Macy's Still Faces Uncertainty in Holiday Season

Despite a steep year-over-year decline in sales, no-moat Macy’s (M) results for the third quarter of 2020 were slightly better than we had anticipated. The retailer reported a same-store sales decline of 21% on owned sales, 2 percentage points better than our negative 23% forecast. But Macy’s faces considerable uncertainty as it enters the critical final weeks of the holiday selling season due to the rising number of COVID-19 cases and the possibility of new restrictions on stores and malls. The firm did not provide specific guidance for the fourth quarter and does not intend to report holiday sales until it reports its year-end results. We do not expect to make any significant change to our per share fair value estimate of $16.30 and continue to view Macy’s as undervalued. While it has significant problems, we do not think Macy’s will fall into financial distress and believe it can return to profitability next year.

Macy’s gross margin of 35.6% in the quarter basically matched our forecast of 35.5%. Yet, its adjusted EPS loss of $0.19 was significantly better than our expectation of a $0.74 loss due, in part, to surprisingly strong credit card revenue, which came in 39% above our forecast and helped it achieve positive EBITDA. As it carries no cost of goods, credit card revenue has an outsize impact on Macy’s profitability. The firm also benefited from cost cuts that were larger than we had anticipated. Its selling, general, and administrative expenses fell 22% compared with our forecast of an 18% drop on tight variable-cost control. Macy’s expense performance provides confidence that it can meet the three-year goal under its Polaris restructuring plan of $1.5 billion in annual SG&A savings.

As retailers have expanded the holiday selling season, Macy’s noted that it likely pulled some November sales into October. Macy’s near-term prospects could brighten if a new federal stimulus program is passed.