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It's official: J.C. Penney will sell Eckerd stores

J.C. Penney Co. made it official Thursday. It's getting out of the drugstore business by unloading Eckerd Corp.

After months of hinting, the department store giant has decided to sell the 2,775-store Eckerd chain, signaling the end of a seven-year union that ran into trouble not long after it began.

Any of a handful of bidders negotiating for a piece of the nation's fourth-largest drugstore chain will decide its fate. The Plano, Texas, retailer will take $1.3-billion in charges against fourth-quarter earnings because of its decision to sell Eckerd.

The mood was subdued at Eckerd headquarters in Largo, where the jobs of more than 1,000 administrative workers moved a step closer to resolution. J.C. Penney has been shopping Eckerd for six months, but never confirmed a sale was the chosen option until Thursday.

"We're making sure the employees get the information so they know we're open for business as usual and can explain that what this means to customers," said Joan Gallagher, an Eckerd spokeswoman.

After months of rumors and published reports on the suitors, which include CVS Corp., a Canadian group and New York private equity firm Kohlberg Kravis & Roberts, the news was hardly a surprise.

"They've been trying to spin off or sell Eckerd for years," said Bill Dreher, an analyst with Deutsche Bank. "The only remaining questions now are who gets it, how much and what is Penney going to do with the proceeds."

Analysts expect J.C. Penney will get $4-billion to $4.5-billion for Eckerd, a chain acquired for $3.3-billion in cash and assumed debt and combined with two other chains and its 800-store Thrift Drug unit in 1997. Earlier, Penney officials hoped to get $6-billion to $7-billion for Eckerd.

While no deal has been struck, Penney's officials believed deals are imminent enough that accounting rules required they drop Eckerd's results from their balance sheet for the quarter that ended Jan. 31. The company is carrying Eckerd on its books as a "discontinued" asset "being held for sale."

"We have concluded that a sale of Eckerd, at an appropriate price, is in the best interest of our customers, associates and shareholders," Allen Questrom, Penney chief executive said in a written statement.

Questrom was conspicuously absent from Penney's earnings conference call Thursday when the write-downs were announced. So was Wayne Harris, the Eckerd chairman and chief executive, who was in Largo, where he will continue running the chain while its sale is completed. Penney declined to field questions about the negotiations.

Harris circulated a letter among employees in 23 states informing them the company is being sold.

"I know this prolonged period of uncertainty has been difficult for many of us, and confusing for many of our customers," Harris wrote. "You should know that while some change is inevitable, what will not change is the outstanding customer experience that Eckerd represents."

The Eckerd suitors declined to comment publicly on Thursday. But it is clear that negotiating a deal has taken longer because Eckerd is too spread out to be swallowed whole by any of the nation's big drugstore chains. Duplicate stores and antitrust concerns in many markets mean the collections of stores likely will have to be split up.

"Nobody can buy the whole thing and keep it," said Mark Husson, an analyst with Merrill Lynch.

CVS Corp. is interested mainly in 1,100 Eckerd stores in the Sun Belt including Florida, Louisiana and Texas. CVS is part of a team led by Kohlberg, Kravis & Roberts, a New York buyout firm, that is interested in running the rest of the company. KKR in 2001 acquired and turned around the 850-store Shoppers DrugMart chain in Canada.

Another bidder is Jean Coutu Group, a Canadian chain that operates the 250-store Brooks Pharmacy chain in the Northeast. Coutu is interested primarily in Eckerd stores that help it expand Brooks into adjacent states. Rite Aid Corp., a Camp Hill, Pa., company that runs the nation's third-largest drugstore chain, is interested in acquiring a few markets.

"The Eckerd name still has value," said Walter Loeb, a New York retailing consultant. "But if CVS gets the Florida stores and a financial buyer like KKR takes the rest and runs them as Eckerd, eventually efficiency will dictate the headquarters not remain in Florida."

The fate of Eckerd Health Systems, Eckerd's huge mail-order pharmacy that employs more than 1,000 in Largo and Pittsburgh is up the air. Analysts estimate the business unit is worth about $700-million.

