Mervyn's: Death of California's Retail Chain

I’ve been trying to write about Mervyn’s (1949-2008) since October: this is my fourth attempt, and the net result is the most time-consuming research and posting of any in my two years of blogging. The story of Mervyn’s failure is complex, as are my feelings about it. It’s more than just about a failed business: it’s like delivering a eulogy for a friend, in which the story is not just the friend, but our memories of that friend.

Capsule Biography

For most of its life, Mervyn’s was California’s leading discount clothing retailer. Certainly its first four decades were an entrepreneurial success story. It began on July 29, 1949 with its first store in San Lorenzo, a working class community about 20 miles south of Oakland. Its initial growth was concentrated in the Bay Area, growing to two stores in 1964 and four in 1966. Gradually, it spread across the West Coast and eventually elsewhere, with 42 stores by 1977 and 100 stores by 1983.

Mervyn’s celebrated its IPO in 1971, and with its growth attracted attention from both competitors and suitors. In January 1978, Dayton Hudson Corp. (parent of Target (TGT)) announced a $291 million, all-stock acquisition of Mervyn’s. Apparently the West Coast retailer was worth a premium, because the NYT figures indicated that Mervyn’s provided 15% of the revenues of the combined company but its shareholders won 33% of the equity.

Despite this initial optimism, Mervyn’s grew more slowly than its sister Target stores, such that by 2003 it accounted for only 7.5% of Target Corp. In July 2004, Target announced sale of Mervyn’s to a group of private equity firms, and sale of the Mervyn’s credit card to GE Consumer Finance.

On Mervyn’s 59th birthday last July, the new owners pre-emptively filed for bankruptcy. After finalizing debtor-in-possession [DIP] financing in August, there was hope that the stores would eventually emerge from Chapter 11. Instead, on Oct. 17 the owners announced plans to liquidate all remaining inventory and close its 149 remaining stores.

From what I could see visiting three stores, Mervyn’s sold its last clothing on Dec. 28, with the liquidation of fittings, fixtures and supplies continuing until the doors closed for good on Dec. 31.


Entrepreneurial Risks and Rewards

Mervyn’s is neither the first California retail chain to be born, nor the first to die.

The story of California business is an entrepreneurial one: we have attracted risk-takers from the rest of the country since 1848. The main reason the rest of the world looks to us is that some of these risk takers launched and grew new businesses, whether during the gold rush in the Sierra Foothills, the arrival of the aviation and movie industries to Southern California, or the semiconductor, PC and dot-com boom eras in Silicon Valley.

However, a high rate of firm formation also entails a high rate of firm death. The death of Mervyn’s parallels the disappearance of other California department stores, such as Robinson’s (d. 1986), Buffum’s (1904-1991), Broadway (1896-1996) and May Company (1923-2005).

Among bankrupt California retail chains, Mervyn’s never achieved the cultural status of a Tower Records (1960-2006), whose Hollywood store for years provided litmus test for the careers of hundreds of aspiring musicians — and whose liquidation two years ago paralleled Mervyn's’.

Seeds of its Decline

Things were not always so sad for Mervyn’s. During the 1960s and 1970s, it was considered innovative and a trend-setter in merchandizing in what is now called the "mid-priced" (or "mid-tier") clothing segment. It grew rapidly after its acquisition by Dayton Hudson, and 20 years ago, a NYT article reported its strategic importance to its parent firm:

When the Minneapolis-based Dayton Hudson Corporation acquired Mervyn's, the California apparel chain, a decade ago, it got a powerhouse — an innovative and much emulated retailer that could contribute mightily to the parent corporation's earnings. But, as Dayton Hudson learned after Mervyn's drifted into serious problems, benign neglect is no substitute for hands-on management.

The low-priced retailer seemed to lose its competitive sting. Its market share slipped. And the chain's earnings declined.

Now, under a new management team, the chain, with 217 stores in 15 states, is turning around. Mervyn's operating profits rebounded to a record $255.7 million in fiscal 1988, which ended Jan. 28, 1989, or 33 percent of Dayton Hudson's total, from $150.4 million, and a 24 percent share, in 1987. The previous high was $245 million in 1985, when Mervyn's contributed 37 percent of the total.

Apparently the success was short-lived, because by 1996, analysts were already speculating that Target hoped to unload Mervyn’s:

"In our opinion, the strategic decision has already been made to shed Mervyn's," said Saul Yaari, an analyst with Piper Jaffray Inc. "Dayton Hudson is buying time to dress up the division for for a sale or spinoff."

Similar speculation continued until the eventual 2004 deal to sell the company. Various accounts suggest that Mervyn’s after its acquisition, Mervyn’s never got a lot of executive mindshare in Minneapolis, leading Mervyn’s fans to accuse Dayton Hudson (later Target Corp.) of benign neglect.

Once acquired, Mervyn’s new owners hired a series of credible CEO with directly relevant experience. As a San Diego paper wrote in 2005:

[Some] analysts said Mervyn's has been changing for the better lately under the guidance of new chief executive officer Vanessa Castagna, who was instrumental in the recent turnaround at J.C. Penney as CEO of its stores, catalog and Internet division.

