Revlon makeup products are displayed at CVS Store on August 9, 2018 in Sausalito, California.
Justin Sullivan | Getty Images
The retail industry is facing a potential wave of bankruptcies after a months-long slowdown in restructuring activity.
There could be an increase in struggling retailers starting later this year, experts say, as inflated prices dampen demand for certain items, stores struggle with bloated inventory levels and a potential recession looms.
Last week, 90-year-old cosmetics giant Revlon filed for Chapter 11 bankruptcy protection, making it the first household consumer name to do so in months.
Now the questions are: Which retailer will be next? And when?
“Retail is in flux,” said Perry Mandarino, co-head of investment banking and head of corporate restructuring at B Riley Securities. “And within the next five years, the landscape will be much different than it is today.”
The industry saw a major downturn in restructurings in 2021 and early 2022, as companies — including those on so-called bankruptcy watch lists — received relief from financial stimulus that offered cash payments to businesses and stimulus dollars to consumers. The halt came on the heels of a flood of ordeal in 2020, near the start of the pandemic, as dozens of retailers including JC Penney, Brooks Brothers, J. Crew and Neiman Marcus headed to bankruptcy court.
Including the Revlon filing, there have been only four individual bankruptcies so far this year, according to S&P Global Market Intelligence. This is the lowest number the company has tracked in at least 12 years.
It’s not entirely clear when that number could start growing, but restructuring experts say they are bracing for more problems across the industry as the all-important holiday season approaches.
An analysis by Fitch Ratings shows that consumers and retail companies most at risk of default include mattress maker Dan Simmons, cosmetics line Anastasia Beverly Hills, skincare marketing company Rodan & Fields, owner of Billabong Boardriders, men’s suit chain Men Wearhouse, and supplement marketing. Isagenix International Food Company and Outerstuff Sportswear Manufacturer.
“We probably would have a perfect storm,” said Sally Henry, a law professor at Texas Tech Law School and a former partner at Skadden, Arps, Slate, Meagher & Flom LLP. “I wouldn’t be surprised to see a slight increase in retail bankruptcy.”
For the most part, however, consultants who have worked on retail bankruptcies in recent years believe that any looming distress in the industry should not be as severe as the massive jolt in 2020. Instead, bankruptcies could be more widespread, they said. .
“What I saw in 2020 was a huge amount of restructuring activity being pushed forward,” said Spencer Weir, managing director and leader of retail practices at Riveron, a consulting firm. “Then we started from 2020 until today with a huge amount of stimulus. What’s going to happen now? It’s kind of a mixed bag.”
The split in consumer behavior can make things more unpredictable. Low-income Americans have been particularly affected by inflation while wealthy consumers continue to binge on luxury goods.
“At the moment we anticipate that what happens next is much more complex,” said Steve Zelin, partner and global head of the Restructuring and Special Situations group at PJT Partners. “There are many variables.”
The clearance rack at the TJ Maxx clothing store in Annapolis, Maryland, on May 16, 2022, as Americans brace for the shock of summer posters as inflation continues to grow.
Jim Watson | Agence France-Presse | Getty Images
The latest retail sales data shows where consumers are falling the most. The Commerce Department reported last week that advance spending on retail and food services fell 0.3% in May versus the previous month. Furniture and home furnishings retailers, electronics and hardware stores, and health and personal care chains saw declines month on month.
“Consumers aren’t just buying less stuff, they’re shopping less, which means missing out on the impulse shopping moments that are critical to retail growth,” said Marshall Cohen, senior retail advisor at NPD Group, a market research firm.
In a survey released in late May, the NPD Group said that in the first three months of 2022 consumers bought 6% less goods at retail than they did in the first quarter of 2021. More than 8 in 10 consumers said Americans say they plan to make more changes to roll back their spending in the next three to six months.
Race to stay ahead of price hikes
The threat of future rate hikes — after the Federal Reserve last week raised benchmark interest rates by three-quarters of a percentage point in the most aggressive increase since 1994 — has retailers looking to tap debt markets to accelerate those plans.
Rivers Ware said companies were racing to weather future price increases. Some have repurchased debt or attempted to postpone its maturity. For example, supermarket chain Macy’s said in March that it had completed refinancing $850 million of bonds that were due to be repaid in the next two years.
