Another year, another banner “State-of-the-Internet” presentation from Mary Meeker. There are some bits that we thought would be of particular interest to the restructuring community.
For all we hear about Amazon and e-commerce destroying retail, e-commerce growth is slowing. It constitutes 15% of retail versus 14% a year ago.
There is a stark shift in time spent on various forms of media and, by extension, the use of ad budgets. This chart ought to frighten the sh*t out of print and radio content producers. Time spent on print and radio is down BIG. Even more disconcerting for print? All of the other mediums appear to have reached an equilibrium between time spent and ad spend but print, however, still enjoys a disproportionate amount of ad dollars. Said another way, print media outlets may still have some pain heading their way.
We’ve made recent mention of rising customer acquisition costs and how that might derail many retailers’ business plans. To reduce CAC, many streaming services (e.g., Zoom, Spotify) use free tiers at the top of their funnel to get potential customers in the door and familiar with their products and then focus primarily on making those potential customers happy instead of otherwise deploying effort to market wholesale (PETITION Note: similarly, this is what we do). That said, CACs are indeed increasing. Ms. Meeker has a chart for this:
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In “Thanos Snaps, Retail Disappears👿,“ “Even Captain America Can’t Bring Back This Much Retail (Long Continued Closures)“ and “💸The #Retailapocalypse is a Boon for...💸,” we’ve chronicled the seemingly endless volume of retail store closures that continue to persist in the first half of 2019. As we’ve said time and time again, there are no signs of this trend disappearing. In fact, it continues to get worse.
Last week brought us a deluge of retail news and earnings. And, indeed, along with earnings came more store closure announcements and more indications of who are the “haves”* and the “have nots.”
Let’s start with department stores where there’s a lot of pain to go around in “have not”-ville.
Macy’s ($M) kicked things off with a surprise increase in same-store sales and so it was ONLY down approximately 0.9% on the week. In contrast, Kohl’s ($KSS), Dillard’s ($DDS), J.C. Penney ($JCP) and Nordstrom ($NWN) all got hammered — each down more than 7% — after across-the-board dismal earnings. Kohl’s performance was particularly interesting given its acclaimed experimentation, including partnerships with Amazon ($AMZN) and, coming soon, Fanatics. The company reported a 2.9% revenue decline and a same-store comp decline of 3.4%. Adding fuel to the fire: the company cut its full-year earnings guidance, citing…wait for it…tariffs(!) as a massive headwind.
Kohl’s wasn’t alone there. Home Depot ($HD) also indicated that new tariffs on China might cost it $1b in revenue — on top of the $1b it already anticipated from the prior round of tariffs. 😬
Other have nots in retail? Party City ($PRTY) is closing 45 stores. Tuesday Morning Corp. ($TUES) is closing a net 12 stores. Fred’s ($FRED) announced 104 more closures in addition to the 159 previously announced closures. Burberry Group Plc ($BURBY) is closing 38 stores. Topshop is now bankrupt and will close 11 stores in the US (and more abroad). Hibbett Sports ($HIBB) is adding 95 store closures to the pile (despite otherwise nice results). Of course, we’d be remiss if we didn’t mention the dumpster fire that is Dressbarn:
Finally, all of the pain in retail already has at least one ratings agency questioning whether David’s Bridal is out of the woods post-bankruptcy. We can’t wait to add that one to our “Do We have a Feasibility Problem?” series.
Here is to hoping that Generation Z saves malls. What draws them to malls? Good food. Malls with great food options apparently experience more sales. Now Neiman Marcus and H&M are going the resale route. Urban Outfitters ($URBN) is experimenting with a monthly rental service. Startups like Joymode look to benefit from the alleged shift from ownership to “access.”
As for continued bleeding, here is yet another sign that things may continue to worsen for retail:
Notably, production of containerboard — a type of paperboard specially manufactured for the production of corrugated board (or cardboard) — is suffering a YOY production decline. Is that indicative of a dip in e-commerce sales to boot? 😬
*On the flip side, there have been some clear winning “haves.” Take, TJX Companies Inc. ($TJX), for instance. The owner of T.J. Maxx reported a 5% increase in same store sales. Target Inc. ($TGT) and Walmart Inc. ($WMT) also appear to be holding their own. The former’s stock had a meaningful pop this week on solid earnings.
Retail Carnage Continues Unabated (R.I.P. Payless, Gymboree, Charlotte Russe & Shopko)
Talk of retail’s demise is so pervasive that the casual consumer may be immune to it at this point. Yeah, yeah, stores are closing and e-commerce is taking a greater share of the retail pie but what of it?
Well, it just keeps getting worse.
Consider 2019 alone. The Payless ShoeSource, Gymboree, Charlotte Russe, Shopko, and Samuels Jewelers* liquidations constitute thousands of stores evaporated from existence. It’s like Thanos came to Earth and snapped his fingers and — POOF! — a good portion of America’s sh*tty unnecessary retail dissipated into dust. Tack on bankruptcy-related closures for Things Remembered, Beauty Brands and Diesel Brands USA Inc. and you’re up to over 4,300 stores that have peaced out.
That, suffice it to say, would be horrific enough on its own. But “healthy” (read: non-bankrupt) retailers have only added to the #retailapocalypse. Newell Brands Inc. ($NWL)is closing 100 of its Yankee Candle locations to focus on “more profitable” distribution channels. Gap Inc. ($GPS) announced it is closing 230 of its more unprofitable locations and spinning Old Navy out into its own separate company — the good ol’ “good retail, bad retail” spinoff. Chico’s FAS Inc. ($CHS) is closing 250 stores. Stage Stores Inc. ($SSI) — which purchased once-bankruptcy Gordmans — is closing between 40-60 department stores. Kitchen Collection ($HBB) is closing 25-30 stores. E.L.F. Beauty ($ELF) is closing all 22 of its locations. Abercrombie & Fitch Co. ($ANF)? Yup, closing stores. Up to 40 of them. GNC Inc. ($GNC) intends to close hundreds more stores over the next three years. Foot Locker Inc. ($FL)? Despite a strong earnings report, it is closing a net 85 stores. J.C. Penney Inc. ($JCP)…well…it didn’t report strong earnings and, not-so-shockingly, it, too, is closing approximately 27 stores this year. Victoria’s Secret ($LB)? 53 stores. Signet Jewelers Ltd. ($SIG)? Mmmm hmmm…it’s been closing its Zales and Kay Jewelers stores for years and will continue to do so. As we noted on Sunday, The Children’s Place Inc. ($PLCE) also intends to close 40-45 stores this year. Build-A-Bear Workshop Inc. ($BBW) will close 30 stores over the next two years. Ascena Retail Group Inc. ($ASNA) recently reported and disclosed that it had closed 110 stores (2% of its MASSIVE footprint) in the last quarter. Even the creepy-a$$ dolls at American Girl aren’t moving off the shelves fast enough: Mattel Inc. ($MAT) indicated that it needs to rationalize its retail footprint. There’s nothing Wonder Woman — or even a nightmare-inducing American Girl version of Wonder Woman — can do to prevent all of this carnage.
