Jeweler Zale Corp has entered into exclusive talks with Citibank to renew their private-label credit-card arrangement after it expires next year, and has won an extra month from Citibank to pay a penalty for low sales made on the cards.

Citi, which issues the cards used for 40 percent of Zale's U.S. sales, told the struggling jewelry chain operator in December that it would not renew that agreement when it expires in March 2011.

Citi has also agreed to give Zale until May 31, while they negotiate, to decide whether to pay a $6 million penalty designed to compensate Citi for a sales shortfall, Zale Chief Financial Officer Matt Appel told Reuters in an interview on Friday.

In March, Citibank, a unit of Citigroup Inc , warned Zale that their private-label, credit-card arrangement would end in September, six months early, if Zale failed to pay.

Under their current agreement, Zale guarantees Citibank a certain amount of return on the credit cards based on sales. Any shortfall must be made up for in penalties.

HOPING TO STAY WITH CITI

Citi originally set a deadline of April 1 for the $6 million payment, and Zale won an initial one-month reprieve in late March. At the time, Zale said it was evaluating available alternatives to its deal with Citi, but now, Appel said, its negotiations with Citi were exclusive during the month of May.

We're hopeful that we'll stick with Citi, but I think it's too early to call that one, Appel said.

Zale will issue a filing announcing its talks with Citi on Monday with the U.S. Securities and Exchange Commission.

Last month, Citi's Canadian unit said it would end its credit-card deal with Zale in Canada, where the cards are used in about 25 percent of sales, on June 30.

Appel said Zale was working with another financial institution for its Canadian credit cards, but declined to identify which one. He would only say that the company would announce the result of that search in the near future.

Zale, which operates more jewelry stores in North America than any of its rivals, has faced dwindling sales and market share for several years and is expected to announce new investors this month.

In February, Zale hired turnaround expert Peter J. Solomon Co to help it find investors.

Zale reported a better-than-expected holiday quarter profit in February, but continues to lose market share to its main rival in the United States, Signet Jewelers Ltd , whose stores include the Kay Jewelers chain.

Zale's sales at stores open at least a year fell 11.2 percent during the holiday quarter.

Media reports have said that Zale may sell a minority stake to private equity firm Golden Gate Capital for between $100 million and $150 million.

Appel declined to comment, but said: We remain on the timeline we articulated, which was 90 days from February 24, and we're very pleased with our progress to date.

Appel said the search for new capital had not impeded Zale's ability to launch a suitable marketing campaign for the upcoming Mother's Day period, the second-most important occasion for jewelry sales after Christmas.

Zale shares were down 13 cents, or 3.8 percent, at $3.26 on Friday on the New York Stock Exchange. While its shares have nearly doubled since February, they are 61.4 percent off yearly highs hit in mid-September.

(Reporting by Phil Wahba, editing by Maureen Bavdek)

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