Store Squatter on Borrowed Time or Extreme Makeover Retail Edition Winner?

By Karl Hartkopf - June 27, 2012 | Tickers: AAPL, BBY, CVC, GOOG, RSH | 0 Comments

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In preparation for the video worthy antics of Hurricane Irene, I went to RadioShack (NYSE: RSH) to buy a new battery for my digital video recorder.  After courteous assistance from the staff at the store, we found the battery – for $50.  Given that I had purchased the recorder on Woot for $50, I was not inclined to purchase the battery.  After all, given that I also had a digital camera and at least two cell phones that could also record digital video, the dedicated recorder was not required to get video by any stretch of the imagination.

Selling into desperation during times of distress is a fine business model.  Wartime profiteering works well, as it does under police states, times of natural disaster, as well as during times of temporary or permanent resource shortage.  Smugglers are richly rewarded because they risk not just their capital but their lives.

On the other hand, in stable world, where resources and alternatives abound, the desperation model fails.  Such is a large part of RadioShack’s fate; we just don’t need RadioShack as currently stocked and run like we used to need it.

What determines retail success or failure?  Obviously, selling something that someone else also sells is not the only determinant of whether a store fails, otherwise there would be only one burger joint, or maybe just one brand of restaurant in total. And while I am sure any basic textbook on retail economics will give you a better list than the following, it will shed light on RadioShack’s plight:

• Selling products that are in demand
• Products offered are differentiated enough
• Presence in a market with enough “traffic”
• “Spatially” located to prevent business killing competition
• Competitive prices offered on stocked goods

RadioShack fails in multiple ways based on the above list.  Most products its sells aren’t in demand as they used to be.  Its products aren’t innovative, fancy, specialized, and/or miniaturized while simultaneously numerous enough to create business sustaining demand.  Many of its locations are not ideal compared with more modern retail locations, thus losing out on impulse, foot and drive-by traffic.  Other locations are a victim of their success; chosen so well that the locations eventually attract retailers that serve as serious competitors including Kmart earlier, and then Wal-Mart, Best Buy (NYSE: BBY) and Verizon Mobile stores later on. And as my experience shows, its prices do leave something to be desired.

Think about retail product mix.  At RadioShack, 25 percent of each store (at least) is consumed by stereo and electronics connectors, plugs, jacks, wiring and related ephemera in little bins and on hooks. Largely the vestige of the bygone era of stereophilia, these items at one time served to draw in customers who bought other items either on their own or as upsells.  Now, however, that space is largely wasted, with little effort put into this specialized product mix while the rest of the store offers very little in the way of a unique value proposition. The long tail strikes a blow against bricks and mortar again.

It does not need to be this way, and one way or the other, it won’t be this way soon enough. Either in six months or a year or two, the company will be acquired, transformed or gone.

First, why NOT to buy RadioShack

There are reasons you have more than one investment in a portfolio; RadioShack might be one of those reasons. It is a risky bet with a non-zero chance of going to zero.  If you buy RadioShack, your investment is at greater risk than an average security in the S&P 500, and probably the Wilshire 5000, too.  While its market capitalization is under $500 million, making it appear to be a small-cap stock, it is really a fallen mid-cap with $1.3 billion worth of liabilities, about half of that long term debt.  That doesn’t sound like a lot of debt until you realize that it has been downgraded by S&P and Moody’s to Junk status.

Debt kills companies.  Six Flags, Idearc, R.H. Donnelley and Lyondell are just a few companies in recent history that took on more debt than they could service and they had to declare bankruptcy. Watch all your company balance sheets closely.

If it doesn’t get purchased first or go bankrupt, it will probably be dropped from S&P 500, putting further selling pressure on it as indexes dump it.

Finally, for goodness sake, don’t buy it for the dividend. Why is its yield so high?  A stock yielding 2.5 percent with a fixed payout while at $10, yields 5.0 percent when the share price has fallen to five dollars.  Yes, you have a five percent yield now, but if you bought at ten dollars, you’d still have a large loss.  “Yes, but I can get a five percent yield if I buy right now!!”  Any stock that has fallen in half is a damaged stock that is likely to fall by half again, leaving you with a $2.50 a share stock yielding 10 percent, having lost half your investment.  High yields exist in very special situations and in distressed equities. Your free lunch may have been sitting out too long, causing you to lose it a short while later.

