Where Did All the Stores Go?
By: Timothy Chilleri
10 January 2008
Circuit City, Boscov’s, Sharper Image, Mervyns, Linens ‘n Things, Whitehall Jewelers, The Parent Company (which owns eToys), and Steve and Barry’s; all have filed for bankruptcy protection. Starbucks announced last summer that they will begin shutting down 600 stores in light of deteriorating economic conditions. We all know the trouble facing Detroit and many financial institutions. Unfortunately, few seem to accept the economic realities as 2009 will likely be worse than 2008.
Last year, a financial WMD detonated in the United States (see “Christmas Past, Christmas Present, Christmas Future” for more details). The first wave of casualties were those on the front lines: home owners who purchased mortgages they could not afford, banks and lending institutions who foolishly lent out money to these unqualified candidates, Wall Street firms who sold and purchased various collateralized debt obligations (CDO’s), and institutional investors who purchased such obligations with little understanding of the real risks. They huddled together at the nucleus of the explosion as the government stepped in to hold together a shattered industry.
In 2009, the after effects will blow apart the remaining part of our tattered economy. Housing prices will continue to fall as supply is still outstripping demand and default rates will increase (1). Next up is retail which accounts for 70% of consumer spending. Christmas sales make up a mind numbing 26% of total retail sales. For all major retailers, Christmas is life or death. Sink or swim. In the black or in the red. Did anyone go shopping this Christmas and get bombarded with savings in every store? “Take an Extra 10% Off”, “25% Off This Week Only’, “50% Holiday Blowout Sale”, “Going Out of Business Sale: Take 80% Off Every Item in the Store”! While I consumers were delighted, did anyone really stop and evaluate the prospects for retailers?
I am 99.9% certain that holiday sales will come in well below expectations. Why so confident? A) Consumers were not willing to spend as much because they finally woke up from their coma to realize they have no money to spend on Nephew Nick and Niece Nancy. B) Everything was on sale! How do you think this is going to affect gross sales? Think of it this way, if a retailer had a 20% markdown on their merchandise, they would need 25% more volume to break even for the season. Did that happen? No. Why? Read A.
After studying more than 180 companies, AlixPartners, a restructuring firm, estimates that over the next 24 months there will be a fourfold increase in the number of retailers in deep distress; companies that do not have enough working capital or are unable to finance their debt. “Unfortunately, this is the new normal,” said Matthew Katz, a managing director at AlixPartners. “It's all about liquidity,” he continued, “what retailers are trying to do is turn their inventory into working capital and use that to fund the operation and to fund the debt load. And without that your lifeline is soft or gone” (Rosenbloom).
Earnings at US retailers will fall 20% this year, according to analysts’ estimates. The International Council of Shopping Centers in New York predicts 73,000 US stores may shut in the first half of 2009 after what may have been the worst holiday-shopping season in 40 years. That’s after about 148,000 stores closed last year, the most since the 2001 recession, according to the trade group. “You'll see department stores, specialty stores, discount stores, grocery stores, drugstores, major chains- either multi-regionally or nationally- go out,” said Burt Flickinger, managing director of Strategic Resource Group, a retail-industry consulting firm in New York (“Grim Outlook for Profit”).
“I think you're going to see people giving back the keys and saying ‘We don't think the asset is worth the debt,’” Mark Weiss, president of McLean, Virginia-based JER Investors Trust JRT.N, said in a December interview. Commercial property values are falling after being propped up in the 2005 to 2007 period by lax underwritings and investors eager to boost paltry yields with risky debt (Yoon).
Once the terrible sales numbers are in, more bankruptcies will follow suit. On one hand this will leave a lot of people unemployed and on the other, thousands if not tens of thousands of empty stores. And who will rent them? No one. So, who else will go out of business? Failed financial firms, restaurants, tanning salons, travel agencies, and anything else of superfluous value (remember how we have been overindulging as a society)
The result will be a collapse in the commercial real estate market which will be more damaging than the residential one. Major projects in cities will halt (it’s already happening, eg, Las Vegas, Miami) leaving the unfinished buildings as a reminder of the collapse. Even where I live, Mohegan Sun casino has halted construction on its second major casino and hotel tower.
As the retail and commercial sectors break down, the credit card sector will be the next domino. Those who have been living off their credit card will not have the cash to pay everything off and some will default. Those who were smart enough not to get into debt will scale back and/or not use them at all. As a result, the credit card companies and all the related businesses and operations will be forced to pare back. The United States has about $3 trillion in debt (excluding auto and mortgage). I’m willing to bet that this will only add to the downward pressure of the economy.
Personally, I have a difficult time believing we can pull out of the recession in the next year. If our economy broadened during the major credit expansion era (arguably 1982-2008), won’t it shrink during a credit contraction? And to make matters much worse, we all know the most popular phrase in America will soon be ‘inflation’. When will it start and how high will it go? Who knows, late 2009, 2010 and once out of the bag, it will be much more difficult to control. As such, I see little light at the end of the tunnel.
(1) I am still unconvinced that the government can save distressed homeowners. Will lowering mortgage rates help? Perhaps, but with unemployment going higher and tighter credit conditions, home prices must still fall.
“Grim Outlook for Profit.” The Sydney Morning Herald. Internet. 5
January 2009. Available: http://business.smh.com.au/business-
Rosenbloom, Stephanie. Post-Christmas retail bankruptcies begin
In U.S. International Herald Tribune. Internet. 30 December 2008. Available:http://www.iht.com/articles/2008/12/30/busine-ss/3-0shop.php.
Yoon, Al. Commercial Property Loans Signal Deepening Stress.
Reuters. Internet. 6 January 2009. Available http://www.-