 15, Kmart 11, and Sears 9!! But will they move? (Thanks Patricia Sellers!)

Rumors, outside of Sears, still persist that the Chairman of Sears Canada is the inside front runner to succeed Arthur. It maybe nothing more than a speculation, however this might be a timely.

One Company One border--two diverse attitudes... Sears U.S.A. versus Sears Canada....

Sears U.S.A. Chairman considers Sears retirees to be "dinosaurs and burdens" and treats them with disdain. Sears Canada Chairman considers Sears retirees to be a valuable asset, preserved their benefits and treats them with dignity.

A WSJ.COM News Roundup

TROY, Mich. -- Kmart Corp. on Wednesday named Charles C. Conaway, the No. 2 executive at CVS Corp., as chairman and chief executive of the retailer, replacing Floyd Hall, who is retiring.

Mr. Conaway, 39 years old, signed a five-year agreement with Kmart, the nation's third-largest retailer. Other terms of the agreement haven't been disclosed. He succeeds Mr. Hall, 61, who joined Kmart five years ago. Mr. Hall disclosed earlier in May that he planned to retire.

CVS, of Woonsocket, R.I., said Chairman and CEO Thomas Ryan will become president, a position he previously held until April of last year. The drugstore chain said it doesn't plan to search for a new president.

In addition to serving as president of CVS, Mr. Conaway also was chief operating officer and was responsible for all merchandising, advertising, store operations and logistics, as well as e-commerce operations. Mr. Conaway also had served on the boards of Linen 'n Things, Streamline.com and Health Connections.

"With a solid foundation, now it is time to transition to a new chairman and CEO," Mr. Hall said. "Chuck Conaway is recognized as a dynamic executive who understands the complexities of large, multi-site retailing."

Investors cheered the news of Mr. Conaway's appointment, boosting Kmart's stock $1.125, or 14.75%, to $8.75 in mid-afternoon trading on the New York Stock Exchange. Mr. Hall has been credited with breathing new life into the struggling Kmart chain when he took over in 1995. He quickly closed unprofitable stores, sold many of the retailer's foreign assets, and dressed up Kmart's existing stores. Over the last few years, the Troy, Mich., retailer has converted old stores to Big Kmart outlets, which include an expanded selection of merchandise, including small grocery sections.

Mr. Hall also brought in more fashionable clothing and added some key brands, such as the Martha Stewart Everyday home and garden line, which now has more than $1 billion in sales annually. But Kmart has had a tough time keeping pace with rivals such as Wal-Mart and Target. Kmart's stock has lost more than half of its value since last summer, due in part to the tough competition in the marketplace.

"Hall resurrected Kmart from its deathbed and took this company very far," said Jeffrey Edelman, a retail analyst at PaineWebber Group Inc. "But I think there is still farther to go."

Since Mr. Conaway was brought in from the outside, analysts believe that he will have to work hard to keep Kmart's top executive team in place. Vice Chairman Michael Bozic and head merchant Andrew Giancamilli were both passed over for the CEO slot. But Mr. Conaway won many fans on Wall Street during his tenure at CVS, where he helped build the drugstore chain into an industry powerhouse with more than 4,100 stores and annual sales topping $18 billion.

Under Mr. Conaway's watch, CVS bought online drugstore Soma.com last year, and renamed it CVS.com. CVS also has been moving its core stores from strip malls into more-profitable freestanding locations.

Mr. Conaway takes over the top post at Kmart just weeks after the retailer announced an ambitious plan for the next year to build its presence on the Internet as well as renovate and open new stores. Kmart operates 2,171 Kmart, Big Kmart and Super Kmart retail outlets in all 50 states, Puerto Rico, Guam and the U.S. Virgin Islands.

At the shareholders' meeting last month, Kmart said it would spend $340 million to open 20 new Big Kmart stores, expand 12 to 15 existing stores and adding five new Super Kmarts -- 24-hour centers that combine traditional Kmart discount stores with full grocery operations. In 2001, the plan calls for adding 30 Big Kmarts and 20 new Super Kmarts, as well as expanding 11 stores with new facilities.

Kmart also will invest $328 million -- up from $131 million in 1999 -- to improve its technology systems, including the installation of new scanners that will dramatically speed up time spent on check-out lines.

Kmart will roll out an online store called BlueLight.com this summer, which will eventually be stocked with about three times the amount of goods available at a Kmart store. Its free Internet service, also called BlueLight.com, now has more than two million users.

