Rewind I: Wage Increases Squeeze Profits

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Buffalo Wild Wings & Hersha Hospitality Trust Shine a Light on Jobs

When Toys R Us filed for bankruptcy a few weeks ago, we noted that part of its business plan - which, of course, gave JP Morgan ($JPM) and other DIP lenders comfort that the business is viable - included minimum wage increases to compete with Walmart ($WMT). Notably, Walmart subsequently had the opportunity to raise wages again and opted not to. Back in the beginning of the distressed dining wave, we highlighted, prior to the election, that minimum wage increases were increasingly cited as one of the causes for bankruptcy. Notably, in this week's onslaught of earnings reports, a number of firms - from the very successful Buffalo Wild Wings ($BWLD) to the not-so-much Hersha Hospitality Trust ($HT) - noted that wage increases were squeezing profits. We snarked on Twitter that BWLD's "Fiscal Fitness" program must be the new euphemism for "More Work, Fewer Hours" as the company announced hour curtailments to offset wage rate increases. The Philips Curve is finally kicking in, it seems. Maybe that has something to do with 3% GDP growth. 

Charming Charlie = Ghost of Christmas Past?

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The Wall Street Journal reported last week that Charming Charlie LLC is in trouble with a financial advisor out in the market seeking a bridge loan. The news cannot be helping with suppliers in the lead-up to the holidays. Anyone paying attention knows that both Toys R Us and Bon Ton Stores ($BONT) had similar liquidity issues recently which were compounded by suppliers tightening terms. The former ended up filing for bankruptcy. The latter just got a rescue loan to last it through the holidays (after which, if we had to bet, it will disappoint and have to file for bankruptcy). More likely than not, the WSJ story didn't do the company any favors. Remember: Toys R Us blamed a CNBC story, in part, on its accelerated plunge into bankruptcy court.

Masters of the Universe (Long Certain Investment Bankers)

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Houlihan Lokey Delivered "Closed Transactions"

Houlihan Lokey Inc.($HLI) reported numbers this past week and knocked it out of the park showing solid revenue and net income growth. In its Financial Restructuring segment, revenue grew 11% to $33mm in Q2 '17 compared to Q2 '16, led by a +2 increase in "closed transactions." Segment profit, however, was down $6mm. Wait, what? What does that mean? "Segment profitability decreased as a result of an increase in employee compensation and benefits expenses as a percentage of revenues...." In summary, homeboys got PAID. Drinks on them this bonus season. 

Unicorns (Short the Hype)

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Calling Out Digitally-Native Vertical Brands (DNVBs)

"You know what? F*ck unicorns." Let's not lose perspective here: a number of tech startups (or, shall we say, alleged "tech" startups) are valued at $1b+ merely because the market is awash in so much money and such a hunger for yield that deals are getting priced upwards. To think that a $400mm exit is anything short of successful is bonkers. Meanwhile, a number of those unicorns are digitally native vertical brands (DNVBs). Think Warby Parker. And thisthrows some serious shade on them. Choice quote, "Given all of the expectations surrounding Digitally-Native Brands and their limited optionality, it’s unlikely that many of them will be around in their 47th year, let alone as independent companies. There will always be exceptions to this rule—Dollar Shave Club, Glossier, Proper Cloth—might outlast the pack as brands that either successfully exited or are mostly in control of their future. But other than these rare exceptions, over the next few years this gold rush will probably turn into a bloodbath" (emphasis ours). In other words, don't count the chickens until they hatch. 

