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Kmart downgraded to 'sell'
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January 2, 2002: 11:51 a.m. ET
Prudential cuts profit outlook, cites possible cash-flow problems.
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NEW YORK (CNN/Money) - Prudential Securities cut its outlook on discount retailer Kmart Corp. to a rare "sell" rating Wednesday, citing potential cash-flow problems and saying a Chapter 11 bankruptcy filing is likely if the company fails to show significant improvement in the first half of 2002.
Prudential retail analyst Wayne Hood lowered the rating from "hold" after slashing his fourth-quarter earnings estimate on the troubled chain to 20 cents a share from 43 cents.
Kmart (KM: down $0.93 to $4.53, Research, Estimates) stock has slumped 65 percent from its 52-week high of $13.55 to just under $5 a share. Shortly after 11 a.m. ET Wednesday, its shares had tumbled 13 percent to $4.76.
"In our opinion, the next six months represent a critical time for Kmart, and we would not be surprised if the company were to file Chapter 11 bankruptcy if trends do not improve," Hood said in a research note Wednesday.
A company spokesman said Wednesday that it has sufficient funds and available lines of credit to carry out its strategies.
Discount chains so far have been able to weather the economic downturn as skittish consumers turn away from higher-priced department stores and specialty shops. But Kmart, which has been spending millions on streamlining operations and turning around its stale image, reported December sales below company expectations.
Hood believes that could hurt the Troy, Mich.-based company's cash flow, which is crucial as Kmart converts many of its stores to super centers. He anticipates the company could be "cash flow neutral" in 2001 if inventories are flat compared with a year ago.
Hood also said Kmart could cut its 2002 capital expenditures budget in half to $600 million, and its 2003 plan by $500 million, as it repays more than $300 million in debt.
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The ratings downgrade comes about two weeks after Moody's Investor Services cut the company's debt rating.
Kmart has been scrambling to streamline operations under CEO Chuck Conaway, who took the helm in May 2000 from Floyd Hall. Conaway, 43, immediately tried to clean up the stores, making shelves neater and getting rid of loads of unwanted inventory through heavy discounts. The company also is installing more-modern customer checkout equipment to improve sales volume.
However, fierce competition from Wal-Mart, the world's biggest retailer, and other discount chains has made it difficult for Kmart to overcome the stodgy image it took on with consumers in the 1970s. 
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