As a cherry on top, EVEN FRIKKEN AMAZON INC. ($AMZN) IS CLOSING ALL 87 OF ITS POP-UP SHOPS! Alas, The Financial Times pinned the total store closure number for 2019 alone at 4,800 stores (and just wait until Pier 1 hits). Attached to that, of course, is job loss at a pretty solid clip:
All of this begs the question: if there are so many store closures, are the landlords feeling it?
In part, surprisingly, the number appears to be ‘no.’ Per the FT:
“Investors in mall debt have also shown little sign of worry. The so-called CMBX 6 index — which tracks the performance of securitised commercial property loans with a concentration in retail — is up 4.4 per cent for 2019.”
Yet, in pockets, the answer also appears to be increasingly ‘maybe?’
For example, take a look at CBL & Associates Properties Inc. ($CBL) — a REIT that has exposure to a number of the names delineated above.
On its February 8th earnings call, the company stated:
“We are pleased to deliver results in line with expectations set forth at the beginning of the year notwithstanding the challenges that materialized.”
Translation: “we are pleased to merely fall in line with rock bottom expectations given all of the challenges that materialized and could have made sh*t FAR FAR WORSE.”
The company reported a 4.4% net operating income decline for the quarter and a 6% same-center net operating income decline for the year. The company is performing triage and eliminating short-term pressure: it secured a new $1.185b ‘23 secured revolver and term loan with 16 banks as part of the syndicate (nothing like spreading the risk) to refinance out unsecured debt (encumbering the majority of its ‘A Mall’ properties and priming the rest of its capital structure in the process); it completed $100mm of gross dispositions plus another $160mm in “sales” of its Cary Towne Center and Acadiana Mall; it reduced its dividend (which, for investors in REITs, is a huge slap in the face); and it also engaged in “effective management of expenses” which means that they’re taking costs out of the business to make the bottom line look prettier.
Given the current state of affairs, triage should continue to remain a focus:
“Between the bankruptcy filings of Bon-Ton and Sears, we have more than 40 anchor closures.”
“…rent loss from anchor closures as well as rent reductions and store closures related to bankrupt or struggling shop tenants is having a significant near-term impact to our income stream.”
They went on further to say:
“Bankruptcy-related store closures impacted fourth quarter mall occupancy by approximately 70 basis points or 128,000 square feet. Occupancy for the first quarter will be impacted by a few recent bankruptcy filings. Gymboree announced liquidation of their namesake brand and Crazy 8 stores. We have approximately 45 locations with 106,000 square feet closing.”
Wait. It keeps going:
“We also have 13 Charlotte Russe stores that will close as part of their filing earlier this month, representing 82,000 square feet.”
Earlier this week, Things Remembered filed. We anticipate closing most of their 32 locations in our portfolio comprising approximately 39,000 square feet.”
And yet occupancy is rising. The quality of the occupancy, however — on an average rental basis — is on the decline. The company indicated that new and renewal leases averaged a rent decline of 9.1%. With respect to this, the company states:
As we've seen throughout the years, certain retailers with persistent sales declines have pressured renewal spreads. We had 17 Ascena deals and 2 deals with Express this quarter that contributed 550 basis points to the overall decline on renewal leases. We anticipate negative spreads in the near term but are optimistic that the positive sales trends in 2018 will lead to improved lease negotiations with this year.
Ahhhhh…more misplaced optimism in retail (callback to this bit about Leslie Wexner). As a counter-balance, however, there is some level of realism at play here: the company reserved $15mm for losses due to store closures and co-tenancy effects on company NOI. In the meantime, it is filling in empty space with amusement attractions (e.g., Dave & Buster’s Entertainment Inc. ($PLAY), movie theaters, Dick’s Sporting Goods Inc ($DKS) locations, restaurants, office space and hotels. Sh*t…given the amount of specialty movie theaters allegedly going into all of these emptying malls, America is going to need all of those additional gyms to work off that popcorn (and diabetes). Get ready for those future First Day Declarations that delineate that, per capita, America is over-gym’d and over-theatered. It’s coming: it stretches credulity that the solution to every emptying mall is Equinox and AMC Entertainment Holdings Inc. ($AMC). But we digress.
All of these factors — the average rent decline, the empty square footage, etc. — are especially relevant considering the company’s capital structure and could, ultimately, challenge compliance with debt covenants. Net debt-to-EBITDA was 7.3x compared with 6.7x at year-end 2017. Here is the capital structure and the respective market prices (as of March 19):
The new Senior secured term loan due ‘23:
The Senior unsecured notes due ‘23:
The notes due ‘24:
The notes due ‘26:
Additionally, the company is trying to promote how flexible it is with its ability to pay down debt and invest in redevelopment properties. Here is a snippet of the company presentation that displays the debt covenants on its revolver, term loan and other unsecured recourse debt:
What is the real value of the mall assets that are left unencumbered? Recently, the Company has been slowly impairing a number of its assets and many of the Company’s tier 2 and 3 malls have yet to be revalued. If appraisers lower the value of these assets that are really supposed to be supporting the debt, what then?
And that doesn’t even take into consideration the co-tenancy clauses. As anchor tenants fall like flies, you’ll potentially see a rush to the exits as retailers with four-wall sales that don’t justify rents (and rising wages) exercise their rights.
So, given all of above, does the market share management’s (misplaced) optimism?
J.P. Morgan’s Michael W. Mueller wrote in a February 7, 2019 equity research report:
"While commentary in the earnings release noted some sequential improvement in 4Q results, we still see it being a grind for the company over the near to intermediate term."
