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Federated Department Stores, the nation's largest operator of department stores, reported third quarter earnings of $1.78 per diluted share. Headline results included a one-time after-tax gain of $384 mln, or $1.58, from the sale of receivables to Citigroup and after-tax costs of $39 mln, or $0.16, related to the initial stages of integrating the May Company merger, which closed on August 30th. Excluding those items and a $10 mln gain (or $0.03) related to Federated's portion of the Visa/MasterCard antitrust litigation settlement, Q3 (Oct) operating earnings checked in at $0.33 per share, which handily beat the Reuters Estimates consensus of $0.23 and exceeded the high end of management's revised EPS guidance of $0.20-0.25.


For the fourth quarter, management reaffirmed year/year same-store sales growth of 1-2% and Q4 (Jan) EPS of $2.35 to $2.45, excluding integration-related pre-tax costs of $100-150 mln. The addition of nearly 500 stores via the May merger positions Federated better to compete both inside and outside of the department store segment, yet investors should recognize near-term execution risks remain with the ongoing integration of the May acquisition.

Currently, FD is 18% below its 52-week high of $78.05 reached Aug. 1, having retreated on concerns about the impact of high energy prices on consumer spending. On a trailing 12-month basis, FD shares trade at 13.6x earnings, a slight premium to its 10-year historical average of 11.4x. At 12.7x the estimated FY06 EPS consensus of $5.02, the stock appears to look attractive compared to loftier P/E multiples of 24.0x and 36.5x for competitors Dillard's Inc. (DDS) and Saks Inc. (SKS), respectively.

Investors, however, will want to shop around for better growth opportunities within the underperforming retail space. Although FD could receive a near-term boost on its better than expected results, concerns about its merger integration and increasing competition from other retailers (i.e. discounters) leave current earnings prospects in doubt. As an aside, has maintained an Underweight rating on Consumer Discretionary since April 2004. In the ensuing period, the discretionary sector has increased 2.1% versus a gain of 7.9% for the S&P 500.
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