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We reaffirm our Neutral recommendation on Saks Inc. following appraisal of first-quarter fiscal 2013 results, wherein modest revenue growth was offset by higher cost of sales and declining operating margin.

Why the Reiteration?

On May 24, Saks Inc. delivered first-quarter fiscal 2013 results wherein earnings remained flat year over year. Earnings were in line with the Zacks Consensus Estimate as the company’s initiatives in omni-channel retailing helped the company gain sales.

Saks managed to post modest net sales gains of 5.3% backed by the success of its omni-channel initiatives (multi-channel retailing enables consumers to experience shopping through all available shopping channels such as mobile internet devices, computers, television, catalog and others). Comparable store sales went up by 4.2% backed by strong sales in categories like women's and men's contemporary apparel and advanced designer apparel; dresses; women’s shoes; handbags; children’s apparel; and men’s accessories, shoes and contemporary apparel.

However, higher cost of sales pressurized margins and although gross margin remained flat, operating margin shrank 160 basis points due to increase in selling, general and administrative expenses and investment in omni-channel initiatives. Ongoing macroeconomic challenges and sequestration adopted by the Federal government have led to reduced discretionary spending by customers. This is affecting Saks highly as it primarily focuses on the luxury retail sector. However, Saks adopted the system much later than its peer Macy’s Inc. (M - Analyst Report). While the company is still in a testing period, Macy’s is already reaping great profit from the system.

We feel that Saks’ omni channel retailing will help it to boost sales in the coming quarter. Moreover, the ramped up marketing will help SKS to gain market shares. Management has taken several initiatives to improve its margins for the coming quarters. Saks has recently ramped up its marketing and promotional activity (advertising campaigns and loyalty credit card programs) to boost sales. Although such promotional campaigns have decreased merchandise margins, it is expected to drive earnings over the long term.

This Zacks Rank #3 (Hold) company has invested in some operational and strategic initiatives in fiscal year 2013 to improve its operational efficiencies. Moreover, management narrowed its fiscal 2013 earnings guidance range, which reflects the strategic initiatives taken up by the company.

We are also encouraged as Saks entered into a divestiture agreement in Jul 2013, with Canada’s private retailer Hudson’s Bay, parent of apparel chains like Lord & Taylor’s in the U.S. Per the deal, Hudson’s Bay will pay $29 billion to secure the transaction, expected to close by the end of 2013.

We are encouraged by the divestiture as it will provide Saks an easy access to the Canadian markets through Hudson’s already established market in the region. This is particularly significant as Saks’ close competitors Nordstrom Inc. (JWN - Analyst Report) and Target Corporation (TGT - Analyst Report) are planning to expand their presence in Canada in the current fiscal.

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