Lord & Taylor Keeps Dragging Down Hudson's Bay: Why Does It Even Exist?

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On Wednesday, multinational department store giant Hudson's Bay (TSX: HBC) served up one of its worst earnings reports yet. Comparable store sales declined again, while gross margin contracted, causing the company's adjusted net loss to nearly double to 203 million Canadian dollars.

The third quarter was weak for most department stores. For example, even industry stalwart Nordstrom (NYSE: JWN) reported a 0.9% comp sales decline and a 27% decrease in adjusted operating income for the quarter. Still, Hudson's Bay fared particularly poorly. The bulk of its problems can be traced to the underperforming Lord & Taylor chain, which continues to be an anchor dragging the entire company down.

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Lord & Taylor is to blame -- as usual

Hudson's Bay has been reporting poor earnings results all year, and Lord & Taylor has been the culprit consistently. Unfortunately, Hudson's Bay doesn't report stand-alone sales and earnings results for Lord & Taylor, but it is still clear that the chain is floundering.

First, the company's namesake Hudson's Bay chain posted its 29th consecutive quarterly comp sales increase, but the department stores group segment (which includes Hudson's Bay, Lord & Taylor, and the smaller Home Outfitters chain) reported a 3.7% comp sales decline. Hudson's Bay accounts for 64% of the segment's square footage. With most of the segment thus delivering positive comp sales, Lord & Taylor probably had to post a double-digit comp sales decline for the segment as a whole to see a 3.7% decrease.

Second, Hudson's Bay reported that sales fell by 8.5% in the U.S. for the third quarter (to be fair, the sales decline would have been somewhat smaller if measured in U.S. dollars). Yet comp sales ticked up 0.2% at the Saks Fifth Avenue nameplate. Once again, the inevitable conclusion is that Lord & Taylor must have suffered a double-digit comp sales decline.

Moving in the right direction

Lord & Taylor appears to be hopelessly outgunned by upscale competitors like Nordstrom and Bloomingdale's, both of which have deeper pockets. Management contends that the stores are still profitable -- but that doesn't mean they can make enough money to cover the overhead costs associated with keeping the chain in business.

Furthermore, many Lord & Taylor locations sit on valuable real estate that could be monetized if the stores were closed. In the past few months, the company has started taking tentative steps in this direction.

In October, Hudson's Bay announced plans to sell the Lord & Taylor flagship store in Manhattan to an affiliate of co-working start-up WeWork for $850 million. Lord & Taylor would lease back a quarter of the building for a downsized 150,000 square foot store.

Last month, the company sold the leases for two stores to upscale mall operator Westfield for a total of CA$23 million. As a result, the Lord & Taylor stores in Annapolis, Md., and Skokie, Ill., will close next April. That will benefit Lord & Taylor's competitors, including Nordstrom, which operates stores at both of those malls.

Hudson's Bay should make a bolder move

Even after closing these two locations in Maryland and Illinois, Lord & Taylor will still operate 48 stores, mainly in the Northeast. That's a lot of valuable real estate being occupied by a chain that probably isn't profitable after accounting for overhead.

Earlier this year, activist investor Jonathan Litt of Land and Buildings Investment Management started pressuring Hudson's Bay to monetize any and all stores that aren't making enough money relative to their real estate value. The Saks Fifth Avenue chain has posted strong sales results recently, so it seems like most Saks stores might make the cut. The same can't be said for Lord & Taylor.

In several major metro areas, including New York, Chicago, and Washington, D.C., Saks Fifth Avenue and Lord & Taylor both have a presence, but Lord & Taylor has dramatically more stores. Some of those stores could probably be profitably converted to the Saks nameplate. Other Lord & Taylor locations could be monetized. This would reduce overhead and marketing costs, since Hudson's Bay would only have a single department store chain to run in the U.S.

Shutting down a storied retailer that has been in business for nearly 200 years would take a lot of courage. But it's becoming increasingly clear that it's the right move for Hudson's Bay.

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Adam Levine-Weinberg owns shares of Nordstrom. The Motley Fool recommends Nordstrom. The Motley Fool has a disclosure policy.