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What comes next for Toys R Us?

Toys R Us faces an uncertain future as a massive US$4.9 billion debt forced the toy company to file for bankruptcy protection in US and Canada in late September.

The filing came as a surprise, and media reports stated that it could have been triggered by news that the retailer had hired restructuring lawyers, Kirkland & Ellis, to explore a number of restructuring options. That being said, it was not the first retailer to invoke Chapter 11, the likes of Gymboree, Payless, and BCBG having already filed for bankruptcy in the first half of the year.

While stores in Singapore and the region – which operate under a join venture company Toys R Us (Asia) – are not affected by this turn of events, questions still remain over the viability of the US based parent company.

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Changing retail landscape


Source: Shutterstock

Toys R Us’ financial woes stemmed from the $6.6 billion sale to a group of investors including private equity firms KKR, Bain Capital and Vornado Realty Trust in 2005. Failure to make investments on online sales in a bid to better compete against rivals also contributed to the company’s downfall.

The company spent over US$100 million in recent years to bolster its e-commerce business, but had yet to bear fruit. Problems on the registry tool and a lack of a subscription feature were some of the other deficiencies that made it difficult for the retailer to compete against the likes of Amazon and Walmart.

Reports of potential bankruptcy filing came on the heels Toys R Us reporting three consecutive quarters of same store sales decline

The restructuring push also comes at a time when Toys R Us was feeling the full brunt of competition, as Walmart, Target and Amazon continued to encroach on its domain. The Wayne New Jersey-based retailer reported disappointing 2016 holiday sales on the back of aggressive promotional activities.

Toys R Us reported a net loss of US$164 million in the first quarter of the year, up from a net loss of US$126 million reported last year same quarter. Same store sales in the quarter were down by 4.1% compared to a 3.4% decline during the 2016 holiday season. The company had a total of US$301 million cash on its balance sheet as of the end of April 29.

A decline in same store sales also came at a time of increased popularity of electronic games apps. The emerging trend meant most people were not buying toys like they used to, significantly affecting Toy’s ability to ramp up sales in its retail stores.

Aggressive discounting from big box retailers Walmart and Target as well as a rise of e-commerce juggernaut Amazon had also contributed to the company’s troubles on sales.

 

Declining Credit Ratings

Prior to the bankruptcy filing, rating agency S&P Global had already pushed Toys R Us credit rating deeper into junk territory, after downgrading it to CCC+ from B-. The downgrade reflected the agency’s concern that the company’s owners could struggle to address debts set to mature in 2018.

“Still, with 2019 maturities looming and a lack of clear prospects for improving operating performance, we believe Toys’ capital structure may be unsustainable in the long term,” S&P global in a statement.

Credit rating firm, Moody’s on its part believed Toys R Us was still a competitive force in the toys business, even with a surge in financial woes. However, the firm warned that the company’s competitive position could come under pressure as the likes of Walmart, Target and Amazon continue to push for market share in the industry.

 

Restructuring may be the answer

A well thought restructuring plan should come into play if Toy R Us is to avoid any missteps that will continue to give its fierce rivals a competitive edge. Any plan, in this case, will have to address the company’s capital structure with a view of getting rid of expensive leases.

Toys R Us has sought to address some of its troubles by expanding its footprint into Asia in pursuit of new marketing opportunities. A move abroad could help the company offset a decline in same store sales in the U.S market, where competition is at levels never seen before.

The retailer has also started to downsize its real estate footprint as part of a cost saving strategy. The push has already lead to the closing a Time Square flagship store. Making stores a fun place for shopping is another strategy that Toys R Us is relying on, as it looks to trigger customer traffic to its outlets.

For a start, Toys R Us has secured commitment for up to $3.1 billion in debtor-in-possession financing from its lenders, including JPMorgan Chase & Co. The company also plans to spend up to US$1 billion to revamp its large format stores.

 

One of the reasons why the company may not collapse entirely is the fact that the larger toy industry is rooting for it to succeed. The top 10 biggest toy manufacturers rely on the retailer for sales, and the demise of the retailer is not something they would wish to see.

Toys R Us’ future also depends on what its CEO, Dave Brandon decides to do going forward. Brandon previously worked at private equity firms, Domino Pizza, among other companies, and is seen as the right guy to steer the company from the current mess.

(By Neha Gupta)

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