BTIG’s James Sullivan added on February 20, 2019:
"We see no near-term solution for the owners of more marginal “B” assets like CBL & Associates. Sales productivity for such portfolios has shown little growth over the last eight quarters in contrast to the better-positioned “A” portfolios."
"The recent re-financing provides CBL with some near-term liquidity but limits future access to the mortgage market as only a small number of readily “bankable” assets remain unencumbered."
“We expect the challenging conditions in the industry to continue to create pressure on the operating metrics of mall portfolios with average sales productivity of less than $400/foot. More anchor closures are likely and in-line tenants are also likely to manage their brick-and-mortar exposure aggressively and close marginal locations. We reiterate our Sell rating and $2 price target.”
“With overall flat sales productivity in the portfolio, there is limited evidence that a turnaround in performance is likely in the next 24 months. Instead, we expect continued declines in SSNOI with negative leasing spreads and lower operating cost recovery rates.”
“CBL’s new facility which totals $1.185B is secured and replaces a series of unsecured term loans and a line of credit. Collateral includes 20 assets, of which three are Tier 1 Malls, 14 are Tier 2 Malls, and three are Associated Centers. As a result, CBL now has a much smaller number of unencumbered malls.”
“There are no unencumbered Tier 1 Malls (Sales exceeding $375/foot). There are nine unencumbered Tier 2 Malls (sales $300 -$375/foot) and those malls averaged $337/foot in 2017. The 2018 data is not available yet, but sales/foot for Tier 2 assets in 2018 declined by an average $5/foot. So assuming the law of averages applies, the average productivity of the unencumbered Tier 2 assets is $332/foot. Malls with that level of productivity cannot be financed in the CMBS market per CBL management.”
“With limited access to financing using their unencumbered malls, CBL has to look to its available capacity on its new line of credit, $265m, and projected free cash flow after paying its dividends, we estimate, of $155m in 2019 and $135m in 2020. CBL is currently estimating an annual capital requirement of $75m - $125m to redevelop closed anchor boxes. The per box range is $7m - $10m which we believe is low compared to peers whose cost per unit is closer to $17m. So CBL faces dwindling capital sources at the same time that its portfolio is suffering significant quarterly drops in SSNOI.”
Apropos, the shorts are getting aggressive on the name:
The historical stock chart is ugly AF:
Which brings us to commercial mortgage-backed securities (CMBS) — derivative instruments comprised of loans on commercial properties. Canyon Partners’ Co-Chairman and co-CEO Joshua Friedman is shorting the sh*t out of mall-focused CMBS (containing among many other things, CBL properties) via a well known CDS index: the Markit CMBX.BBB- (and lower Indices) — to the tune of approximately $1b (out of $25b AUM). This is the mall-equivalent of the big short, except for commercial real estate. 🤔🤔
Here is a CMBX primer for anyone who wants to nerd out to the extreme. Choice bit:
CMBX allows investors to short CMBS credit risk across a wide array of vintages and credit ratings. Shorting individual cash bonds is difficult and rarely done, with the exception of a few very liquid names. The market for cusip level CMBS CDS used to exist, but the liquidity proved very poor and it was quickly replaced by trading of the synthetic indices.
And here is some color on what Mr. Friedman said regarding his trade:
Wowzers. Just imagine what happens to retail — including the malls — when the noise gets even louder.
*Samuels Jewelers filed chapter 11 last year but announced liquidation this year after failing to secure a buyer for its assets.
👠Marie Kondo is Coming to a First Day Declaration Near You (Long Thrift Shopping)👠
2019 has already been a rough year for retail. Beauty Brands LLC, a Kansas City-based brick-and-mortar retailer with 58 stores in 12 states filed for chapter 11 bankruptcy in the first week of January. Then, last week, both Shopko (367 stores) and Gymboree (~900 stores) filed for chapter 11 bankruptcy — the former hoping to avoid a full liquidation and the latter giving up hope and heading straight into liquidation (it blew its first chance in bankruptcy). And, of course, there’s still Charlotte Russe, Things Remembered, Payless and others to keep an eye on.
All of this has everyone on high alert. Take this piece from The Wall Street Journal. Pertaining to J.C. Penney ($JCP) and Sears Holding Corporation ($SHLDQ), the WSJ notes:
J.C. Penney Co.’s sales are falling, its stores are stuck in malls and the turnaround strategy keeps changing. Now, three months after the embattled retailer hired a new chief executive, a handful of senior positions remain vacant.
The series of events is prompting analysts and other industry experts to question whether Penney can avoid the fate of fellow department-store operator Sears Holdings Corp., which filed for bankruptcy and barely staved off liquidation.
The Plano, Texas-based chain was once the go-to apparel retailer for middle-class families. It and Sears had once dominated American retailing but lost their customers, first to discounters like Walmart , then to fast-fashion retailers and off-price chains like T.J. Maxx. The shift to online shopping hastened their decline.
First, the Sears Holding Corporation ($SHLDQ) drama continues as the company heads towards a contested sale hearing in the beginning of February. To say that it “staved off liquidation” is, at this juncture, factually incorrect. While the company’s prospects have improved along with Mr. Lampert’s purchase offer, it is not a certainty that the company will be able to avoid liquidation. At least not until the Official Committee of Unsecured Creditors’ objection is overruled and the bankruptcy court judge blesses the Lampert deal. The sale hearing is slated for February 4.
Second, we were relieved to FINALLY see an article about retail that didn’t pin the blame solely at the feet of Amazon Inc. ($AMZN). As we’ve been arguing since our inception, the narrative is far more nuanced than just the “Amazon Effect.” To point, Vitaliy Katsenelson recently wrote in Barron’s:
Retail stocks have been annihilated recently, even though retail sales finished 2018 strong. The fundamentals of the retail business look horrible: Sales are stagnating, and profitability is getting worse with every passing quarter.
Jeff Bezos and Amazon.com get most of the blame, but this is only part of the story. Today, online sales represent only 8.5% of total retail sales. Amazon, at about $100 billion in sales, accounts only for 1.6% of total U.S. retail sales, which at the end of 2018 were around $6 trillion. In truth, the confluence of a half-dozen unrelated developments is responsible for weak retail sales.