The Fortunate 100 
Ranked by 1999 Compensation
Can you guess who some of the leaders are?
May 15, 2000 - Crain's Chicago Business

CEO's in the top 100
(Compensation in thousands)
(I've reviewed only top 25 out of 100) 
Rank Number 14 - Arthur C. Martinez, 60 years old, Sears 
Total Income - $7,920.4, Salary - $1,200.0, 
Annual Bonus - $2,198.5, Long-term Incentives -$4,521.9 
Rank based on revenues -1 
Company net income - $1,453.0 Change from 1998 - 35.5% 
Average shareholder return - minus 25.5% 
Rank based on shareholder return - 84 
Market Capitalization - $11, 212.3

Highest Paid Non-CEO's
(Compensation in thousands)
(I've reviewed only top 25 out of 100)
Julian C. Day, Chief Operating Officer, Sears Ranked - 6th 
Total Income - $6333.8, Salary - $415.0, Bonus - $517.0,
Long-term incentives - $5,401.8 Exercise of options - none 
Rank base on revenues - 1 
Co. net income - $1,453.0 (Yes, that's billion) 
Change from 1998 - +35.5% 
Average shareholder return - minus 25.5% 
Rank based on average shareholder return - 10

Anastasia D. Kelly, Executive V/P, general counsel 
Ranked - 17 
Total Income - $3,998.9, Salary - $386.8, Bonus - $582.0 
Long-term Incentives - $3,030.1 Exercise of Options - none 
Rank based on revenues - 1 
Rank based on shareholder return - 10

Mark A. Cohen, Division President Ranked - 24th 
Total Income - $3,495.5, Salary - $500.0, Bonus - $623.0
Long term incentives - $2,372.5 Change from 1998 - 35.5% 
Average shareholder return - minus 25.5%

Comment: All figures are for 1999. Total compensation includes salary, bonus, and other compensation in cash or equivalents plus the value of stock options granted during fiscal 1999, using the Black-Scholes methodology. Long-term incentives were adjusted for risk of forfeiture because of job loss, retirement, etc. (Compensation does not include the value of options exercised in 1999; that compensation has been accounted for separately). The shareholder return is a 3-year average. 
Source: SCA Consulting

Directors Take Back Control
Mike Comerford, Daily Herald, Arlington Heights, IL 
May 14, 2000

When a company is floundering or undertaking a major transition, the buck has to stop somewhere.

In the past it was with the chief executive officer, which was only proper because the CEO had operational power. His bosses, the board of directors, were often part of his country club set. An interfering board of directors was simply not cricket.

The rules of the game, however, are changing. Although area companies this year are not radically changing the make-up of their boards, directors are being held more accountable for company performance by both shareholders and the courts. Consequently, CEOs are listening more closely to their directors and directors are second guessing CEOs more often.

"Boards are getting more, not less active," said James Drury, a Barrington Hills resident and the vice chairman of Chicago-based executive recruitment firm Spencer Stuart Management Consultants N.V. Drury has been involved in placing directors on the boards of Deerfield-based Baxter International Inc., Chicago-based Quaker Oats Co. and Elk Grove Township-based UAL Corp., parent company of United Airlines. "There are boards that are less active but even they will have to change," Drury added.

This month is heavily booked with annual shareholders meetings, a time when directorships are voted upon by shareholders. Schaumburg-based Motorola Inc. met May 1. Hoffman Estates-based Sears, Roebuck and Co. met last week. Northbrook-based Allstate Insurance Corp., Chicago-based Bank One Corp., Oak Brook-based McDonald's Corp. and UAL all convene their annual meetings this week.

Thursday's shareholder's meeting at Sears' headquarters in Hoffman Estates was perhaps a signal of times to come. Sears is facing monumental challenges in the coming year but it will be doing so as CEO Arthur Martinez prepares to leave his post. Its board of directors - which will choose his successor - was named one of the 25 worst board of directors in the country by Business Week magazine this year.

At Thursday's meeting, shareholders approved the naming of McDonald's President James R. Cantalupoo to the board and then turned around and voted for an advisory measure to cut the term of directors from three years to one year. The change in charter will take a year and need a 75 percent approval vote at next year's meeting, but it was widely seen as a shareholder call for more accountability from the board.

Just one director, retired head of Tupperware Corp. Warren Batts, predates Martinez coming to Sears to take over its retail operations in 1992. Yet in the five years between 1994 and 1999, Sears stock price lagged both the S&P 500 index and the S&P Retail Composite index.