Unicorns 2.0 (Scooping Up Retail)

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Hudson's Bay & WeWork Say "Let's Make a Deal"

Hudson's Bay Co. ($HBC) was a real newsmaker this week. The company sold its Lord & Taylor NYC location to WeWork for $850mm. It also got a (convertible preferred) equity infusion of $500mm through a joint venture between WeWork and the Rhone Group. Which means that Softbank basically owns a piece of Fifth Avenue now. Regulate THAT misdirection/obfuscation. Anyway, HBC will use the proceeds to pay down its $1.6b of debt and, presumably, pretty itself up for a potential take-private transaction. For sure, the future is uncertain. P.S. This re: WeWork (firewall). Bankruptcy Judge ABC: "And so, Banker XYZ, on what valuation basis is the company's plan of reorganization viable and feasible?" Banker: "Our valuation and size today are more based on our energy and spirituality than it is on a multiple of revenue." Judge ABC: "Come again? Bankruptcy plan confirmation denied!" Going forward, whenever we have a typo or a busted link we hope you'll only judge us on our energy and spirituality. 

Toys R Us (Long Trickle-Down Effects): Mattel & Hasbro

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Toy Suppliers Get Hammered by Toys R Us Bankruptcy

Callback to the Toys R Us bankruptcy whereMattel Inc. ($MAT) was listed as one of the toy behemoth's largest unsecured creditors, owed a staggering $135.6mm. Notably, that was a big enough loss for Mattel to agree to sit on the DOJ-appointed official committee of unsecured creditors. For the uninitiated, that's a committee with fiduciary responsibilities to similarly situated unsecured creditors: it's a time commitment. Why do we mention this? Well, Mattel reported earnings this week and...they...were...pretty, pretty, PRETTY brutal. Quick recap: 13% sales decline. 22% domestic sales decline (half of which they directly attributed to Toys R Us). Those creepy-a$$ American Girl dolls? Down 30%. Consequently, the company announced a dividend suspension and a $650mm expense reduction; it also announced that it will explore the capital markets for an asset-based loan and lever up its balance sheet. So, in summary, here is this "disruption" illustrated:

Boatload of LBO-based debt 💰 + "Amazon Effect" = 😱  Toys R Us Bankruptcy 😱  = Mattel Inc. $135mm claim + 22% ⬇️  in domestic sales (American Girl ⬇️ , Barbie ⬇️ , Hot Wheels ⬇️ ) = Mattel stockholder/dividend-seeker 💩 = Mattel employees & supply chain ⬇️❗️= ABL lender💰💰💰❗️ = Kids don't care because video games are 🔥🔥  = Toys R Us & Mattel death spiral❓ 

Suffice it to say, Jefferies is skeptical about the turnaround plan. Finally, we should note that Hasbro Inc. ($HAS) also reported a 5% hit because of Toys R Us; it was the third largest unsecured creditor in bankruptcy to the tune of $59mm. Despite this, the stock went up on revenue and profit beats (thank you, Luke Skywalker, you're they're only hope).

First Energy Solutions Headed for Bankruptcy?

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FirstEnergy Corp. ($FE) subsidiary First Energy Solutions looks like a strong bankruptcy candidate, as noted by the company's CEO, Chuck Jones. Of course, we take issue with the statement as "agreement from FES' creditors" and bankruptcy are not necessarily mutually exclusive. Last we checked, a prepackaged or prearranged bankruptcy has been done before. Just saying.

Chart: Masters of the Universe 2.0 (Evercore/Moelis/Houlihan)

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Evercore Partners & Moelis & Co. Show Increased Advisory Revenue

Like Houlihan Lokey, Moelis & Company Inc. ($MC) also reported earnings this week and revenues were up 13% in Q3 '17 relative to Q3 '16. Unfortunately, the bank doesn't break out restructuring revenue but the company noted that it expects restructuring activity to be"flattish." Evercore Partners ($EVR) also reported record revenue and a strong earnings rise; it didn't parse out restructuring revenue. Advisory fees, generally, however, seem on the rise. Read: it's a good time to be banker. That is, unless you're a junior banker and the group is led by a 45 year-old with no plans to retire for another 35 years. Or you work at Rothschild & Co., and, if rumors are to be believed, the restructuring group is on the verge of a massive splintering. You heard it here first. 

