Wednesday, February 11, 2015

Radio Shack's Doomsday: No Surprise

Radio Shack filed for Chapter 11, and few were surprised.
RadioShack Corp. announced its bankruptcy in Feb., 2015.  And many investors and market analysts might have responded with a collective ho-hum or quietly sighed, "So what else is new?" "Could've told you so."

The company's stores are everywhere. The brand is familiar and known. And consumers, most of whom wouldn't admit it, may have visited the store once or twice in the past year, if only to purchase batteries or spare headphones or perhaps take a peek to see what the store possibly sells nowadays.

RadioShack may have had some store traffic. Not much. It ultimately failed because it was no longer a go-to, must-stop destination.

What ultimately happened and why? Was it a wayward, flawed strategy? Did it not keep pace with modern consumer electronics marketing? Was it too slow to embrace online commerce? Was it an organization flummoxed by confusing strategies, different looks and logos and faux-hip name changes (Recall the effort to promote the company as "the Shack").

Do the financials of the company over the past decade show a predestined path to bankruptcy?

Just three years ago, the company was profitable.  Sales had topped $4 billion, and the company reported $126 million in earnings (sufficient for a fairly good 17% return on equity), admirable numbers for a company, like all its peers in the industry, emerging from a financial crisis. The company still thought it was stable enough to pay a dividend.

Then it began to hit rock bottom quickly. By late 2014, a company capable of eclipsing $100 million in annual income was headed toward losses exceeding $400 million last year.

Blame it on Apple, the iPhone, Microsoft, Google, Android, Amazon and other technical companies that created a stream of cool products and sold them in their own stores or sold them briskly online.  Radio Shack, despite renovations and redesigns, couldn't offer the same dramatic store experience you get when you enter into the kingdom of Apple.

After 2011, revenues plunged quickly, and it couldn't push down costs as quickly while consumers stopped visiting its stores and buying product off its shelves--no matter how much it continued to promote its brand and encourage loyalty.  The large branch-store network (numbering over 4,000 sites) explains why costs couldn't decline as rapidly as sales. Fixed costs. The lights still had to be turned on, whether or not stores were selling radios, smart phones, TV's, RCA connectors, or batteries. Meanwhile inventory stockpiled.

In a sense, the company bled to its eventual demise. Three years ago, if an analyst weren't familiar with its product or brand (and the immense competition it faced), he might have regarded the company's financial numbers satisfactory:  Fair profit margins, a satisfactory return for investors, token dividend payments, and a balance sheet not mired with too much debt or inadequate levels of cash.

But once the downward trend in revenues snowballed, it was a matter of time. After 2011, revenues began a 5-10% decline steadily from quarter to quarter, like a pebble tumbling down a hill. Meanwhile, costs remained about the same. Decreased demand for product explains some of the sales downturn. But some of the decline in sales is also likely due to discounts on products that weren't offset by new store traffic. One employee told Bloomberg BusinessWeek that he felt customers entered a RadioShack store only after exhausted efforts in not being able to the same product at Best Buy.

Declining revenues meant losses. Losses meant declining cash flow and eventually cash deficits.  In 2010-11, the company had reasonable cash reserves (about $500-600 million), enough for emergencies, dividends and possible reinvestments.

When the losses piled up, it had to tap the cash box to meet expenses and pay vendors and suppliers and soothe lenders and debt investors.  Cash has now dwindled to less than $50 million. There is no book equity. Meanwhile, it hasn't been able to make a dent on what had years ago been a tolerable debt load. Debt-equity ratios of about 1-to-1 climbed to an unbearable 8-to-1, entirely because the losses wiped out what was once a solid equity base.

With the company running out of cash, with debt now becoming an onerous burden, with no confidence that revenue levels will ever top $4 billion again (arguably not even $3 billion), and with companies like Apple or Best Buy (which has had its own share of difficulties) expressing no interest in buying the operation, bankruptcy was the way it had to go.

Sometimes private-equity investors have stepped into situations like this, if they reasoned they could force massive restructuring, pare down the operations, sell stores, and squeeze positive cash flow from the enterprise for a few years. But even they shied away from this ailing company.

Some investors or operating companies saw value in RadioShack in its stores network, either in the store structures themselves or the real estate.  But they remained in the background until after the bankruptcy announcement. Sprint has expressed interest in buying over 1,500 of its stores, while the company in Chapter 11 will figure out what to do with more than 1,000 other stores (after it has shut the doors of several hundred others). Others have interested in the store fronts, and franchisees will be permitted to retain stores and use the brand.

But the 94-year-old company may not disappear into retailing history.  While creditors and bankruptcy trustees mull over the financial mess, some may see continuing value in the brand. Somebody might figure out a way for it to recapture old electronics glory or deduce there is small-time niche in selling.  Franchisees, especially those abroad, could keep the brand name alive. Whatever remains could be a small niche continuing to sell batteries, trinkets, and accessories to a loyal core customer base in selected pockets.

Or with companies like Apple and Microsoft offering "amazing" products and an elaborate, theatrical in-store experience that RadioShack will never replicate, should it just liquidate and close doors forever?

Equity investors, at least the old ones, will likely be wiped out. (The stock still trades, but no longer on the New York Stock Exchange and now over the counter.) If investors, lenders and trustees permit an orderly sell of assets, those who hold debt might have an opportunity to get satisfactory payouts, something better than nothing.

Blame it on bad management, bad strategy, or the misguided courage it had to dare to compete with the bigger boys. Some will say let's applaud RadioShack for lasting as long as it did.

Tracy Williams

See also:
CFN:  Who's Betting on Blackberry? 2013
CFN:  What Happened at JCPenney? 2013
CFN:  MFGlobal:  Too Small to Save, 2011
CFN:  Dark Days at Knight Capital, 2012

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