"He (Arthur Martinez) has created one of the friendliest boards in the world," said Tom Dowd, a Sears retiree and shareholder. "I don't see how they let him go so long without doing something. They just went along for the ride."

Chicago-based Fruit of the Loom Inc. is another among the local boards ranked among the country's worst by Business Week. Not coincidentally, it is in the midst of Chapter 11 bankruptcy proceedings.

"The Fruit of the Loom board is a classic example of an insider board," said Wally Scott, professor of management at Northwestern's Kellogg School of Management. "They were heavily compensating (CEO William) Farley while the company was heading into bankruptcy."

Not surprisingly, the boards ranked the highest preside over companies showing growth. Locally, McDonald's was ranked the 23rd best board by Business Week. It has been diversifying and turning itself around after years of flat profit growth.

Other top boards, according to analysts, are General Electric Co., Johnson & Johnson, Campbell Soup Co., Intel Corp. and Lucent Technologies Inc.

The qualities that analysts look for in a board of directors are independence, frequent performance evaluations and activism.

Among local corporations that have had an active board in the last year, Bank One's directors have undertaken the biggest changes. Third-generation Bank One head John McCoy was nudged out of the chief executive's office in December by unhappy board members. Little more than a year after moving to Chicago to merge his former Columbus, Ohio-based bank with First Chicago NBD, his loyal faction on the board was not enough to overpower those losing money as the bank's stock plummeted. Where once McCoy had been given a free hand by the Bank One board to grow the small Ohio community bank into one of the top five banks in the country, the board eventually found it could not tell shareholders to overlook falling profits. The Bank One board's choice of former Citigroup President James "Jamie" Dimon as its new chief executive has proven to be popular among Wall Street pundits.

As boards are becoming more active, the selection of a board is becoming more of a science. "Boards are looking for directors with a strong financial background, a strong technical background and (mergers and acquisitions) experience," said Roger Raber, chief executive of the National Association of Corporate Directors. "That limits the horizon significantly."

Adding to the tight labor pool for director spots is the fact that many chief executives are being limited to two outside boardships. Compensation for a director of a company with $200 million to $700 million a year in sales averages $50,000 a year, which isn't enough for some CEOs who must expect to work about 250 hours a year for the pay.

Some companies, such as McDonald's, also require directors to invest heavily in the company to assure their mutual interests. The fast food chain requires its directors to have $175,000 in McDonald's stock after five years.

To attract the best talent, companies are sweetening the compensation packages. UAL offers directors and their families free transportation, cargo shipping and income tax coverage for board work. USA Today said that UAL director and investment banker Paul Tierney received travel privileges and income tax payments totaling $62,660 last year.

At Lake Forest-based sporting goods manufacturer Brunswick Corp., its outside directors get up to $4,500 a year in products plus tax payments. They also get free boat leases and Colorado's Vail Resorts allows them ski privileges.

Of major local corporations, Motorola has the highest compensation package for its directors, at $121,399. Most of that comes from the $67,899 worth of options it awards directors, linking their pay to stock performance.

With such compensation packages, said Ralph Ward, publisher of BoardroomInsider.com, Motorola and other area firms are able to attract top CEOs and specialists to their boards.

"If it is done right, a good board is the cheapest and best consulting a company can get," Ward said. Yet with the rise in their power, corporate boards are finding that some investors think the buck stops with both the CEO and corporate directors.

"With more power comes more liability," Ward said. "Investors are saying, 'You are responsible for what is going on and we're going to hold you to that.'"

CEO/Retirees See Two Sides to Sears 
Sandra Guy, Business Reporter, Chicago Sun-Times  -  May 12, 2000

Arthur Martinez sees nothing but sunshine as his eight-year reign as CEO of Sears, Roebuck and Co. nears an end. Retiree shareholders see nothing but rain.

Martinez told his last stockholders meeting Thursday that the country's second-largest retailer is considering plans to open free-standing stores selling appliances and home electronics, formerly called Brand Central, to better compete against rivals like Home Depot, Lowe's, Circuit City and Best Buy. The company also boasted a 17 percent earnings per share growth rate in 1999, from $3.32 to $3.89 a share, and is setting the pace for an Internet future, he said.

Yet shareholders lined up at microphones to question Martinez about lost life insurance, no-growth pension benefits and their concern that a proud culture is being lost. For the first time, a majority also approved shareholder activist Martin Glotzer's proposal to elect a new board of directors each year instead of having directors who serve staggered terms. The proposal narrowly failed last year.