He goes on to cite a shift in consumer spending to more expensive phones, more expensive phone bills, more expensive student loan bills and more expensive health care costs as contributors to retail’s general malaise (PETITION Note: yes, it appears that lots of things are getting more expensive. Don’t tell the FED.). More money spent there means less discretionary income for the likes of J.C. Penney. Likewise, he highlights the change in consumer habits. He writes:
We may not care about clothes as much as we may have 10 or 20 years ago. After all, our high-tech billionaires wear hoodies and flip-flops to work. Lack of fashion sense did not hinder their success, so why should the rest of us care about the dress code?
Consumer habits have slowly changed, including the advent of rental clothes from companies like Rent the Runway and LeTote.
We’ve previously written extensively about the rental and resale wave. We wrote:
Indeed, per ThredUp, a second-hand apparel website, the resale market is on pace to reach $41 billion by 2022 and 49% of that is in apparel. Moreover, resale is growing 24x more than overall apparel retail. “[O]ne in three women shopped secondhand last year.” 40% of 18-24 year olds shopped retail in 2017. Those stats are bananas. This comment is illustrative of the transformation taking hold today,
“The modern consumer now has a choice between shopping traditional retail or trying new, innovative business models. New apparel experiences and brands are emerging at record rates to replace old ones. Rental, subscription, resale, direct-to-consumer, and more. The closet of the future is going to look very different from the closet of today. When you get that perfectly curated assortment from Stitch Fix, or subscribe to Rent the Runway’s everyday service, or find that killer handbag on thredUP you never could have afforded new, you start realizing how much your preferences and behavior is changing.”
Lots of good charts here to bolster the point.
That wave just got a significant shot of steroids.
Earlier this month Netflix Inc. ($NFLX) debuted “Tidying Up with Marie Kondo,” a show that springs off of Ms. Kondo’s hit 2014 book, “The Life-Changing Magic of Tidying Up: The Japanese Art of Decluttering and Organizing.” The news since is not too encouraging for retailers.
Per NPR, “Thrift Stores Say They’re Swamped With Donations After ‘Tidying Up with Marie Kondo’” (audio and audio transcript). Indeed, thrift stores like Goodwill are seeing an uptick in donations across the country (and Canada). The Wall Street Journal published a full feature predicated upon “throw a lot of sh*t out.”
Of course, all of this decluttering is an opportunity. Anna Silman writes in The Cut:
Well, congrats to all the people who have committed to the KonMari life and ridded themselves of the burden of their unwanted possessions, and who now have to waste 15 minutes a day folding their underwear into tiny rectangles. But also, good for us! Imagine how many bad choices people are liable to make in a feverish post New Year’s Kondo-inspired purge? Mistakes will be made. Purgers are going to see that lavish fur cape they never wore and deem it impractical; come Game of Thrones finale cosplay time, they’re going to rue their hastiness. Conscientious closet cleaners will dispose of the low-rise jeans they haven’t worn since the mid-aughts, but the joke’s on them, because low-rise jeans are coming back, bitches!
So, my fellow anti-Kondoers, if you’re in a post-holiday shopping mood, get thee to thy nearest second-hand clothing store Beacon’s (or Goodwill, or Buffalo Exchange, or Crossroads, or the internet) and get started on building your 2019 wardrobe. And if you arrive at your nearest resale outlet and see a long line, don’t worry: Those people are there to sell. Those aren’t your people. Forget them. Focus on the racks — those sweet, newly stocked, overflowing racks, where so much joy awaits.
It’s just like the old adage: One woman’s trash is another woman’s treasure, especially because most of it was never trash to begin with.
Likewise, Lia Beck writes in Bustle, “…get out there and find some things that spark joy for you.”
And reseller The RealReal is signaling that resale is so big that it’s ready to IPO. Talk about opportunistic. No better time to do this than during Kondo-mania. The company has raised $115mm in venture capital from Perella Weinberg Partners, Sandbridge Capital and Great Hill Partners, most recently at a $745mm valuation.
None of this is a positive for the likes of J.C. Penney. They need consumers to consume and clutter. Not declutter. Not go resale shopping. We can’t wait to see who is first to mention Marie Kondo as a headwind in a quarterly earnings report. Similarly, we wonder how long until we see a Marie Kondo mention in a chapter 11 “First Day Declaration.” 🤔
Is anything available in New York City for less than $5? Some of you are about to find out.
Yesterday, Bloomberg noted the following:
Retail rents are tumbling in Manhattan, especially in the toniest neighborhoods.
In the area around the Plaza Hotel on Fifth Avenue, home to the borough’s priciest retail real estate, rents fell 13.5 percent in the second quarter from the previous three months, the largest decline among the 16 neighborhoods tracked by brokerage CBRE Group Inc. The drop was due in part to a single space that had its price cut from $3,500 a square foot to $2,500, CBRE said in a report Tuesday.
Tenants have the upper hand in New York as landlords contend with a record number of empty storefronts. Across Manhattan, 143 retail slots have sat vacant for the past year, and rents have been reduced on more than half of those spaces, CBRE said. Property owners are increasingly willing to negotiate flexible terms in an effort to get tenants to commit to leases, according to the report.
Apparently a number of commercial real estate brokers didn’t get the memo. Brokers reportedly lashed out last week upon news that General Growth Properties ($GGP) leased out a large space to Five Below, a discount consumer products chain, at 530 Fifth Avenue. Per Commercial Observer:
Some brokers expressed disappointment with the tenant selection.
“It’s not a Fifth Avenue-type tenant. Everyone is pissed,” one broker said of the deal because of the nature of the tenant on a prized part of Fifth Avenue. He added: “There goes the neighborhood.” A more suitable location, the broker said, would have been south of 42nd Street.
“Not sure this was the tenant surrounding landlords with available space were hoping for,” said Jeffrey Roseman, a vice chairman at Newmark Knight Frank Retail, who was not involved in the deal.
Wait. What? Currently, there’s literally a JPMorgan Chase Bank, a Walgreens and a Kaffe 1668 right there there. Who among that lot can rightfully object?
What these brokers don’t appear to grasp is that the brick-and-mortar landscape has dramatically changed. There aren’t very many tenant options for landlords — at least not for 10,800 square foot spaces (which is what this is). And there’s no benefit to any of the other retailers in the vicinity of the space for it to remain vacant. Apropos, as noted in Commercial Observer, one broker appears to get it:
“Five Below is the updated variety store or five-and-dime store of our day—something for everyone,” said Faith Hope Consolo, the chairman of the retail leasing and sales division at Douglas Elliman. “As for the character or image of the street, that is not really affected or important. The key is that a big space was absorbed and this type of tenant will generate traffic.”
