OREANDA-NEWS. Fitch Ratings has affirmed the ratings on Nordstrom Inc., including the Issuer Default Rating (IDR) at 'BBB+'. The Rating Outlook is Stable. A full list of rating actions follows at the end of this release.

KEY RATING DRIVERS

The ratings reflect Nordstrom's position as a market share consolidator in the apparel, footwear and accessories space, differentiated merchandise and a high level of customer service which have enabled the company to enjoy strong customer loyalty. Nordstrom has a well-developed offering and footprint in the full price, off-price and online channels which should enable the company to generate mid-single digit top line growth over the intermediate term. In addition, unlike its mid-market department store peers, Nordstrom's higher-priced and fashion-forward merchandise positioning at full line stores should continue to provide market share protection against lower-end competitors.

Nordstrom has industry-leading sales productivity, with EBITDA margins that are in line with other industry leaders in the department store space such as Macy's Inc. and Kohl's Corp. However, increased investments to support online sales growth as well as Nordstrom's other business initiatives, including its entry into Canada, will put pressure on EBITDA margin over the next 2 - 3 years, with margins expected to decline to the 11% - 11.5% range from 12.8% in 2015.

Nordstrom's comparable store sales (comps) growth in 2015 was 2.7% compared to 4% in 2014, with comps slowing down to the 1% range in 2H15. Overall sales grew 7.5% given five full-line (including Canada) and 27 Nordstrom Rack (Rack) store openings, and strong performance from the online off-price channel. The performance is strong relative to Fitch-rated department stores, which saw comps decline approximately 0.5% in 2015, and the overall department store industry sales decline of 1.7%.

Additionally, there has been a general slowdown in apparel and accessories sales which grew 2% in 2015, indicating strong share gains for Nordstrom. Fitch expects Nordstrom's comps to grow in the low single digits and overall top line to grow 4% to 5%, primarily driven by continued growth in its online sales and Rack businesses with segment forecasts detailed below.

Full-line stores (53% of total sales; Fitch projects this at 43% by 2020): Fitch expects full-line store comps to be flat to modestly negative due to share shift to the off-price and ecommerce channels. Total sales growth for full-line stores is expected to be flat, given minimal new full-line store openings over the next few years, including its expansion into Canada, where the company sees the opportunity for about 8 - 10 full-line stores. Revenue from U.S full-line stores is expected to decline around 1% annually from a current base of $7.6 billion. This decline should be more than offset by buildout of the Canadian business, which Fitch expects could grow to approximately $400 million to $500 million by 2020.

Nordstrom Rack (25% of total sales; projected at 27%): Fitch expects overall Rack sales to grow in the high-single digits over the next two to three years, assuming 20 new store openings annually (from the current base of 194 units) contributing 8% - 10% to Rack's top line, and flat to modestly positive comps. Comps declined to negative 1% in 2015 from 3.8% in 2014 and 2.7% in 2013 and Fitch attributes the decline to the heightened promotional activity in its full-line stores and overall department store and apparel sector.

Direct Channel (16% of total sales; projected at >20%): The direct channel, or Nordstrom.com, continued its double-digit growth in 2015 and ended the year with $2.3 billion in sales. Fitch expects Nordstrom's direct channel to grow by 10% - 15% annually as consumers continue to shift spending towards the online channel.

Other (6% of total sales; projected at 10%): Nordstrom has also been growing its online presence through various channels including NordstromRack.com, Trunk Club (a subscription-based personalized clothing service for men acquired in 2014), and HauteLook (a flash discount sales Web site acquired in early 2011). Fitch expects Nordstrom's other online channels to grow by 15% - 20% annually.

Positive sales growth projections for Nordstrom distinguish the company from most of its department store peers. However, Nordstrom's growth investments are expected to limit cash flow generation over the next 24 months, with free cash flow after dividends (FCF) expected to be negative $150 million in 2016 before turning modestly positive in 2017. While Fitch views positively Nordstrom's continual investment in its business, negative to low FCF limits the company's financial flexibility in the medium term.

Nordstrom completed the sale of its credit card receivables in October 2015 and used the proceeds to pay down the $325 million asset-backed senior secured notes due October 2016, to fund a $900 million special dividend and an additional $900 million of share buybacks. Post the transaction, total adjusted debt/EBITDAR increased to 2.4x as of Jan. 30, 2016, compared to the mid-1x leverage for retail business stripping out credit card related debt (assumed at 80% of total credit card receivables) and income that the company had maintained prior to the sale. Fitch expects Nordstrom's adjusted leverage to remain in the mid-2.0x range over the next two to three years.

KEY ASSUMPTIONS

--Comps growth in the low-single digit range with overall top line growth of 4% to 5% over the next two to three years, primarily driven by continued growth in the online and Rack businesses. Full-line store comps are expected to be flat to modestly negative; Rack overall sales to grow around 8% to 10% with square footage growth in the high-single digits; and online revenue to grow in the low to mid-teens range.
--EBITDA is expected to decline approximately 8% to about $1.7 billion in 2016 and grow 3% to 5% thereafter. This assumes modest gross margin pressure as a larger percent of the revenues are generated in the online segments as well as loss of about 50% of the credit card EBIT due to the sale of the receivables in 2015. SG&A is expected to grow in line with revenues.
--FCF of negative $150 million in 2016 and positive $25 million to $50 million in 2017, with capex in the $900 million to $950 million range to support new store openings, remodels, and technology investments. FCF is expected to improve to $400 million in 2019 as most of the investment in the Manhattan and Canada stores is completed and capex decreases to about 4% of revenues.
--Total adjusted debt/EBITDAR is expected to remain in the mid-2x range over the next two to three years.

RATING SENSITIVITIES

A positive rating action is unlikely at this time as Fitch anticipates Nordstrom will manage its capital structure in the mid-range of its publicly stated target of 1.5x - 2.5x debt/EBITDAR leverage using 8.0x net rent expense. This roughly equates to a leverage target of 1.75x - 2.75x using Fitch's methodology of 8.0x gross rent expense or 2.3x at the mid-range.

A negative rating action could result if operational weakness or a more aggressive financial posture leads credit metrics to come in worse than targeted levels with adjusted leverage above the mid-2x range on a prolonged basis.

LIQUIDITY

Nordstrom's liquidity is supported by a cash balance of $595 million as of Jan. 30, 2016 and an $800 million senior unsecured revolver due April 2020. Upcoming maturities include $650 million of senior unsecured notes due January 2018 after the company paid off $325 million of asset-backed senior secured notes due October 2016 with proceeds from the sale of the credit card receivables.

Fitch expects FCF of negative $150 million in 2016 and positive $25 million to $50 million in 2017, with capex in the $900 million to $950 million range to support new store openings, remodels, and technology investments.

FULL LIST OF RATING ACTIONS

Fitch has affirmed Nordstrom, Inc.'s ratings as follows:

--Long-term Issuer Default Rating (IDR) at 'BBB+';
--$800 million bank credit facility at 'BBB+';
--Senior unsecured notes at 'BBB+';
--Short term IDR at 'F2';
--Commercial paper at 'F2'.

The Rating Outlook is Stable.