At Macy's, supplier size matters

Before apparel maker Phillips-Van Heusen Corp. agreed to buy preppy American brand Tommy Hilfiger Corp. the chief executives of both companies talked with their biggest U.S. customer: Macy's Inc.

PVH Chief Executive Emanuel Chirico during a meeting with Macy's Chief Executive Terry J. Lundgren sought to allay any concerns that Hilfiger products would eventually become available at competing retailers in the U.S., where Macy's has exclusive rights.

"Terry, before you ask the question, let me be very clear: This brand is going to stay exclusive to Macy's, because we know it's important to you, and you're extremely important to us," Mr. Lundgren recalled being told by Mr. Chirico, who confirmed the exchange.

PVH's $3 billion acquisition of Hilfiger, disclosed March 15, is the biggest apparel deal in years and gives the maker of Calvin Klein sportswear and Kenneth Cole dress shirts access to higher-margin international markets, where Tommy Hilfiger generates 60% of its sales.

On Monday, PVH said the deal will add between 20 and 25 cents a share to its fiscal 2010 earnings, excluding integration costs of about $1 a share. The company swung to a profit of $27 million, or 51 cents a share, in the quarter ended Jan. 31, compared with a loss of $37.9 million, or 74 cents a share, a year earlier. Revenue rose 6% to $614.6 million, as the company's Calvin Klein brand saw a 22% increase in royalty revenues and sales at its wholesale and retail businesses rose.

The deal underscores how Macy's is refashioning the U.S. apparel industry. By leveraging its size to obtain exclusive deals with vendors from Hilfiger to Martha Stewart Living Omnimedia, and consolidating its regional buying offices, Macy's has been able to distinguish its offerings from its competitors. The strategy favors vendors with the scale to supply the chain and the inventory-management technology to keep up with its whims. That has forced apparel vendors to consolidate.

"Macy's may not be a monarch, but they are an oligarch," said Michael O'Hara, founder of Consensus Advisors, a boutique investment bank that focuses on retail. "If you are doing business with them, you better be big and nimble."

The Hilfiger acquisition will catapult PVH from its spot as the seventh-biggest U.S. apparel maker to third-biggest behind VF Corp. and Polo Ralph Lauren Corp., with a projected $4.8 billion in fiscal 2010 revenues. The combined company will be the largest vendor in Macy's menswear category and is rapidly expanding its women's wear business.

The two companies booked $435 million in combined sales to Macy's last year, compared with $285 million for PVH alone.

Macy's clout has grown since 2005, when the chain then known as Federated Department Stores bought competitor May Department Stores. The company is now a national powerhouse with about 850 stores and some $23.5 billion in 2009 revenues.

That consolidation is risky for suppliers, whose survival could be in jeopardy should a major retailer abruptly curtail orders. PVH's expanding portfolio of brands, starting with Calvin Klein in 2003 and now to Tommy Hilfiger has helped mitigate that risk. Even though the value of its sales to Macy's will rise following the acquisition, the company's overall reliance on the retailer will fall. Sales to Macy's will account for about 9.5% of the combined companies' total, compared with 11.9% for PVH alone, owing largely to Hilfiger's extensive international sales.

For retailers such as Macy's, there are significant advantages to dealing with larger players. Bigger vendors tend to have more sophisticated distribution and inventory-management systems, which have become increasingly important to Macy's merchandise localization, which varies store assortments according to local tastes.

Macy's Mr. Lundgren says that being big, in and of itself, "is not the answer." The key, he insists, is being big and responsive to Macy's needs. "If they are big and not performing, then they will become smaller," he said. PVH recently bumped two rival dress shirt brands off Macy's floor by spending less than $2 million to buy out the inventory. In exchange, PVH will get increased floor space, which it will occupy starting in the second quarter of this year.

Since the fall of 2008, Macy's has been the only retailer besides Hilfiger's branded stores to carry the line in the U.S. Hilfiger is now carried in almost all 800 Macy's locations and features in its marketing. The deal provided a fillip for the brand, which was losing money in the U.S. at the time it was taken private in 2006 by private-equity fund Apax Partners.

"It turned our entire U.S. business around," Tommy Hilfiger said in an interview. PVH thinks its sophisticated inventory-management systems will allow it to wring more profitability out of Hilfiger's business with Macy's.

The company is planning to expand the number of product categories that Hilfiger sells to Macy's. Last year, for example, Macy's asked Hilfiger to launch a children's line and the company is now planning on boosting its shoes and accessories assortments.

"They've barely scratched the surface when it comes to accessories for men and women," says Mr. Lundgren. "This is all new growth for them."