Penney bought Eckerd to smooth out the peaks and valleys of its department store business. James Oesterreicher, Penney's former chief executive, saw the Eckerd purchase as part of his legacy to the century-old retailer.

But in the process, the drugstore business grew from a side business to 45 percent of the parent company's revenues.

Oesterreicher saw Penney catalog desks in Eckerd stores, new business for the Penney credit card and a new distribution point for the JCPenney catalog.

But within three years the test of 250 catalog desks was junked. Penney sold its credit card business. Penney catalogs were no longer available at Eckerd stores.

"Nobody rose to question the acquisition because this was Jim's baby, his legacy," said Bill Hare, a one-time J.C. Penney speech writer who recently authored a book about the period called Celebration of Fools: An Inside Look at The Rise and Fall of JCPenney. "Later there were serious turf and political battles over the allocation of resources between the department store and drugstores."

Questrom was brought in to pick up the pieces and dramatically overhaul Penney in 2000. He confessed he did not see where drugstores fit in. But he hired Harris and was willing to see if the chain could be turned around. After two consecutive quarters of deteriorating sales and profits in 2003, Questrom decided Eckerd was too much of a profit drain and distraction to the department store chain's recovery.

"Clearly, J.C. Penney did not know much about running drugstores," said Loeb.

J.C. Penney reported a loss of $1.07-billion, or $3.42 a share, for the fourth quarter. That's compared with net income of $202-million or 68 cents a share, for the year-ago quarter. Reported revenues, which did not include Eckerd, were $6.1-billion, up from $5.7-billion. Eckerd's fourth quarter operating profit was reported as $85-million, down sharply from $160-million. As recently as December Penney reported Eckerd's sales as slumping 2.5 percent among stores open more than year.

Analysts figure Penney will pay down debt with half the cash and use the rest to buy back its outstanding stock. After hitting a 52-week high of $31.29, J.C. Penney stock closed Thursday at $31, up $1.24.

- Mark Albright can be reached at albright@sptimes.com or 727 893-8252.

Kohlberg, Kravis & Roberts, a New York private buyout firm that that has bought, fixed and resold several troubled companies, including Walter Industries in Tampa. Emboldened by its success turning around and selling Shoppers DrugMart, an 844-store chain based in Toronto, KKR would keep the Eckerd name in Northern states but sell stores in the South.

CVS Corp., a Woonsocket, R.I., chain that has opened about 70 stores in Florida but wants hundreds more in Eckerd strongholds in the Sun Belt, including the 1,100 in Florida and Texas. It has been a partner with KKR.

Jean Coutu Group, a Longueil, Quebec, company that runs a chain of franchised drugstores in Canada and the 250-store Brooks Pharmacy chain in the Northeast. It likely can afford only to pay about $1-billion for Eckerd stores in the Northeast.

Rite Aid Corp., the Camp Hill, Pa., drug chain that pulled out of Florida a decade ago. Angling to acquire stores in selected markets.

Penney's buys 270 Faye's Drugstores in North Carolina and 160 Rite Aid stores in North Carolina and South Carolina to combine with its 800-store Thrift Drug chain.

1997: J.C. Penney completes its purchase of the 1,700-store Eckerd chain, creating a 2,800-store behemoth that is briefly the nation's second-largest drugstore chain.

1999: Eckerd does so well and JCPenney department stores so poorly that Penney talks about making Eckerd a separate tracking stock.

2000: Penney auditors discover Eckerd has been underreporting its inventory losses to shoplifters and employee theft by $74-million a year. About 300 unprofitable stores are closed. New leadership hired to fix parent company and Eckerd, including its behind-the-curve technological infrastructure.

2001: J.C. Penney's new CEO Allen Questrom doesn't see where drugstores fit in, but is willing to keep Eckerd if it begins meeting profitability goals. New management at Eckerd shelves new store construction plans to retrofit existing stores to a more promotional version. CVS decides to move into Florida and Texas.

2003: Rival Walgreens reaps the benefit of flooding Florida and Texas with new stores over the past decade. Sales slump at Eckerd, which opened only a handful of stores for three years. Eckerd fails to meet profitability goals two consecutive quarters.

2004: Questrom gives up on Eckerd. J.C. Penney decides to sell Eckerd and stick to department stores.