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A Pre-Emptive Autopsy of Sears Holdings Corp (SHLD) Stock

In April 2007, one share of Sears Holdings Corp (ticker: SHLD) stock would cost you $191. Today, you can pick it up for about $11. And over the next few years, shares may very well become worthless.

In fact, derivatives markets seem to be betting on as much.

Reshmi Basu, a reporter with Debtwire, says that the price of Sears one-year credit default swaps implies that "the company could file" within that period. The price on the three-year CDS is far higher, "kind of indicating that there's going to be a bankruptcy in the next couple of years."

Sears's eventual death -- and thus the de-listing of SHLD stock -- isn't technically an inevitability. But it might as well be. While skipping the last chapter and writing the afterword is not typically how stories are written, in this situation it seems all too appropriate.

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[See: The 10 Best REIT ETFs on the Market.]

It's time to take a pre-emptive autopsy of Sears and, by extension, SHLD stock.

Legendary company. Founded in 1893 as a revolutionary concept -- a mail-order catalog -- Sears, Roebuck and Co. was once perhaps the most iconic American retailer; it was the largest U.S. retailer for many years until overtaken by Wal-Mart Stores ( WMT) in 1989.

Fast-forward to the year 2000, and Sears is having the best year it's ever had. Unfortunately, that success would not last.

Mark Cohen joined Sears, Roebuck and Co. in 1998, and between 2001 and 2004 served as chairman and CEO of Sears Canada.

Cohen says things began to unravel in 2000, when Alan Lacy became CEO. "He's a finance guy, the head of credit at Sears -- he basically has no idea how to run the business."

An unprepared Sears found itself up against well-run, formidable rivals like Wal-Mart, Target Corp. ( TGT), Amazon.com ( AMZN) and Home Depot ( HD). "It was under pressure from basically everything under the sun," Cohen says. Between 2000 and 2004, revenue falls 12 percent from $40.8 billion to $36.1 billion, while profits crater from $1.34 billion to a $507 million loss.

But the worst was yet to come. His name was Eddie Lampert.

The Kmart-Sears merger. In 2005, Kmart buys Sears in an $11 billion deal, merging two once-iconic retailers into one large, ultimately doomed legacy retailer with a confused vision of the future. A CNNMoney article on the deal at the time quoted one Wharton professor who questioned the two companies' differentiation, saying: "Sears and Kmart simply trudged along and thought that was good enough."

The strategy from the combined company in the coming years would prove eerily similar.

The architect behind the deal was Lampert, a hedge fund superstar who had become a large Kmart creditor during its bankruptcy and emerged in 2003 with a controlling stake of the reorganized company.

The 2005 Kmart-Sears merger was a decision that would, in Cohen's mind, ultimately guarantee its miserable fate. The combined company was renamed Sears Holdings Corp.

At the time, some in the financial media considered Lampert the next Warren Buffett. But Lampert was no Oracle of Omaha.

At first, the deal looked good: Revenue peaked shortly thereafter in 2006 at $53 billion -- the only year that sales at the new combined company would ever increase. Net income roared 74 percent higher, and by 2007 the stock -- trading around the $100 level before the merger announcement -- was flirting with $200.

But the newfound success was entirely illusory. Lampert, who had no retail experience, has achieved the apparent overnight success in an entirely unsustainable way.

"The only performance that he's demonstrating" at this time, Cohen says, "is draconian cuts in operating and capital expense. So the company appears to be doing fine until you look at how it's doing fine."

"About two years in he begins to take actions that can only be described as asset stripping," Cohen says. Two years after the merger would be late March, 2007. In April 2007, SHLD stock peaks.

[Read: The 7 Smartest Acquisitions of All Time.]

It has been plunging for almost a decade since.

Over that time Lampert has continued to slash costs and sell assets. Expenses fall in 10 out of the 11 fiscal years between 2005 and 2015. Revenue, however, falls faster. Much faster.

In 2013, Lampert formally took the reins of the company as its CEO, promising a turnaround. In reality, he'd been calling the shots as the largest single shareholder -- and creditor -- for Sears. And in reality, there would be no turnaround. Ever.

From a reporting perspective, it's an interesting time for Lampert to have formally taken the reins. At the same time, retail rival JC Penney Co. ( JCP) was changing CEOs and attempting to execute a turnaround.

SHLD stock is down about 75 percent since Lampert became CEO on Feb. 2, 2013. And JC Penney, while not thriving by any means, is slowly clawing back from its lowest depths. Sales, which were down 24 percent in 2012, grew by 3 percent in 2014 and 2015.

Aside from the consistent asset sales, losses, cash flow deficits in the billions, and debt problems, there's another reason JC Penney has been able to tread water while Sears plummets.

"JC Penney has been able to articulate a vision of what the future looks like; Sears is almost completely in a reactive mode now. If they have a plan to bring the company out of these dire straits, they haven't been able to articulate that yet," says Greg Portell, lead partner at A.T. Kearney in the consumer industries and retail practice.

The future looks bleak. Ratings agencies Fitch and Moody's have both downgraded Sears's debt this year to low speculative-grade ratings, indicating they see high default risk within the next 12 to 24 months.

With Lampert using his own hedge fund, ESL Investments, to provide desperate financing to the dying Sears, the situation looks bleaker and bleaker by the day. Over the years under Lampert's guidance, Sears has spun off some of its most valuable real estate, and now pays rent to ESL or ESL-controlled ventures for stores it once used to own.

Because of this slow but steady bleed, the fall of SHLD may take longer than some expect.

"This is gonna be the longest-running death in the retail industry in its history. He's selling off the fingers, the toes, there's an arm that's come off, there's another one yet to be harvested. The corneas are gone, one of the kidneys is gone -- but it's still got a heartbeat," Cohen says.

[See: The 9 Best ETFs for Retail Power.]

"Death by 1,000 cuts -- it's real in business, and this is a great example of it," Portell says.



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