Martinez said the board of directors will consider the recommendation, but he noted that it would require both the board's approval and a 75 percent supermajority of Sears' outstanding shares to take effect. He sought to minimize the impact of the vote by saying the 50.3 percent approval reflected a majority of only the 60 percent of the shares that voted, rather than of the total outstanding.

The board is weighted in Martinez's favor. Shareholders re-elected three directors Thursday, including two who came aboard during Martinez's tenure, and elected new member James Cantalupo, president and vice chairman of the board of Oak Brook-based McDonald's Corp.

The formerly 12-member board voted March 8 that it should become a 10-member board upon the retirement Thursday of two directors who joined during Martinez's tenure.

Before the shareholders meeting--the first held at Sears' Hoffman Estates campus--a group of retirees picketed outside. Two small planes buzzed overhead, each trailed by a banner. The banners read, "Sears Unfair to Retirees" and "Restore Promised Benefits."

They are protesting Sears' 1997 decision to cut $60 million in costs annually by reducing company-paid life insurance benefits for 84,000 retirees from a maximum of $100,000 to $5,000 during a 10-year period. Sears says the average employee benefit was $17,000, not $100,000, and a judge ruled March 17 that the company's benefit plan enabled it to make the cuts at any time.

Sears also contends that more than 85 percent of eligible Sears employees opt for lump-sum pension payments, and that the company this year is moving from a pension plan based on an employee's average pay for the last five years of his career to one based on an average of an employee's entire career pay because it's fairer.

The retirees intend to discuss with Martinez's yet-to-be-named successor and the new board of directors their concerns about the life insurance benefits, the lack of an annual cost-of-living adjustment in their pensions and the rising cost of health care, said Ev Buckardt of Lake Forest, chairman of the National Association of Retired Sears Employees.

Shareholders Divided Over Sears' Future 
Daily Herald, Arlington Heights, IL  -  May 12, 2000

Retirees lined the entrance to the Sears, Roebuck and Co. headquarters in Hoffman Estates in the drizzle on Thursday, refusing to let their life insurance benefits be cut without a protracted fight. Inside, the nation's second largest retailer's chief executive, Arthur Martinez, presided over his last Sears shareholders meeting, preferring instead to focus attention on more positive financial results from the last two quarters.

Such was the dichotomy of Thursday's annual shareholders meeting, divided between those who want the legacy of Martinez's last six years to be reversed and those who see a turnaround in the works.

Claiming to represent Sears' 133,000 retirees, members of National Association of Retired Sears Employees Inc. carried signs and speculated on the fate of their benefits after Martinez's planned retirement this year.

"It is going to go one of (three) ways," said Tom Dowd, a 30-year employee of the firm in its human resources department. "The new (CEO) will either say that our life insurance is old news. Or (the CEO) will say we don't want this hanging around and let's correct it. Personally, I think our chances are better in the courts."

The association is suing Sears for allegedly misleading employees into thinking their life insurance policies were vested and not subject to cutbacks. They contended that Martinez's legacy is one of poor top-line sales growth and a stock price, at $39 a share, that is lagging the rest of the stock market. However, Martinez countered questioners by pointing to $60 million in annual savings due to the benefit cutbacks. No consideration of reversing that policy is in the works, he said, adding that more employee and retiree benefits are being studied for cuts.

Addressing shareholders at the company's sprawling Prairie Stone campus, Martinez acknowledged that the chain's strategy began stalling in the late 1990s but he stressed that last years' "second revolution" is starting to take hold. "We delivered 17 percent earnings per share growth and we achieved record results for the year at $3.90 a share," Martinez told investors. "It may surprise you to learn that our return on equity is higher than Home Depot's and our return on invested capital matches Nordstrom's."

Martinez insisted he is leaving his successor a company on the rebound, adding that he foresees no significant slide in consumer spending in the second half of the year. "I'm very happy the company is as healthy as it is today," Martinez said after the meeting.

However, in a vote viewed as critical of the performance of Sears' board of directors, shareholders present voted to change directorship terms from three years to one year. The vote was advisory and no board action on the issue is likely before next year.

Credit Card Push Won't Recharge Sears' Strategy
Crain's Chicago Business, May 8, 2000

With its plan to issue a MasterCard, Sears, Roebuck and Co. is again showing the foresight and timing that made it a corporate dinosaur. The move might have made sense 10 years ago, before growth was slowing and profit margins shrinking in the general purpose credit card business. And before all the Sears store cardholders who will be offered the new MasterCard had been inundated with plastic from other issuers.

