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TEXT S&P revises Kohl's outlook to negative from stable
December 12, 2012 / 4:36 PM / in 5 years

TEXT S&P revises Kohl's outlook to negative from stable

7 Min Read

     -- We expect profitability at U.S. specialty department store Kohl's 
Corp. to narrow in the remainder of fiscal year ending Feb 2, 2013,
given weak sales trends and lead to a modest deterioration of credit protection
     -- We are affirming all ratings on Kohl's, including the 'BBB+' but 
revising the outlook to negative from stable.
     -- The negative outlook on Kohl's reflects our expectation that weak 
sales trends could persist into 2013 due to merchandising issues and 
competitive pressures, resulting in a further constraint on its credit 
protection measures.

Rating Action
On Dec. 12, 2012, Standard & Poor's Ratings Services revised its outlook on 
Kohl's Corp. to negative from stable. We affirmed all ratings on the company, 
including the 'BBB+' corporate credit rating.

The outlook revision is based on our expectation that weak sales could 
continue into 2013 and result in a further deterioration of the company's 
credit measures. 

The ratings on Menomonee Falls, Wis.-based Kohl's Corp. reflect our assessment 
of a "satisfactory" business risk profile and an "intermediate" financial 

We expect Kohl's to maintain a satisfactory business profile supported by a 
solid market position as a family-oriented specialty department store, good 
execution of a value-focused merchandising strategy, solid measures of 
profitability, and geographic diversity.

Kohl's sales trends have weakened in recent quarters and lagged its peers. 
Comparable store sales declined 1.1% year to date as of Nov. 29, 2012. We 
believe competitive pressure and merchandising issues have contributed to the 
sales weakness and now expect sales trends to remain soft for the remainder of 
this year. We also expect margins to contract significantly due to price 
investments to increase value offerings as well as promotions to drive sales. 
Kohl's has achieved strong growth of online sales, but this segment has a 
lower gross profit margin (29%) than its stores (38%). Still, we expect Kohl's 
operating performance to remain adequate. Kohl's operating metrics, which 
include EBITDA margins and sales per square foot, still compare favorably with 
its peers due to its higher mix of private-label and exclusive brand 
penetration and its low-cost store development strategy. Still, Kohl's 
participates in the highly competitive midtier department store sector, which 
remains under pressure because of the weak U.S. economy and cautious consumer 
spending. Kohl's focus on maintaining a low-cost structure similar to that of 
discount stores, keeping real estate and construction costs low, and using 
relatively inexpensive store decor and fixtures are central to its moderate 
pricing strategy and overall good profitability.

Our revised assumptions for fiscal 2012 are:
     -- Sales growth of 1.9% as store growth and robust online sales growth 
offsets a 2% decline in sales per square foot;
     -- Gross margin declining 120 basis points (bps) due to price investments 
and increased promotional activity to drive sales;
     -- EBITDA margin contracting 140 bps due to some sales deleveraging and 
declining gross margins;
     -- We expect free cash flow to remain solid at over $800 million as 
Kohl's reduces capital spending to about $800 million; and
     -- Debt leverage to increase to about 2.4x as EBITDA declines by about 7%.

We also believe Kohl's will maintain a moderate financial policy commensurate 
with the investment-grade rating. We view Kohl's financial risk profile as 
intermediate. For 2012, we expect total debt to EBITDA to reach 2.4x compared 
with 2.1x in 2011; EBITDA interest coverage to decline to the mid-5x area 
compared with 6.0x and we project funds from operations (FFO) to debt to 
narrow to 27% from 33%. In light of softening sales and margins, Kohl's plans 
to scale back store openings and remodels to about 12 new stores and 30 
remodels in 2013. We expect the company to fund share repurchases and dividend 
payments with excess cash flow, thereby maintaining credit ratios in line with 
an intermediate financial risk profile.

We believe Kohl's liquidity is "strong," indicating that cash sources should 
exceed cash needs over the next 12 to 24 months. Our view of the company's 
liquidity profile incorporates the following expectations:

     -- Sources to cover uses by more than 1.5x;
     -- We expect net sources of cash would be positive, even with a 30% drop 
     -- Kohl's has well-established and solid relationships with banks, and 
has a generally high standing in the credit markets;
     -- Kohl's likely can absorb low-probability shocks, based on positive 
cash flow and current cash balances; and
     -- Manageable debt maturities over the intermediate term.

Cash sources include about $550 million of cash on hand as of Oct. 27, 2012, 
free operating cash flow (FOCF) of over $800 million in 2012, and 
approximately $1 billion available under its credit facility.

Cash uses include about $800 million of capital expenditures for 2012. The 
company recently increased its share repurchase program by $3.2 billion to 
$3.5 billion and expects to complete this program in the next three years. We 
expect the company to use its free cash flow to fund share repurchases and 
dividends payments.

The negative outlook on Kohl's reflects our expectation that weak sales trends 
could persist into 2013 due to merchandising issues and competitive pressures, 
resulting in a further deterioration of its credit protection measures.

We could lower the rating if Kohl's sales and profitability underperform our 
expectations, such that EBITDA falls 15%, causing leverage to approach 2.6x. 
This could occur if sales decline 1% and gross margin narrows 170 bps. We 
could also consider a downgrade if Kohl's leverage rises to the 2.6x as a 
result of increased share repurchase activity.

We will consider an outlook revision to stable if Kohl's can restore sales and 
profit growth while lowering debt leverage to the low-2.0x area on a sustained 
basis. For this to occur, EBITDA would need to increase about 5% from fiscal 
2011 levels on a 4% revenue growth, while gross margin remains flat.

Related Criteria And Research
     -- Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012
     -- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011
     -- Use Of CreditWatch And Outlooks, Sept. 14, 2009
     -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008

Temporary contact numbers: Ana Lai (917-584-4772); David Kuntz (646-596-1505)

Ratings List

Ratings Affirmed; Outlook Action
                                        To                 From
Kohl's Corp.
 Corporate Credit Rating                BBB+/Negative/--   BBB+/Stable/--
 Senior Unsecured                       BBB+               BBB+

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