The Transformation of RadioShack….

RadioShack can be transformed in three ways: bankruptcy, buyout, or turnaround. Without serious change, RadioShack will probably not survive. Bankruptcy is certainly transformational, but generally the kind of transformation to which only bankruptcy attorneys look forward.

….Via Buyout

With 94 percent of the nation’s population within a five minute trip of a RadioShack store, the chain offers unique access to consumers. RadioShack could appeal to a number of different kinds of companies. Potential acquirers could include:

Retailers            

• Sears - Eddie Lampert might be interested in another oldfangled retailer to sink his claws into.  He does have his hands full with his existing retailer zoo.
• Best Buy - Showrooming, large size and product mix are all killing Best Buy. While Best Buy has been experimenting with smaller format stores for mobile phone sales, RadioShack could instantly add to that footprint with less modification than many other retailers. C-Suite problems and existing business problems may keep them away.
• Wal-Mart - Because it can. Seriously, at some point its existing format expansion will slow, forcing them to look elsewhere for growth including new format expansion.  Wal-Mart and other big box retailers e.g. Home Depot with its failed Villagers Hardware chain, have had a difficult time with forays into smaller store formats.

Non-Retailers

As in relationships where opposites can attract, so too are companies sometimes attracted to their opposite. And as in both relationships and corporate tie ups, some of these combinations end in failure; think Cisco and Flip, and Fox and Myspace.

Non-retailers often believe that retail establishments are ideal outlets for extending the reach of their products.  Cablevision’s (NYSE: CVC) purchase of The Wiz, believed at the time as a way to further penetrate the cable internet market, did not work the way the cabler imagined.  However, if acquirer believes their retail acquisition serves other and additional roles, then synergies may triumph.

Technology companies seem to have retail dreams more often than the average non-retail company, spuring them to start retail stores with mixed success.  Gateway Computer stores failed, is having a rough go of it, while Apple (NASDAQ: AAPL) has executed brilliantly. Non-retailers who might have a go at RadioShack include:

• Apple  - Already the undisputed champion of retailing(!), the hybrid manufacturer-retailer Apple needs a platform to continue its world takeover. While the average Apple store is growing larger than the average RadioShack – something like 8,500 sq ft for Apple vs. 2,500 for RadioShack, size may or may not matter if buying 7,000 stores (well, 4,700 stores, plus assorted outlets and phone kiosks).  Adjacent store division and combination is not uncommon in the retail world.  Apple recently announced a stores-within-stores partnership with Target, lessening the chance of an independent retailer purchase for now.
• Private Equity – If correctable inefficiencies are identified, RadioShack could become a Private Equity target. PE can put money and time into reinvention, experimentation and strategy in ways a publicly traded company on borrowed time cannot.
• Verizon Wireless - Verizon or Wireless Zone, its largest franchisee, might find the instant expanded retail footprint appealing, not just to expand its marketshare but to create a bulwark against marketshare erosion. However, with thousands of  company, franchise, and store within store outlets already, it may just cause indigestion.
• Google – Press has been given recently to Google’s (NASDAQ: GOOG) desire to create a tablet and Android device store in the vein of Apple’s.  Demonstrate and educate visitors on Android tablets over “that other tablet.” Offerings could include devices running Google software such as Chromebooks, Google TVs, and its forthcoming Google Glasses.  Android’s battle royale with Oracle, patent fights in general, and other distracting publicity from privacy hawks and patent trolls may mute Google's desire from going all in on retail for the time being.  In addition to being an entirely new business, over 7,000 stores is an exponentially larger commitment than Apple’s under 400 stores worldwide.
• Microsoft – With around 16 company stores, swallowing over 7,000 in one fell swoop would also be quite a feat for Microsoft and would be a significant business model adoption.

Of course, there is one crazy suitor, possibly better suited than others to take advantage of RadioShack’s position of being within five minutes of 94% of the United States population; Amazon.

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