Why they would take another card from Sears is anybody's guess. But it's no secret why Sears is issuing it. Shoppers armed with bank cards bearing lower interest rates and offering sweet rewards programs are using the Sears store card less and less. That's disaster for a retailer that relies on credit for most of its profit.

The MasterCard move points up the central dilemma facing Sears. Stuck in an 
outmoded middle-market department store format, the company can't compete with discounters like Target or specialty stores like Kohl's in profitable lines like apparel. So, Sears falls back on its traditional strength in appliances — low-margin merchandise that turns a decent profit only when the buyer charges it on a Sears card at 20% interest.

As Sears searches for a CEO to replace the retiring Arthur Martinez, it should also look for a new business model that breaks the cycle of dependence between credit and retail.

Sears Seeks to Recharge Credit Cards
New MasterCard Faces Tough Rivals
By Eddie Baeb, Crain's Chicago Business - May 1, 2000 

After stabilizing its department stores, Sears, Roebuck and Co. is trying to revitalize its most profitable business credit.

Next month, the retailer plans to send 6 million holders of its Sears store card a Sears MasterCard. Sears hopes the move will spark growth in a credit operation in decline since a disastrous expansion in the mid-1990s buried the company in bad debt, and aggressive marketing by issuers of bank cards siphoned off many of Sears' best credit customers.

Issuing its own MasterCard gives Sears the opportunity to grow its credit business by financing transactions at other stores. It also reflects the reality that the Sears card — accepted only at Sears stores — has limited appeal in an era when general-purpose bank cards are easy to get.

But the move comes at a time when growth is slowing and profit margins are shrinking in the hotly competitive bank card business, where Sears will be up against bigger, more experienced rivals. Sears will have to accept lower interest rates than it's used to collecting on the store card, and also offer meaningful rewards to encourage shoppers to use the new card. And by giving customers purchasing power at other stores, the MasterCard undermines the traditional role of the credit business as a catalyst for Sears retail sales.

But the Hoffman Estates-based retailer had little choice. Its credit operation, which generated 56% of Sears' $2.4-billion operating profit last year, has seen a steady decline in credit revenues and outstanding balances on the store card. Even worse, the percentage of purchases charged to the Sears card has fallen below 50% as people opted for bank credit cards.

The company has long relied on its store card to drive retail sales. By extending credit to people who couldn't get it elsewhere, Sears created a captive market among people looking to finance major purchases.

And the store card complemented Sears' traditional retail strength in low-margin appliances. Selling a washing machine produces relatively little profit, but lending the customer the $400 purchase price at more than 20% interest turns the sale into a real money-maker.

But Sears CEO Arthur Martinez overplayed the formula in the mid-1990s when he ramped up credit card marketing and drew in hundreds of thousands of low-quality borrowers who ended up defaulting. That forced Sears to clamp down on credit as it absorbed the resulting losses.

While Sears was retrenching, bank card issuers offering lower interest rates began picking off the retailer's most creditworthy customers. The combined effect was to idle the engine of Sears' sales and profit growth.

Now, Sears is ready to grow the credit business again, aiming for double-digit increases in new accounts this year. In addition to the new MasterCard, Sears plans to introduce additional perks for the Sears Premier Card, and plans to launch a new proprietary card late this year linked to its Great Indoors stores.

Sears says its MasterCard, at least initially, will target only 10% of its 60 million account holders, people who either pay off their balances every month or don't use the card at all. But those people probably have other credit cards and will not be easily persuaded to switch to Sears' new card.

"Sears is going to be competing with MBNA, Citigroup, First USA — a crowd that has lots more scale, and frankly, more current experience in marketing a Visa or MasterCard product," says Scott Marks, who headed First Chicago NBD Corp.'s credit card operation before leaving the company, now Bank One Corp., in 1997. "The situation suggests that Sears is going to be at a competitive disadvantage."

And if Sears dips deeper into the credit pool, it will run two risks: higher defaults, and giving customers with credit only at Sears the power to shop at other stores. A company spokesman says the MasterCard will have an interest rate comparable to that of other "gold" cards, which typically range from 9% to 15%. To encourage shopping at Sears, the card will offer a lower interest rate on Sears purchases.

