After the bloodbath in the retail industry last year, many hoped for a better 2018, with many retailers claiming sales were strong during the Christmas holidays. Unfortunately, the reality is setting in with many of these businesses, and now the ratings agencies are warning of another horrible year coming in American retail:
According to the latest Moody’s research report on the retail sector, the rating agency now forecasts at least six retail & apparel issuers defaulting over the next 12 months, with most of these occurring in the first half of the year.
While the good news is that the industry default rate is expected to peak at 12.43% this March, Moody’s cautions that the still-high default forecast for the remainder of 2018 points to more pain before this lower ratings rung in retail stabilizes. Recent defaulters include Tops Markets, which filed for Chapter 11 on February 21, which followed Bon-Ton’s filing on February 4. Charlotte Russe and Charming Charlie both defaulted in December, and Claire’s has hired restructuring advisors.
Meanwhile, the Toys “R” Us bankruptcy in September its overnight Chapter 7 liquidation has only added to pressures by accentuating potential pressures between vendors and the more stressed retailers, even as it left some 33,000 employees without a job.
The problem is that it only gets worse from there, and the rating agency expects upcoming maturities for distressed issuers will spike in 2019. Defaults are growing as many struggle with high leverage and challenged operating performance. These challenges are compounded by the biggest risk – mounting maturities – which spike in 2019. Overall, issuers in the Caa1 and lower group face $14.9 billion in public and private maturities due 2018 through 2020 as shown in Exhibit 1. The lion’s share of these maturities (Exhibit 2) is attributable to just five issuers.
Many of the names on Moody’s distressed list, and those that have filed for bankruptcy in the past 12 months, are, or rather were, sponsor-owned. It will hardly surprise anyone that many distressed retailers are highly leveraged following sponsor-led LBOs. High leverage has proved problematic for the retail industry due to the industry’s inherent cyclicality and operating income challenges post-recession. Such pressures have been vastly aggravated the past 10 years with the rapid rise of online competition, which has severely squeezed profit margins across the board.
The debt loads assumed by many smaller retailers have created an untenable competitive reality: they are financially ill-equipped to deal with the changing retail landscape. They also lack sufficient resources to build out online capability, keep stores fresh, and fend off pricing threats from larger competitors. The successful retail LBO stories, such as Dollar General Corp. (Baa2 stable) and BJS Wholesale Club Inc. (B3 stable), have typically been those that haven’t needed to compete online.