Fitch Downgrades Sears Holdings IDR to 'B+'; Outlook Stable

NEW YORK--(BUSINESS WIRE)--Fitch Ratings has downgraded the following ratings:

Sears Holdings Corporation

--Long-term Issuer Default Rating (IDR) to 'B+' from 'BB';

--Secured bank facility to 'BB+/RR1' from 'BBB-'.

Sears, Roebuck and Co. (Sears)

--Long-term IDR to 'B+' from 'BB'.

Sears Roebuck Acceptance Corp. (SRAC)

--Long-term IDR to 'B+' from 'BB'.

Sears DC Corp. (SDC)

--Long-term IDR to 'B+' from 'BB'.

Kmart Holding Corporation (Kmart)

--Long-term IDR to 'B+' from 'BB'.

In addition, Fitch has affirmed the senior unsecured and short-term ratings and assigned Recovery Ratings as follows:

Sears Holdings Corporation

--Senior unsecured notes at 'BB/RR1'.

Sears, Roebuck and Co. (Sears)

--Senior unsecured notes at 'BB/RR1'.

Sears Roebuck Acceptance Corp. (SRAC)

--Senior unsecured notes at 'BB/RR1';

--Short-term IDR at 'B';

--Commercial paper at 'B'.

Sears DC Corp. (SDC)

--Senior unsecured notes at 'BB/RR1'.

Approximately $3.6 billion of total debt (including Sears Canada debt and capitalized leases) was outstanding as of Aug. 2, 2008. The Rating Outlook is Stable.

The rating actions reflect significant pressure on operating margins on negative comparable store sales trends and continued share repurchases in the current challenging operating environment leading to weaker credit metrics. In addition, the longer term retail strategy remains unclear, particularly given the announced changes to Holdings' organizational structure earlier this year, which could lead to operational disruption in the near term. This is balanced by Holdings' broad market presence in the moderate department store, hardline and discounter segments, strong proprietary brands, and adequate liquidity position.

The company continues to experience negative comparable store sales at both its Sears and Kmart stores. Sears, with sales of $27.3 billion in the latest 12 months (LTM) ended Aug. 2, 2008, has posted declines in comparable store sales for the past eight years, reflecting competitive pressures and inconsistent merchandising execution. The recent deceleration in comparable store sales is being compounded by overall weakness in apparel and home-related products. Kmart's sales, which totaled $17 billion in the LTM period, stabilized in 2005-2006 following three years of sharp declines, but have been on a decline since then even as its discounter peers report positive comparable store sales. The company's challenge will be to generate longer term sales and earnings growth at both Sears and Kmart in the face of growing competition within the department store sector and continued share gains by discounters and big-box specialty retailers.

With a domestic comparable store sales decline of approximately 7.5% in the first half of 2008 (8.6% in the first quarter and 6.2% in the second quarter), operating income declined to $56 million from $657 million (excluding one-time items) in the comparable year ago period. As a result, LTM credit metrics have deteriorated with adjusted debt/EBITDAR at 3.9 times (x) versus 3x times at the end of 2007 and 2.45x at the end of 2006. LTM EBITDAR/interest plus rents decreased to 2.4x from 2.8x at the end of 2007 and 3.5x at the end of 2006. Credit metrics are weaker in spite of the reduction in long-term debt over time. While Sears is taking steps to control expenses and has reduced comparable inventory by approximately 5% at the end of the second quarter, Fitch expects leverage could increase further on continued sales and profit deterioration.

Current liquidity remains solid, supported by a cash balance of $1.5 billion and $2.2 billion of availability remaining under its $4 billion credit facility due March 2010. However, future liquidity levels could decline given lower cash balances and the potential for reduced excess availability if the bank facility is downsized. Cash balances have declined from $4 billion at the end of 2006 due to significant share repurchases of $2.9 billion in 2007 and approximately $0.5 billion in the first half of 2008. Domestic cash balances have declined from $3.3 billion to $771 million at the end of the second quarter.

The issue ratings shown above are derived from the IDR and the relevant recovery rating. Holdings' $4 billion senior secured credit facility is rated 'BB+/RR1', indicating outstanding (90-100%) recovery prospects in a distressed scenario. Holdings provides a downstream guarantee for SRAC and Kmart's borrowings under this facility, and there are cross-guarantees between SRAC and Kmart. The facility is secured by domestic inventories and credit card receivables. The collateral can be released in the event the company achieves certain performance targets or ratings levels. If the collateral is released, leverage and asset coverage tests would become effective.

The senior unsecured notes are rated 'BB/RR1', indicating outstanding recovery prospects but are rated one notch below the secured facility, indicating a distinction between secured and unsecured securities. The SRAC senior notes are guaranteed by Sears, which agrees to maintain SRAC's fixed charge overage at a minimum of 1.25 times (x). In addition, Sears DC Corp. (SDC) benefits from an agreement by Sears to maintain a minimum fixed-charge coverage at SDC of 1.005x. Sears also agrees to maintain an ownership of and a positive net worth at SDC.

Fitch's rating definitions and the terms of use of such ratings are available on the agency's public site, www.fitchratings.com. Published ratings, criteria and methodologies are available from this site, at all times. Fitch's code of conduct, confidentiality, conflicts of interest, affiliate firewall, compliance and other relevant policies and procedures are also available from the 'Code of Conduct' section of this site.