Our thoughts exactly. Those adhering to a New York City of yesteryear clearly haven’t noticed the influx of coffee shops, pharmacies and banks on every corner. Who else would take such a large space? Toys R Us?
What? Too soon?
On Valentine’s Day, in “Misplaced Optimism in Retail: L Brands - What the Holy F*#*?,” we clowned on Leslie Wexner’s aggressive approach to retail and said “tell us that you don’t want to short the sh*t out of the stock.” It was trading at $49.87/share. Now...
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We’re old enough to remember when fast fashion was allegedly decimating retail and every apparel retailer under the sun was rejiggering its supply chain to fight fire with fire. Well, yesterday, fast fashion retailer Hennes & Mauritz HB — better known in the U.S. as H&M —reported earnings and to say that they were dogsh*t would be an understatement. Here is the stock as of yesterday:
Man that chart is ugly: that’s a 50% drop in the last year. This takes the company all the way down to 2005 levels. What is going on?
For starters, operating profit fell 62% in the three months through February from 3.2 billion SEK to 1.3 billion SEK. And more problematic: the company has $4.3 billion of unsold inventory. This is the stock-in-trade picture as of yesterday:
Y’zikes. Analysts are freaking out.
“While the assortment is appreciated by our customers, we have not improved fast enough. In addition to this, we made some mistakes in the assortment mix in the second half of 2017 that affected the top line. And now, we're working hard to ensure improvements, including fashion improvements and to improve value for money further as well as, of course, and also to have the right balance and assortment mix with the right products in the right -- at the right time, in the right amount to the right channels.”
Clearly. So, after dropping this steaming pile of bad news, Persson does what all good retail CEOs do these days: drop buzzwords and hot catch phrases like they’re hot. In trying to assuage analyst concerns after this buzzsaw of an earnings report, Persson goes all in with '“new store concepts", “optimize the store portfolio,” “image recognition,” “personalized product feeds,” “automated warehouses,” “advanced analytics and artificial intelligence,” “cloud, APIs and microservices,” and “RFID and 3D.” Did you catch all of that? Don’t know about you, but we’re impressed. These guys really threw the whole kitchen sink at us with this pixie cloud of meaninglessness. Take note: if you’re a restructuring advisor or performance improvement specialist seeking a company-side retail mandate, you have our permission to cut and paste this paragraph into your deck. Perhaps you can win over an executive team too-embarrassed to ask you what the hell any of it actually means as a practical matter.
An Entrepreneur Seeks to Turn the Tables on Disruption
Sometimes the disrupted need to become the disrupter.
If anyone can rebound from disruption, dust himself off, and get back on his feet ready for battle, we suppose it’s a man who has summited Mount Everest. Twice. And plans to again - wearing gear he designed and manufactured himself. Enter adventurer and serial entrepreneur, Jamie Clarke, the founder and CEO of a new direct-to-consumer (DTC) outdoor-wear brand, Live Out There.
Several weeks ago Jamie received a deluge of press coverage after the launch of Live Out There (LOT). Most of the coverage – here (Fast Company), here (GearJunkie), and here (WWD), for example - was thematically similar, touting LOT’s (i) proposed radically-transparent production, (ii) get-people-off-their-phones-and-off-their-asses-into-the-outdoors mission, and (iii) DTC-powered lower price point. We’ll come back to all of that. There’s more to this story. To Jamie’s story. That is, Jamie, for better or for worse, is a manifestation of the retail apocalypse. His experience encapsulates many of the themes pervasive in retail today.
For 14 years prior to launching LOT, Jamie owned and operated the Out There Adventure Center, an 8000 square-foot brick-and-mortar retail location in downtown Calgary. The business featured apparel and equipment for the outdoor set; it was also an early attempt at the current retail-fad-of-the-moment: experiential retail. The Center had a warehouse in back with a theater space, a travel agent kiosk and hosted events; his business sought to engender community before “community” became a trite buzzword shamelessly used by everyone. Including us.
All of this, however, simply wasn't enough to counteract today’s vicious retail reality. We discussed the notion of community, the #retailapocalypse, retail survival and more with Jamie. What follows are the highlights, edited for length and clarity.
PETITION: What’s interesting…is the experiential aspect of what you were trying to do. That’s the big deal right now and now everyone’s talking about experiential retail….
Jamie: We were in part, perhaps, ahead of our time or maybe that’s a convenient excuse to cover up that we didn’t execute property. I think maybe it’s a combination of both. That said, hosting events and having a travel agent among other things was a powerful way to really challenge the notion of retail. You’re not just here to buy things, you’re here to gain access to experiences.
PETITION: Give us some specifics…that contributed to the downfall of this brick and mortar location.
Jamie: We had big competitors who could negotiate with suppliers deeper discounts on their volume purchases which meant they could go on sale and still maintain margin. So we were constantly under margin pressure because the bigger players had better margin. Two, the transformation of late which ultimately began pounding the nails into our brick and mortar coffin was that our suppliers became competitors. Great companies that I admire and with whom we had worked for years wanted to go direct to consumer.
Here, Jamie is referring to the Arcterx, Northface and Icebreakers of the world.
PETITION: Did they offer experiential retail?
Jamie: Not to the degree that we were striving but they merchandize their stores beautifully. They were doing retail well in that old sense of retail. They looked nice. They were well lit. All the rest.
PETITION: Did you have e-commerce at all?
Jamie: We launched e-commerce seven years ago. So we were in our eighth year. As a small operator we had a hard time scaling that experience.
PETITION: Did you also have the burden of an onerous lease that you could no longer justify from a revenue perspective?
Jamie: Have you suck in behind the scenes to read my lease agreement? Yes. The number one item that made our business untenable was that you had that market pressure. There are lots of levers as entrepreneurs. You know you can manage expense. You can shift promotion. You can change the way you staff the floor. You can even change the way you buy. But every month you run this monstrous nut for a chunk of rent. Its unavoidable and it ultimately rose as a percentage of revenue. And it was untenable for us.
And so Jamie shut the doors on June 9, 2017.
