11 November 2008

Next Retailer to Go Bust?

On the day after Circuit City's bankruptcy, why not examine which retailers are likely shuffle off this mortal coil during this recession.

Over the weekend roaming the Philly neighborhoods of Northern Liberties, Old City, and South Street with JVL, we broached the topic of which retailer is next to go bust. (We already assumed that Circuit City was fucked.) I nominated the following as retailers likely to see their demise:







JVL offered up:



You could say we based our picks on the current downtrodden real estate market, and the fact that the American consumer decided to stop spending money last month. Or you could say we pulled these places out of the ether.

Then yesterday, I had the pleasure of spending a quiet Sunday afternoon at the Mall at Short Hills. Nordstrom's seemed pretty mellow. As did Banana Republic. And both were having significant sales.

We dropped into Restoration Hardware, which seems to have veered away from furniture, and smaller bits like door knobs and switch plates, and over to tschotschkes. On offer were overpriced Pottery Barn-ripoff Xmas ornaments as well as electronic drumsticks and foldable pianos that looked destined for the Sharper Image before that chain went belly-up.

Are my doomed retailer picks actually looking to follow Circuit City into Chapter 11?

First up, Pier 1.

John Gabriel from Morningstar is negative on Pier 1's prospects (bold added):

As we have seen with other home furnishing retailers, store traffic continues to diminish at Pier 1, with September comparable-store sales (sales growth from those stores open for more than a year) declining 11.7%. Consumers are significantly paring back home-related purchases in light of a challenging economic climate. We do not foresee a reversal in store traffic in the immediate future, which increases the likelihood of markdown activity and makes near-term sales and profitability much more difficult to forecast.

More important, our concerns about Pier 1's financial position have increased. The company had $191 million in cash on hand and $117 million of availability under its revolving credit facility at the end of August, which should be sufficient to fund short-term operations. However, Pier 1 has generated negative free cash flow through the first half of the fiscal year, and it looks less likely the company will be free cash flow positive for the year. With exceptionally tight credit market conditions, a prolonged slowdown in the sale of home-related products could have a disastrous impact on the company. If conditions continue to worsen, we believe bankruptcy is a legitimate possibility. We believe our fair value estimate warrants a higher uncertainty rating until there is greater stability in overall market conditions.


In the same Pier 1 analyst report, the first "Bulls Say" sidebar argument in favor of Pier 1 is exactly what Restoration Hardware is attempting with its tschotschke focus:
Pier 1's new merchandise strategy of offering small "cash-and-carry" items has helped drive traffic back into its stores and bolstered top-line growth. The firm shrewdly eschewed carrying large, high-ticket furniture items, which tend to be slow moving and often require financing.


R.J. Hottovy at Morningstar covers Williams-Sonoma, owner of its namesake stores, as well as Pottery Barn and West Elm. Until very recently, Hottovy was optimistic on the Williams-Sonoma and West Elm concepts; less so on Pottery Barn. However, the American consumer's spending freeze quickly altered that outlook:

We are placing Williams-Sonoma WSM under review as we assess management's lowered outlook for 2008. Although it provided revised expectations on its second-quarter update in late August, management slashed it's revenue and earnings-per-share forecasts for the remainder of the year amid significant deterioration in consumer demand for home-furnishing products (comparable-store sales were negative 14% in August, negative 20.1% in September, and negative 26.6% in October so far). Full-year net revenue is now expected to be between $3.274 billion and $3.344 billion, reflecting year-over-year declines of 15%-17%. The sales forecast assumes comparable-store sales (sales from stores open for more than a year) will decline a whopping 17.7% to 19.3% for the year. The significantly lower consumer demand should lead to higher markdown cadence and operating expense deleverage as fixed costs are spread over a smaller sales base. As a result, Williams-Sonoma also cut it's earnings-per-share outlook (excluding one-time items) to $0.11-$0.33 from a range of $0.89-$1.01.


Morningstar cut its fair value estimate on Williams-Sonoma shares by almost one-third.

Design Within Reach is not covered by Morningstar. That speaks volumes. So does the following chart:



Restoration Hardware was bought out by two private equity firms for $4.50-a-share (~$175M) in 2008. They got taken.

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