I have respect for Jeff Matthews and link to his stuff often, but this time, he misses... The poster child of poor capital management might just be Borders Group. (BGP) The improvement we have seen in just the last few months is very encouraging, and perhaps in a better macro environment, could make an interesting story. However, in an environment where the comparable-store-sales declines are worsening, its gap with its No. 1 competitor is widening, in a retail segment on the decline and shifting to other channels, and with technology threatening to change the business even further, we see limited upside from current operating levels and remain cautious on the stock.
Borders, which runs one of our favorite book stores in the country (Union Square in San Francisco) is the now-beleaguered bookseller spun out of K-mart long ago in happier times.
Borders is also one of those companies that so desperately wanted to make Wall Street’s Finest happy—not to mention its own shareholders—that it spent all its cash, and more, to buy back stock.
“Returning value to shareholders,” it was called back in February 2005, when Borders management proudly announced a $250 million share repurchase plan, and the stock price was $25.
Wall Street’s Finest were, of course, delighted, and the company received the kind of “attaboys” that caused a long list of management teams to pursue the greatest value-destroying fad in American business history. In this case, it crippled a once wonderful chain of bookstores:
“The stock’s cheap, in our opinion, and the company seems to agree,” [hedge fund manager Bill] Ackman said last week at the Value Investing Congress in New York. Borders…has “one of the most aggressive share-repurchase programs I’ve ever seen.”
—Bloomberg LP, November 2006
In the end, of course, that repurchase program was far too aggressive.
Five years ago Borders had a $1.9 billion market value and more cash than debt on its books. Today, Borders has a $50 million market value (yes, that’s right, $50 million) and more debt than cash. Like, $525 million in debt against $38 million in cash.
Oh, and the stock’s current price? $1.00 a share.
“Returning value to shareholders?” No. “Mortgaging the future,” at best. “Destroying the company,” at worst.
What Matthews fails to acknowledge is that current CEO George Jones has only been at the company since July 2006. Jones' first act as CEO was to take back control of the Borders.com site from Amazon (NASDAQ:AMZN). The site now has nearly 30 million rewards members. Second, he outlined the new concept stores Borders is building that are the company's most profitable. He then said he was going to lower the chain's inventory levels and reduce its huge debt load and both are down 30% and 40% respectively.
We all know that retail turnarounds take time and that time is painfully exacerbated in a recession and credit crunch like we are seeing. But we need to be clear that Jones has the company cash flow positive, has reduced debt and his vision for the new concept stores is a success. Here is a podcast Jones did in July 2007 after his plan was announced.
A recent Credit Suisse research report responds by saying this:
Overall, we believe Borders management deserves credit for the progress it has made. In the midst of a challenging macro environment, the company has managed to cut costs without destroying the bottom line, has sold off business lines to focus on the U.S., and has positioned the company to survive.
Results for the third quarter, while worse than expected, showed lower expenses as promised, improved gross margins absent the fixed-cost deleverage from lower sales, better management of promotions, a significant reduction in debt, and much improved cash flow. The company also upped its cost savings target by $20 million to $140 million.
The poster child of poor capital management might just be Borders Group. (BGP)
The improvement we have seen in just the last few months is very encouraging, and perhaps in a better macro environment, could make an interesting story. However, in an environment where the comparable-store-sales declines are worsening, its gap with its No. 1 competitor is widening, in a retail segment on the decline and shifting to other channels, and with technology threatening to change the business even further, we see limited upside from current operating levels and remain cautious on the stock.
If we look further, I think someone would be very hard pressed to find a retailer whose shares sit higher today than they did in mid 2006 when Jones took over. Neither Target (NYSE:TGT) nor Macy's (NYSE:M), JC Penny (NYSE:JCP), Home Depot (NYSE:HD), Lowes (NYSE:LOW), Sears Holdings (NASDAQ:SHLD), Barnes & Noble (NYSE:BKS) or scores of others sit higher today than they did then.
Were the actions of previous management ill planned? Yes. But let's be clear that current management is doing the right things to fix those mistakes.
Disclosure: Long BGP, WMT, SHLD