However, Ware said recently that he has noticed that refinancing activity over the past 12 months has begun to slow, with more deals canceled or cancelled. “The window appears to be closing for a more difficult refinancing,” Ware said.
In late 2020, Revlon narrowly escaped bankruptcy by persuading bondholders to extend its outstanding debt. But just under two years later, the company succumbed to heavy debt burdens and supply chain issues that prevented it from meeting all of its orders.
As ever, retailers grappling with the heaviest debt burdens will be most at risk of bankruptcy, said David Berliner, head of business restructuring and transformation practices at BDO.
He added that more tension may start to emerge after the upcoming back-to-school shopping season, after families return from long-awaited summer vacations and may have to tighten their belts.
A UBS survey earlier this month found that only about 39% of American consumers said they plan to spend more money on back-to-school season this year than the previous year, down from the number of people who said the same thing in 2021.
“Consumers are getting stinger with their wallets,” Berliner said. “There will be winners and losers as we always see it. I’m not yet sure how soon that will happen.”
Berliner said he has been keeping a close eye on consumer debt levels, which are hovering near all-time highs.
“Consumers were willing to spend on credit cards, mortgages, and buy-now-pay later programs,” he said. “I’m afraid a lot of consumers will pull their credit cards and then have to pull out suddenly.”
If consumer spending slows in this way, Berliner said, more retailers may be pushed into bankruptcy at a faster pace. But if spending remains at a reasonable level, and consumers are able to repay their debts reasonably, companies instead “share a little bit of the pain” with fewer bankruptcy filings, he said.
Either way, Berliner said the distress will be greater among smaller retailers, particularly mom-and-pop stores, which don’t have many resources to weather tough times.
Stock levels under control
Rising inventory levels are also on the radar of bankruptcy advisors because they have the potential to lead to much bigger problems. Retailers from Gap to Abercrombie & Fitch to Kohl’s have said in recent weeks that they have a lot to do after shipments arrived late and consumers suddenly changed what they were shopping for.
Target said earlier this month that it was planning price cuts and some order cancellations in an effort to get rid of unwanted merchandise. Joseph Malfitano, founder of transformation and restructuring firm Malfitano Partners, said that while other retailers are following suit, profits will shrink in the near term.
Malfitano explained that when a retailer’s profit margins shrink as its inventories are revalued — a routine practice in the industry — those inventories will not be of much value. He said a company’s borrowing base could fall as a result.
“Some retailers have been able to cancel orders to not create more bubble in inventory,” Malfitano said. “But a lot of retailers can’t cancel those orders.” “So if retailers who can’t cancel orders don’t take it out of the park during the holiday season, their margins are going to drop a lot.”
“You will face more problems in 2023,” he added.
Shoppers inside a shopping mall in Bethesda, Maryland, on February 17, 2022.
Mandel Ngan | Agence France-Presse | Getty Images
Ian Fredericks, head of Hilco Global’s retail group, agreed that retail bankruptcies likely won’t recover until 2023.
“Retailers are not in trouble because they are still sitting on a boat full of cash…between some cash left on their balance sheet plus an undrawn pistol,” he said. “There is still a lot of runway.”
It just means that the upcoming holiday season, which every year is a vital time period in the retail calendar for companies to break even in profits, could be more than a moment of corporate success or failure.
“I don’t see a big holiday spending season,” Fredericks said. “I think people are going to really stress and control.” “Inflation is not going anywhere.”
An additional consequence of the economic slowdown could be a slight increase in M&A activity across the retail sector, according to Mandarino of B. Riley Securities.
Larger, more financially stable retailers may be looking to devour smaller brands, especially when they can do so at a discount. Mandarino said they will use this strategy in tough times in order to maintain revenue growth quarter by quarter, albeit in an inorganic form.
He added that household goods, clothing and stores may face the most pressure in the coming months.
With its namesake Bed Bath & Beyond banner underperforming in recent quarters, the retailer has faced pressure from an activist to ditch the Buybuy Baby chain, which is seen as a stronger part of the business. Kohl’s, a retailer for a department store outside the mall, has also been pressured by activists to consider a sale and is now in talks for an exclusive deal with Franchise Group, owner of Vitamin Shoppe. A source told CNBC on Wednesday that Franchise Group is considering whether to reduce its bid for Kohl’s.
“It’s a buyers market,” Mandarino said. “Growth will not come naturally when consumer spending falls and if we enter a recession.”