But Sears is launching its MasterCard at a time when most consumers believe they have enough plastic. Responses to direct-mail credit card solicitations fell to an all-time low last year of 1%, according to BAIGlobal Inc., a market research firm in Tarrytown, N.Y.

Also, heightened competition and industry consolidation have driven down interest rates and, in turn, cut profits for credit card issuers. Last year, issuers earned a profit of about 3% of receivables, according to industry statistics, down from more than 5% a decade ago.

"It's a highly competitive business with a lot of product out there," says Mark Alpert, credit card analyst with Deutsche Banc Alex. Brown in New York.

Other retailers have undertaken similar ventures in recent years, to compete with bank cards and also to encourage shopper loyalty.

Federated Department Stores Inc., owner of Bloomingdale's and Macy's, began issuing a Visa card in 1997. Cincinnati-based Federated offers cardholders discounts on future purchases and perks such as free gift-wrapping, free shipping for catalog purchases and exclusive events and promotions.

Besides competitive interest rates, Sears must devise a rewards program compelling enough to persuade consumers to choose its MasterCard over one offering airline mileage awards or automobile purchase discounts.

"They need to offer some value with the Sears card that customers can't get with other cards," says Dennis Shea, managing director of credit card consulting firm Auriemma Consulting Group Inc. in Westbury, N.Y.

Possible Move for Sears' Walters 
Keeps Retail Sector Buzzing
Top Job in United States

By Zena Olijnyk, The Financial Post
April 11, 2000

Retail watchers on both sides of the border are debating over whether Paul Walters, Sears Canada Inc. chairman, is a candidate for the top job at Sears, Roebuck & Co., the U.S. parent of Canada's most successful department store chain.

Since Sears, Roebuck announced last month that Arthur Martinez, its chief executive and president, will be retiring by the end of the year, retail experts and executive recruiters have been speculating about who will take over, and whether Mr. Walters is an internal candidate for the position. "His name has certainly been mentioned by those speculating on successors," said Peggy Palter, spokesman for Sears, Roebuck, based in Hoffman Estates, just outside Chicago, though neither confirming or denying whether he is on any internal list.

Even two Chicago daily newspapers, the Chicago Tribune and the Chicago Daily Herald, have printed stories quoting sources that name Mr. Walters as a potential candidate for the job, with the Tribune calling him a "turnaround wiz."

"He's the head of one of the most profitable divisions of Sears, Roebuck," said Richard Talbot, a Toronto-area retail consultant. "It would be natural that they [Sears, Roebuck officials] might consider bumping him further upstairs."

Mr. Walters' name has come up along with Sears, Roebuck executives Julian Day, chief operations officer, and Alan Lacy, president of the Credit and Home Services division. Others are suggesting an external candidate with a fresh perspective, perhaps someone outside retailing, would better fit the needs of Sears, Roebuck.

Sears has hired the Atlanta-based executive recruiting firm Heidrick and Struggles International to identify potential candidates. A spokeswoman for Heidrick and Struggles, reached yesterday, would only confirm "we have landed the search contract."

Some are suggesting it would be a long shot that the Canadian-born Mr. Walters would be vaulted to the top at the parent company, which owns 55% of Sears Canada. They point out that both Mr. Day and Mr. Lacy, for example, have worked closely with Mr. Martinez in an "office of the chief executive" that was created last September.

"I just don't know if someone with a background in Canadian retailing would be considered for the CEO of one of the largest chains in the U.S.," said one analyst, though he suggested Mr. Walters might be a good candidate to go to the United States as a vice-president with Sears, Roebuck.

But others say it would make imminent sense for Sears, Roebuck to consider Mr. Walters among internal candidates. They point to Mr. Walters' role in coming to Sears Canada in 1996, after the chain had announced massive layoffs, and helping to set it on a course of double-digit sales and profit gains.

Ms. Palter also pointed out that Mr. Walters first job after leaving his position as president of Zellers Inc. was as a special assistant to Mr. Martinez. This was before he was appointed chairman and chief executive of Sears Canada.

As for Mr. Walters, he demurred on answering the question of whether he was on any internal shortlist, saying in a recent interview the whole issue was "speculation" and "it would be better if you talked to Sears, Roebuck yourself."

One industry watcher suggested that even if Mr. Walters were being considered for the top post at Sears, Roebuck, he might not be interested -- at least at this point in his career. "There is still a lot for him to do here in Canada," said the source, pointing to the growth of Sears Canada's Internet business and the company's most recent coup, the purchase of the insolvent T. Eaton Co. chain.