December 4 2007: 10:44 AM EST
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Lampert vs. Sears' critics: Who's right?

The Sears chairman says the retailer has reduced debt and invested more than $1 billion in its stores, but on closer inspection, these arguments are less than they appear.

By Suzanne Kapner, Fortune writer

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(Fortune) -- Maybe Sears' critics have it wrong.

After the company's dismal third-quarter earnings report Thursday, which sent the stock down more than 10 percent late last week, its chairman, Edward Lampert, fired back. Contrary to Sears Holdings' (Charts, Fortune 500) detractors, who have warned for two years that the company's subpar investment in stores and lack of expertise in merchandising would erode profits, Lampert contends that Sears is making progress.

"In fact, over the past several years, we are one of the few retail companies that have actually reduced our overall debt levels, while at the same time investing over $1 billion on capital expenditures," Lampert wrote in an open letter to employees.

The letter also touts Sears' investment in inventory as well as other measures to improve sales. Lampert says the beleaguered retailer should get more credit for its strengths and be less penalized for weaknesses.

Lampert's comments, made public late last week in a regulatory filing that followed the company's earnings report, helped Sears' shares claw back some of their losses. In fact, Sears shares gained $4.95, or nearly 5 percent, to $110.46 on Monday.

On closer inspection, however, the letter's arguments are less than they appear.

Take the $1 billion in capital investment that Lampert refers to in his letter. Sure, this sounds like a lot of money, but it pales in comparison to what other retailers spend on store upkeep and expansion. Over the past 12 months, Sears spent 1.2 percent of its overall sales on capital expenditures. That compares with 7.1 percent for Target (Charts, Fortune 500), 4.4 percent for Wal-Mart (Charts, Fortune 500), and 2.2 percent for Costco (Charts, Fortune 500), according to Credit Intel, a credit research firm.

Analysts expect Sears to spend no more than $700 million on capital expenditures this year, a slight increase from the $513 million spent in 2006 -- paltry sums for a retailer with $30 billion in annual sales.

Plus, it's taken Sears nearly two years to get to that $1 billion mark. Consider that over the same period, Lampert has spent $3 billion buying back Sears' stock.

On the question of inventory, Lampert blamed Sears' bloated merchandise levels on a slowing economy that has caused consumers to delay purchases of items like appliances, tools and lawn and garden equipment, which account for a large chunk of Sears' sales. "Had the economic environment been different, certain actions may have led to different results," Lampert wrote.

To be sure, slowing consumer spending has hurt all retailers, Sears included. But the problems at Sears run deeper. Even in the best of economic times, Sears would still be struggling, because it has yet to find a formula to entice shoppers. Investing in inventory is worthless if a company is investing in the wrong inventory, as Sears seems to be. Analysts and frustrated consumers alike talk about how stores are frequently bare of essentials, but laden with out-of-season goods.

A visitor to the Oak Brook, Ill., Sears recently complained of a dozen unsold bicycles parked in the alley to the men's room. At the same time, shelves in the store's Lands' End department were bulging with summer shirts, this person said.

Lampert rightly points out that many of his rivals, including J.C. Penney (Charts, Fortune 500), Kohl's (Charts, Fortune 500) and Home Depot, have spent millions to open new stores and remodel existing locations and still experienced a sharp drop in earnings as the economy has faltered. "Spending lots of money doesn't always lead to the results people expect," Lampert wrote.

But by starving existing stores of capital, Sears is no better than a homeowner who forgoes that new roof. It can only rain for so long before the roof starts to leak. To top of page

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