Source: Thomson Reuters, Moelis & Co. 

Source: Thomson Reuters, Moelis & Co. 

Dividend Recapitalization (Like, Seriously, Why Not?)

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So, this isn't new territory for PETITION readers. We highlighted the dividend recap that came under fire in Payless Holdings. What ultimately happened? Well, a bunch of papers were filed under seal (and some reputations were, presumably, besmirched) and then a settlement. Because, of course. Why air out an issue that can have ramifications across various jurisdictions when you can just settle it and sweep the whole dispute under the rug? PETITION NOTE: For the uninitiated, and putting it simply, a dividend recap happens when a company issues debt and clogs up its balance sheet for the purpose of paying cash-money dividends to its private equity sponsor. It's been a feature of, like, virtually every private equity owned retail bankruptcy of the last year. Or at least the one's that have filed outside of Delaware, anyway. Why? Because capital markets, kids. Really? Yeah, and because of spreads. Spreads? Yeah, which happen to be narrow AF right now. But we digress. Anyway, stats: per LCD News, "[t]hus far in 2017, $15.31 billion of funds raised from sponsor-backed loans were earmarked for a distribution, nearly double the $7.77 billion in the same period a year ago and well ahead of the $10.24 billion in the first three quarters of 2015." Which, for the record, ain't a shabby number in and of itself. So, again, why not? Everyone's doing it? And getting away with it. 

Rewind (Oklahoma)

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To be 100% clear, we have NO connection to the state of Oklahoma, whatsoever. None of us have even ever been there. But the state fascinates us because it was a clear-cut beneficiary of the fracking revolution and then a clear-cut victim - economically and, perhaps more controversially, environmentally - of the precipitous fall in oil prices that occurred a year+ ago. So, maybe this isn't "news" but Moody's Analytics says that Oklahoma - as well as Louisiana and North Dakota (notably, other oil-reliant states) - is among the least prepared states for a recession. Adding insult to injury, the state announced that it will be cutting outpatient mental health and substance abuse programs because of state budget cuts. Luckily there's no opioid addiction epidemic in the US these days. 

Retail (Short Copycats)

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Bon-Ton Stores is beginning to look a lot like Toys R Us. Meanwhile, we've previously discussed Appear Here here and here. Now Simon Property Group ($SPG) is dedicating pop-up space in certain of its locations. It's a brilliant move, frankly: this plan lets digitally-native-vertical-brands test physical locations; it could also be accretive to SPG as they can generate buzz that couples with the DNVBs' online communities/networks to bring e-commerce shoppers to physical locations; it also gives SPG early looks at potential retail investment opportunities. Meanwhile, the knock against Abercrombie & Fitch and other retailers was that millennials didn't want to be human billboards rocking an A&F sweatshirt with 485-font lettering on the front. That is, unless you show em the paycheck. Now you can get paid for walking around big cities with Ipad-based advertisements on your back. Seems like a nice supplemental income for our friends in NYC.

Commercial Real Estate - NYC Edition (Long Creative Statistics)

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Oh great, positive news for the NYC commercial real estate market: "the number of direct available ground-floor spaces continued to decline..." in New York City "...for the second consecutive quarter, dropping 2.5 percent to 197 spaces from 202...." Sounds awesome, right? Yeah, maybe. Vacancies are down. But what's also down? Leasing activity. That's down. Square footage leased? Also down. What else? Asking rents. Down. Contract term length? Down. So, what's going on? Pop-ups, lots and lots of them. Allbirds, The Arrivals, and others are taking advantage of a renter's market in NYC commercial real estate and landlords are finally starting to get bent. Venture capitalists 1, New York City landlords 0. "In effect, what appears to be a retail market finding its new level is simply a short-term Band-Aid on what is still very much a declining environment." Leasing figures are "misleading" because of pop-ups and inventory "will reappear in the near term as short-termers expire." Hard to get fired up over this news.