Jamie: I tell you it was heartbreaking. It was definitely devastating financially. Personally.
PETITION: Is there anyone in that space now?
Jamie: Empty. I think they’re going to struggle to fill it. The landlord wants a big national with a good covenant. You’re going to have another big brand go in there and the little guy is gone.
PETITION: So you closed the brick and mortar and you got rid of those partners. You're embracing your brand as your core competency. Now you're going direct to consumer. Talk to us about the decision making process on going DTC.
Jamie: The whole partner-slash-competitor issue escalated and that’s when we had to do a monstrous pivot and really challenge the industry and make that shift from being the disrupted to the disruptor. Do we want to continue being the victim? Do we want to continue being part of the problem here which is markup and middlemen or do we want to shift our business? Do we have the courage to be part of the solution even though doing that is filled with so much unknown? And it's entirely a shift in retail and we came to that conclusion in part by desperation because we had no other choice.
We've always known that outdoor is beyond reach for many many many people. We could see it when things go on sale how quickly our revenue would jump when we put a discount. And not just hungry people looking for deals. It was because a lot of people just couldn't afford it. And couple that with our investigation we began to realize that elevated price was the issue. For instance, a down hooded jacket on the market for $329. When we began to dig in there we found that those jackets are being built for say $80. What? An $80 jacket being sold for $329? What's going on here? And that's when we realized...we are the problem. We’re the middle. We're the retailer in the middle and that jacket gets sold to us for $150. We mark it up by $150 and then sell it for $329.
It's not working. It's failing the customer. Failing people who are sitting on the couch not getting outside doing stuff. That's when we found the courage to say we know gear. We can make our own. We'll go direct to consumer. We'll take that markup out of the antiquated distribution model. And here's the kind of radical transparency that we're challenging industry with. We need to put more money into the materials so that the environment is protected. So that working conditions are improved. We need more money in the manufacturing process. Not negotiating with those manufacturers or the mill to grind them on price. We need to actually put more money into the making of those jackets so that people are paid well. So the air conditioning gets turned on. So the maternity leave is instated. All the things that are reasonable working conditions to improve manufacturing. We need to be more transparent, need to share what's going on. And that was the disruption piece. This may not work. We may go down in a barrel or ball of flames but we're going to go down swinging. This is what needs to be done.
We're proposing to pay more money for manufacturing of our product than our competitors. And in part that is a scale issue. They're just making tens of thousands of jackets and we're making hundreds. So through that alone we're paying more. Plus I'm trying to ensure that we put the best material in our product. The savings that we have on our price point is purely on the distribution side not on the manufacturing side. I got to make stuff equal to or better than the most in the market primarily because I get to use and I want to make sure it works.
PETITION: Who are your models for DTC?
Jamie: Everlane is a company in the states that is DTC and transparent. They're in the fashion industry. But we have marveled at what they were doing and the courage it took to do it and felt that that was something that we should do. There’s a company in the States called Kuju. They make high altitude hunting apparel. Clearly Contacts.
PETITION: What’s your reaction to the fact that Everlane just opened up brick and mortar store in New York City?
Jamie: For me our long-term vision will be to return to where we were 15 years ago: to create a physical space that is an experience of the brand.
PETITION: So, basically you’re going to go that direct to consumer digitally native vertical brand route like others have recently. Everlane is a great example. Away would be another good example. Warby Parker. Get the community. Get the brand recognition. Get the following. Build the brand, And then reengage in the brick and mortar for purposes of scaling further. That is that a fair synopsis of what you're thinking?
Jamie: Yes, yes exactly. I want to do what we couldn’t do originally. I want to do a smarter more efficient store, not in the old school way. We won’t carry inventory in the back. It would be more about the experience, more about a meeting place. Smaller stores. Strategically placed. And not just ‘ol New York’s a great place and need to show up there because it’s good PR.’ Use data and information. Where are our customers? Where does it make sense? It might make sense for us to be in Boulder more than downtown New York. It might make sense for us to be in Chicago or Kingston Ontario.
PETITION: Well it also sound like there’s also an aspirational element here. Our readership may be in conference rooms 15-18 hours a day. Aside from saying its a better product, you're saying 'this is attached to me. If it's good enough for me it's definitely good enough for you.'
Jamie: Yes. It sounds ego-maniacal and I’m always concerned about that. But as a consumer I want to identify with the people of a company. The soul of the company. Not a spokesperson because those can be hired. I will never abandon that personal and intimate connection to what we make, why we make it, and how we make it, and for whom. And I believe that matters.
PETITION: Why haven't you gone the blog/Wirecutter route to review gear and used your mountaineering expertise to drive affiliate revenue?
Jamie. It’s on the list for sure, but we’re a small team scaling up slowly. Between outside workouts and time with family we are slammed 7 days per week right now.
PETITION: Considering your experience as the disrupted, what advice would you have for other entrepreneurs in the consumer products space?
Jamie. Be clear on your unique offering. If you’re not offering different value—you’re dead.
PETITION: Why not crowdfund LOT gear leveraging your own personal story to get pre-orders and drive demand?
Jamie. That’s in the works for an upcoming piece of gear.
PETITION: We've seen a tremendous amount of distress in retail obviously. But even more specific than that is the sporting goods segment of retail. Sports Authority. Eastern Outfitters. Ski Chalet. Bob's Stores. Michigan Sporting Goods. Gander Mountain. There have been a number of these retailers who have gone bankrupt and or liquidated maybe some of them have managed to maintain a little bit of a footprint here and there or maybe they maintain some sort of e-commerce business post-bankruptcy but a number of them have just disappeared. What's your thought on that state of affairs?
Jamie: Well there is a there is a retail revolution afoot and with the revolution comes blood and pain and death and those are some of the victims. My brick and mortar store was one of them. And that's not just the outdoor industry, that's retail as a whole. There's a transformation afoot. But the adventurer in me which beats the same heart as the entrepreneur believe those who can endure this storm will come out stronger and smarter and better and ultimately the customer will benefit. It's long overdue; it needed to happen. It needs to change. There is the digitization of the industry afoot for certain and retail has been slow to catch up. But that time is here and there will be pain. And so be it. That's where the growth comes.
You know to be lazy is to say 'oh well you know Amazon is destroying retail.' There's a lot more going on. A lot of very interesting story lines. And lots of opportunity....
