Dillard's is moving on up.

The Little Rock retailer now is going after a more upscale customer by redesigning its stores.

"We've accomplished a lot in the stores with regard to taking it toward a more upscale and more contemporary tone," said Dillard's spokeswoman Julie Bull. "We're carrying more upscale merchandise, more contemporary merchandise. So what we're trying to achieve there is to reach out to that upscale contemporary customer and get her to take a new look at Dillard's while at the same time continuing to serve our core customer."

The new attitude appears to be working.

For the fiscal year 2006, Dillard's same-store sales were up 2 percent, according to the International Council of Shopping Centers. Same-store sales are considered a key indicator of a department store's health because they are based on sales at stores opened at least a year. But all department stores saw an increase of same-store sales of 3.6 percent during fiscal year 2006.

Still, it was the retailer's best showing in three years. For fiscal 2004, Dillard's same-store sales fell by 1.7 percent and in 2005 rose by 0.7 percent, the ICSC reported.

Its stock price also is seeing an improvement. Dillard's reached its 52-week high of $32.20 on July 3. The stock price has slipped since then and was hovering just under $30 last week. Dillard's stock price is doing much better than it did in October when for a few days it traded for less than $20.

Merrill Lynch analyst Stacy Turnof was encouraged with the retailer's new look after visiting an Atlanta store that opened in October.

"The lingerie dept. was 'Victoria's Secret-like' with wooden fixtures, plush seats, upscale, spacious dressing rooms with door bells, and a wide product choice with service," Turnof wrote. "One of our favorite areas was shoes, with a Nordstrom-like feel. Shoes were grouped together by lifestyle and in some cases, color, with appealing signage."

Bull said new Dillard's stores will have the new layout and that upscale look. Dillard's added nine new stores in 2005. In 2006, the company plans to open eight. Dillard's currently has 330 stores in 29 states. Dillard's also is looking at giving its older stores a facelift.

The reason for the move is luxury department stores are fairing better than midlevel department stores such as Dillard's.

Same-store sales at luxury department stores were up 4.7 percent in fiscal year 2006, the ICSC reported, with Neiman Marcus and Nordstrom leading the way in attracting high-end customers.

"Maybe (Dillard's) is a little late to the game in terms of focusing on more upscale," said Ryan Fuhrmann, a writer and retail analyst for Motley Fool.

Even with the new look, Turnof is still leery of Dillard's.

Turnof said in her report in June that she remains neutral on Dillard's.

While Dillard's improved its financials over the past couple of years, "our optimism is limited due to lack of management visibility coupled with inconsistent (same-store sales)."

Four of the company's top five officers are Dillard family members.

But with the healthy balance sheets, other analysts are warming up to Dillard's.

In April Fitch Ratings revised Dillard's outlook to "positive" from "stable" because of its improved balance sheet.

Dillard's has been in a debt reduction mode since 2000, the Fitch Ratings report said.

"As a result, credit measures should improve further," the report said.

Private Label

Dillard's private label merchandise has helped boost sales, said Motley Fool's Fuhrmann.

For the 22 weeks that ended July 1, sales were $2.98 billion, compared with $2.95 billion during the same period in 2005.

Same-store sales and total store sales were up 2 percent during that period.

"We are pleased with the 2 percent sales increase for the period," Bull said. "We are ultimately focused on providing improved gross margins and profitability."

Retail analyst Philip Zahn at Fitch Ratings said the rise in same-store sales could be an indication that Dillard's is having some success with its merchandise. And Dillard's is trying to sell clothes that appeal to younger customers.

Early results are positive from its new exclusive line Reba, which is blending the line between junior's and women's contemporary apparel, Turnof wrote.

"Overall it appears ... that they are catching onto consumer tastes. Maybe a little bit more than they had historically," Fuhrmann said. "They've done that for six months and that appears to be helping the stock price."

Still, it's difficult to predict a clothing trend.

"So when a company hits on a fashion trend, it tends to really increase their fortunes," Fuhrmann said. "And there's really no clear-cut way to catch on a fashion trend."

Dillard's private label and exclusive brands were 24 percent of sales in 2005, compared with 18.2 percent in 2002, Fitch Ratings reported. Even though the number rose, Zahn wasn't impressed.

"While this strategy has merit, it has not evolved to the point that it is driving meaningful floor traffic," Zahn said in his report.

The private label merchandise helps the bottom line because it tends to have higher profit margins. Some competitors' private label items, though, are 30 percent to 40 percent of their sales, Fuhrmann said.

"So there appears to be some room for (Dillard's) to kind of increase that," he said.

The retailer's operating margins improved in 2005 to 3.9 percent from 3.4 percent because of its "good expense control," Zahn said in his report.

Dillard's Bull said the department store plans to expand its private label brands.

"So you're going to see more of it and a better selection," she said.

Economy

Retail watchers are keeping their eye on the economy and how it might impact department stores.

The National Retail Federation of Washington, D.C., said it expects to see department store sales stay strong through the summer and through the back-to-school season.

"We still anticipate a very strong fourth quarter," said Daniel Butler, vice president of merchandising and retail operations for the NRF.

Because of high gas prices, consumers are cutting back on travel and eating out — but not on shopping at department stores.

"We have not seen that it's stopped the consumer from going on with their lives and stopped them from the things that they want to do," Butler said. "So at this point we can't blame any downturn on gas prices."

It could be a problem if gas reaches $3.75 a gallon, said Richard Hastings, economic adviser with the Federation of Credit & Financial Professionals in South Plainfield, N.J.

But rising interest rates is what's making some worry.

Department stores have seen a number of people fixing up their homes, thanks to a number of home makeover shows.

There could be a ripple effect if the housing market were to significantly cool, because there wouldn't be as many people buying new homes and wanting to buy new furniture.

Midlevel department stores could be facing more competition from the discounters, said Jay McIntosh, director of retail and consumer products for Ernst & Young LLP of New York.

Now discounters are able to acquire quality merchandise at reasonable prices through suppliers in China.

"So the difference in the quality between the midlevel department stores and the discounters has been reduced," McIntosh said.

Some consumers will rush to a discounter to buy a $20 pair of tennis shoes and then turn around and spend $300 for a pair of dress shoes at a luxury department store.

"That doesn't mean there won't remain a significant market for midlevel department stores," McIntosh said.

He thinks the discounters and the luxury department stores will grow faster than the midlevel stores.

Financial Report

For its quarter that ended April 29, Dillard's reported $1.84 billion in sales, up from $1.8 billion in the same quarter in 2005. Its net income rose 61.3 percent from $38 million in the quarter that ended April 29, 2005, to $61.3 million in the same quarter in 2006.

What also has looked good to investors is that Dillard's has been paying down its debt.

It repaid an additional $157 million of debt in 2005 while repurchasing $101 million of its shares, said Fitch Ratings.

Fitch Ratings also expects Dillard's to repay debt maturities of $198 million in 2006. Fitch Ratings gave Dillard's a positive outlook.

"With a positive outlook there's a greater chance at an upgrade in the next one to two years," Zahn said. "It doesn't mean that there will be an upgrade. It just means that the trend is such that things are pointing in that direction."

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