Thursday’s Q3 earnings report from Macy’s, Inc. (NYSE:M) offered a glimmer of hope to investors as shares took a welcome 7% leap. But is this the start of a rebirth, or just a tease? As we approach the trough of consumer spending on department store apparel, Macy’s may finally be catching our attention, provided a recession doesn’t rain on their parade.
In Q3, Macy’s pocketed $0.21 in adjusted EPS, sailing right past the expected $0.01, though revenue still took a 7% dip from last year, landing at $4.9 billion. The company upped its revenue guidance by $100 million to $22.9-23.2 million, but same-store sales are still expected to sink 6-7% from last year. It also tightened its full-year earnings range to $2.88-$3.13 from $2.70-$3.20, implying Q4 sales of about $8.1 billion and $1.85-$2.1 in EPS
The harsh reality was apparent in Q3, with same store sales plunging 6.3% from last year, nearly 9% from two years ago. While Macy’s stumbled by 6.7%, Bloomingdale’s managed a lighter fall of 4.4%. As for bright spots, Bluemercury gleamed with a 2.5% rise, proving that cosmetics have held up better than clothing since the pandemic’s hayday. Nevertheless, department store sales are 4.1% below last year, while retail sales as a whole have increased by 2.5%.
Talk of overstretched consumers is everywhere, with credit card debt surpassing $1 trillion. However, disposable income is on the rise, putting credit card debt slightly below pre-COVID levels. With unemployment still low and retail earnings beating estimates, there’s reason to believe that consumers aren’t out of steam just yet.
The heartening news in Macy’s results was the 160bp bump in gross margins to 40.3%, reflecting a long-needed correction in over-optimistic inventory levels. Inventory shrinking by 6% from last year and 17% from 2019 suggests that the cleansing process has come to completion. However, operating leverage suffered a blow. Adjusted EBITDA fell 24%, with margins compressing by 140bp to 6.6%. Credit card net revenue also plummeted by 31%, as Macy’s braced itself for potential losses.
While the negative $555 million free cash flow year-to-date is alarming, the holiday season is bound to bring relief. Macy’s expects to rake in $800 million-$1.1 billion in free cash flow in Q4, as inventories and accounts payable normalize, culminating in about $400 million of free cash flow for the year.
With $3.2 billion of debt and $3 billion of leases, Macy’s has assured investors of a solid financial stance. The market’s indifference is evident in its $500 million valuation below book value, though there might be some hope for a modest bounce-back. At this stage, Macy’s might not be a growth dynamo, but signs of improvement in gross margins provide a glimmer of hope. If the tide turns in their favor, there’s potential for a 20% upside from here. Macy’s may just manage to swim against the current after all.