Quick caveat: nothing we write in PETITION ought to be construed as investment advice and we have all kinds of lawyerly things to say on this topic in our disclaimer here. Cool? Cool.
Now that that boring disclaimer stuff is out of the way, if you've ever wondered whether you could ACTUALLY short retail - other than getting into restructuring - there is a new group of ETFs that do just that. Bloomberg and Axios both reported this week on the rise of ETFs targeting the retail industry, including, gulp, one's that use leverage to do so. It's our understanding that even firms with strict trading/conflicts policies allow for index fund investing. So, knock yourselves out.
(Footnote: another alternative is investing in distressed Puerto Rican real estate.)
Again, note the disclaimer and if you lose money don't blame us.
Amidst the doom and gloom of retail there is a capitalistic crop of entrepreneurs popping up looking to take advantage of vacant retail space. Appear Here, for instance, launched its New York office this week; it deems itself the Airbnb of retail space, matching vacant properties with brands looking to experientialize (we may have just made that word up) the consumer experience. Storefront is another company that acts in the same space.
Nailed it. Take a look at this January 2014 piece from A16Z's Jeff Jordan. Nearly everything - but for maybe a Nasty Gal reference - has continued to play out exactly as he indicated back then. This is, in part, why PETITION is spending a lot of time looking at what the people on the front-end of companies are saying and doing - rather than being reactionary, as the restructuring industry often tends to be. Notably, the e-commerce outliers he identifies are still holding: "food and beverage" and "health and personal care." But the former is under siege. The latter has held strong - Ulta being a real success story - but maybe that, too, is just a matter of time. The bottom line is that this retail trainwreck was entirely foreseeable. Perhaps just not by the management teams at the helm.
More Walmart. Apparently Walmart doesn't care one iota that it's driving grocer margins way down in a race to the bottom. This is going to get ugly. Case and point: Central Grocers looks like it is on the precipice (with Weil, Conway MacKenzie and Peter J. Soloman in the trenches). And as groceries get cheaper, it will get harder and harder for casual restaurants to compete as well.
With Walmart's rumored acquisition of Bonobos, perhaps we can finally do away with the narrative that these fashion startups will alleviate some of the brick-and-mortar vacancy. Walmart isn't buying Bonobos for its 31 "guideshops"; it is buying Bonobos because it needs to increase its e-commerce skillset and acquire a different demographic of shopper than the typical Walmart shopper. Or, we could be wrong: perhaps with Walmart's resources behind it, Bonobos will, in fact, be able to open more guideshops. But will they be independent of Walmart, or within Walmart? So many questions. And here's another one: if brick-and-mortar retailers continue to go the way of the showroom, which suppliers get hammered? Paper (shopping bag) producers? Meanwhile, speaking of bargain shopping at places like Walmart, it appears that Neiman Marcus shoppers are now getting price conscious too: it's amazing what comparative information at your fingertips can do.
In previous newsletters we have discussed co-cooking kitchens and co-retailing spaces. Now there is also a co-warehousing solution expanding into seven major markets - including New York and LA. Darkstore, a new recipient of $1.4mm in seed funding (which, we recognize, ain't much), empowers brands to offer same-day delivery. The company leverages excess capacity in storage facilities, malls and bodegas and uses those spaces as fulfillment centers (which is an interesting concept considering all of the recent debate about vacant retail space, including in NYC, and the battle for the "final mile"). We have no idea how they'll make money given all of the different players in the mix but this is an interesting idea.
There's a lot of bluster in the restructuring community about Amazon, e-commerce and the death of brick-and-mortar retail. It's hard not to be sanguine about the future of retail when the bankruptcy roll is littered with names like General Wireless Operations, hhgregg Inc., Gander Mountain Co., Gordmans Stores Inc., and Vanity Shop of Grand Forks Inc. - and those are just the filings that have occurred in March.
In the interest of completeness, though, there is SOME nuance here and that nuance largely depends on socioeconomic and geographic considerations. This Washington Post story features interesting data about the adoption of e-commerce and while it has grown in nearly every state, there are some states that have been very slow to adopt it, e.g., Idaho, South Dakota, Colorado, Arkansas and Arizona. The macro trend remains the obvious, of course, but we thought this was worth noting. Sometimes it's erroneous to paint with too broad a brush.
After reporting disappointing numbers this week, Urban Outfitters’ shares fell nearly 8% and its CEO, Richard Hayne noted that “[t]he U.S. market is oversaturated with retail space and far too much of that space is occupied by stores selling apparel. Retail square feet per capita in the United States is more than six times that of Europe or Japan. And this doesn’t count digital commerce. This created a bubble, and like housing, that bubble has now burst. We are seeing the results: Doors shuttering and rents retreating. This trend will continue for the foreseeable future and may even accelerate.” Which is precisely why short sellers have their sights set on mall REITs - and not just the REITs with more class B and C malls, as we’ve long predicted. As the WSJ reported, short interest on Simon Property Group and GGP Inc. has jumped to near a record high. Apropos, we took a look at the rejection motions filed in Radio Shack 22.0 and noted that 6.4% of the locations slated for rejection are from the two aforementioned behemoths. Note, also, that both have been appointed to the official committee of unsecured creditors in BCBG. Allegedly, all of this destruction has landlords looking for alternative clientele for anchor slots including, it seems, grocers like Wegman’s and Aldi. Note: the previously-linked Fox Business/WSJ piece states as fact that “[g]rocers present an advantage for landlords because they are more resistant than traditional retailers to internet competition.” Really? We’ll ponder that as we munch on our fourth delicious Hello Fresh meal of the week.
Back in October, Garden Fresh Restaurants* filed for bankruptcy. In January, The Limited Stores* filed and ultimately sold for a pittance to Sycamore Partners. Soon, if the rumors are true, Gordman's will file. What do all of these companies have in common? Sun Capital Partners. Gordman's would be the third Sun Capital portfolio company bankruptcy in five months - which doesn't really enhance the image of private equity firms now, does it? Thousands of jobs are now gone (a typical and increasingly earned PE trope), but Sun Capital has gotten its dividends and fed its LPs. Did Sun generate returns for its LPs? Looks that way. But we're not sure a track record of multiple liquidations is what Sun was hoping for.
UPDATE: Shortly after publishing this, Gordmans Stores Inc. did, in fact, file for bankruptcy. You can find the case summary for it here.
* click on company names for case rosters
"It is likely that other retailers may commence chapter 11 cases in the near term." - Girisha Chandraraj, CEO of Marbles Holdings LLC
How do you know when the retail industry is truly effed? We'll spare you the suspense: when even the big nerds from "The Brain Store" can't find a path to retail sustainability.
This past week, Marbles Holdings LLC, the entity behind "Marbles: The Brain Store," a specialty retailer that sells games, puzzles, books and software for kids (and memory-juicing adults) filed for bankruptcy. The company operates 37 retail stores in 13 states (and a store-in-store concept within 6 Macy's locations); it also maintains e-commerce and wholesale channels. It's on the smaller side of retail which is why it likely didn't get as much attention as the headlines surrounding Eastern Outfitters LLC, Payless or Sears. But like those others and "[d]espite years of popularity," the company simply couldn't overcome declining mall traffic and burdensome rents. So now what? Liquidation.
We'd, frankly, never even heard of this company. But there are some interesting bits in their papers that merited highlighting:
- The shame of it. The games this company make seem to be games that this country needs. As the US falls behind in the STEM fields, providing kids access to "Maker Brains" games "focused on capturing the engineer in everyone" seems to be just what the doctor ordered. With this in mind, hopefully some of the company's concepts will find a home.
- The World Trade Center. We've been to the new shopping center there. Thousands of people have been there. And thousands of people leave carrying no shopping bags. We've noted it. You've probably noted it too. "The Debtors believed that the mall owner of WTC could transform the Financial District into an iconic shopping center in Manhattan with significant customer foot traffic, thereby justifying the capital expenditure." This is curious. Either management is projecting their own shortcomings or the mall owner engaged in a classic case of over promising and under delivering. Maybe both. The WTC location contributed to 50% of the company's sales shortfall. There is a commentary here about the World Trade Center shopping center that probably merits entirely separate coverage. See "New Yorkers may not be shopping at the $4b transit hub...." Regardless, this is a big league #fail.
- The "A Malls". The Company earmarked 21 stores for closure prior to filing for bankruptcy. 18 of the 21 stores are with landlords generally associated with "A Malls" - Simon Property Group, General Growth Properties and Westfield LLC. These are the malls that are purportedly safe because their tenants are high end. Hmmmm.
One final note: this business was seemingly as omni-channel as the come. Physical presences, e-commerce, catalogues, etc. And yet it still fell under the weight of secular and cyclical trends befalling all of retail. The bulletpoints above are important: they show the trickle-down effect of this wave of failing retail. How much exposure do A Malls have to a further decline in retail? How about the City of New York? Or other municipalities dependent upon commercial retail rents? It doesn't take a mind-bending puzzle-junkie to understand that Mr. Chandraraj is on point: there will DEFINITELY be other near-term retail bankruptcies. Are the effects of that anywhere near fully known?
This week Amazon announced the Seattle-based beta launch of its (a) cashier-free (b) line-free (c) self-checkout-free (d) sensor-based food shopping experience. The typical convenience or grocery store UX includes: put items in cart; wait in line for an absurd amount of time; take items out of cart and place them on a conveyor belt; watch person in front of you attempt to pay by check; wait more; watch items scanned and pay for items; watch items get bagged or bag them yourself; and, maybe, put items back in cart for external transport. Amazon Go would eliminate all of that.
Instead, the entire user experience would be managed by way of sensors on the food items, sensors at the doors, and an app that catalogues the items once you place them in your bag and walk past the scanners on your way out. The transaction is paid for using your Amazon-linked credit card. For the technophiles among you, here is a summary - based on the filed patent(s) - of how this would work.
Now, initially, the Wall Street Journal and Business Insider reported that Amazon may roll this out to 2000 physical locations - which, if true, would put Amazon at a brick-and-mortar grocery scale of the likes of Kroger and Tesco. On Wednesday, Amazon denied that number.
What does this have to do with the restructuring community? On Tuesday, we discussed these developments with an Amazon employee and what follows is the (slightly-edited for length) narrative:
Amazon Employee: Curious to hear your questions and what your different angle is.
PETITION: Well [we're] in the restructuring space and so [we're] looking at it from the angle of "who gets f*cked?" if this concept takes off and scales to the Kroger/Tesco like level of 2000 stores. Wondering your thoughts there...? [Our] list of losers: manufacturers of conventional scanners...plastic separator bricks...cash registers...conveyer belts; landlords (maybe? - less square footage required without the cashier and self-checkout stations); print media/candy manufacturers/gift cards - all things that benefit from lines and impulse buys at checkout; human capital; people on the wrong end of income inequality.
Amazon Employee: I've noticed that because not many people have seen it in person they tend to over-index on the idea that this affects grocery stores the most. But really, when you go inside, you realize that this is for quick shopping. A family of 4 or 5 cannot go in and by a week's worth of groceries. Really this is going to impact the quick service restaurants and the real growing category is in-grocery-sit down eating. So this is really for 20-30s who live in a dense urban environment and want a quick breakfast/lunch/dinner that is healthy/fresh/organic.
PETITION. So, this would affect the Pret A' Manger types more? And how does this reconcile with the reports that this technology is meant to be deployed in 2000 stores: you're saying the 2000 number applies to the fast-healthy-casual concept? And a lot of what [we] said would seem to still apply, no?
Amazon Employee: There are a lot of rumors out there about 2000 stores etc., but those people have zero idea what that really means. Amazon is probably testing more than one concept so there's no way to know if Go is the only concept and how widely it will be deployed. But a lot of your losers - belts, candy, impulse buys - will definitely still be at traditional supermarkets. So the Go concept seems to map more closely to QSR and in-market-dining. So those seem to be the big losers here. Pret A Manger is a good example.
For now, then, it seems that this is more of a supply chain exercise than anything else though we'd be remiss if we didn't highlight that nothing was said about potential job loss (statistics on cashiers here and a counterpoint to the common counter-argument about the ATMs/bank-teller dynamic here). That said, if this technology takes hold, there is no reason to believe that this wouldn't eventually affect incumbent grocers as well. And as we all know - and we here at PETITION have well covered - the grocery and restaurant space could do without additional headwinds. Here is the list of the top 50 QSRs in the United States for good measure.