"She is pretty savvy," said George Whalin, president of Retail Management Consultants in San Marcos. "The merchandise (the chain is) selecting is a little more refined now."

But Castagna was unable to turn things around and left Mervyn’s two years ago, when she was replaced by Rick Leto, formerly of Macy’s (M) and Kohl’s (KSS). Leto was replaced last year by John Goodman, onetime manager of the Dockers brand for Levi Strauss. As CEO, Goodman announced Mervyn’s death sentence in October.

The trend in stores has also been in only one direction. Reilly estimates that at its peak Mervyn’s had 300 stores across 16 states. When acquired in 2004, it had 257 stores in 12 states, but a year later the new owners closed 62 stores. It was down to 177 stores at the time of the bankruptcy filing in July and 149 stores that were liquidated in the past three months. Mervyn’s had shrunk back to its roots, keeping about 125 stores in California (in fact, opening a few new stores) from 2004 until the start of its liquidation sale.

If Mervyn’s offered value to the lower middle class, the biggest change in the competitive environment during the past five years came with the arrival of a new midpriced store from Wisconsin. Analysts predicted trouble for Mervyn’s with the 2003 entry of Kohl’s into the California market.

"If I was going to rate Kohl's on a one to 10 scale, they would be an 11.5," said Bruce Berton, director of accounting and consulting firm Stonefield Josephson. "They are going to give the retailers here a swift kick in their lethargic ways of doing business."

"There's no question this will have an impact on Robinsons-May, Mervyn's and most of the department stores and mass merchants in the market," said Linda Kristianses, an analyst with UBS Warburg. "Typically, the impact is several hundred basis points. Each company within the competitive circle usually loses 2 to 4 percent" on sales.

I never personally understood the threat. After Kohl’s arrived in San Jose, I found it too down-market for my taste, a K-Mart with cleaner stores. However, Mervyn’s was also considered down-market by many, and there’s no question Kohl’s was a direct replacement for many shoppers. In fact, a story Wednesday in the Merc even credited Kohl’s as benefitting from Mervyn’s imminent failure:

...the picture in the Bay Area for the department store is better than most, [said Kohl’s district manager Jason] Bittner, because Kohl's drew the former customers of Mervyn's, which filed for bankruptcy over the summer.

In the past two years, analysts also speculated that Mervyn’s was suffering from layoffs in California’s construction industry. The industry has a large proportion of Hispanic workers, who were one of Mervyn’s largest customer demographic groups.


Post-Mortem

The real cause of Mervyn’s death may (as with so much in the U.S.) be determined by litigation. On Sept. 2 — after filing Chapter 11 but before converting to liquidation — Mervyn’s sued all parties to its 2004 leveraged buyout, alleging that they colluded on asset stripping in violation of their fiduciary duties. As Dow Jones reported:

Department store operator Mervyn's has sued three private equity firms and Target Corp., alleging that the leveraged buyout of the chain from Target was a fraudulent deal that stripped Mervyn's of valuable real estate and doomed it to bankruptcy.

The retailer said the private investors financed the 2004 takeover with $800 million borrowed against Mervyn's real estate, then leased the properties back to Mervyn's at "substantially increased rates."

Cerberus Capital Management, Sun Capital Management and Lubert-Adler have taken $400 million out of the company since acquiring it in 2004, leaving it struggling to pay creditors, Mervyn's said in papers filed Tuesday with the U.S. Bankruptcy Court in Wilmington, Del.

The result "ultimately led Mervyn's to bankruptcy and is a fraudulent transfer that cannot withstand scrutiny," attorneys for the company said.

Cerberus is today best known for winning (highly dilutive) government bailouts of two other ill-advised acquisitions, Chrysler motors and its 51% share of GMAC. Cerberus is the symbol of the private equity greed in the death of Mervyn’s, even though WSJ reported that Cerberus sold its stake to its partners in 2007 to concentrate of its other holdings

Today, in the wake of the 30-40% stock market collapse last year, Cerberus and its kin are demonized beyond Big Tobacco (inexplicably, even beyond Fannie and Freddie). As such, many have already pronounced the private equity firms guilty in Mervyn’s demise. Although I’m saddened by Mervyn’s death, I won’t join the lynch mob, but instead will let the legal process run its course.

Mervin Morris has been particularly passionate in his denunciations. But he sold the company to Dayton Hudson thirty years ago, and with it, the right to make the final decisions about the company. Morris might have done a better job of running the company if he’d kept it independent, but he didn’t, so we’ll never know.

The irony is that the prized real estate held by the buyout firms may not be so prized. There will be a lot of vacant retail space in California for several years, and thus — beyond the 31 stores leased by former rival Kohl’s — not a lot of prospective tenants for the vacant Mervyn’s locations.

The lawsuit won’t bring Mervyn’s back to life. But it — and the bankruptcy proceedings — will determine whether creditors will be made whole, including those employees (among the 18,000 laid off) who have yet to be paid for vacation pay. (One key determinant is how much money the GOOB sale raised). My guess is that if assets and liabilities were disproportionately allocated between Mervyn’s LLC and a property firm controlled by the same owners, then a court could attach those assets to pay off Mervyn's’ creditors.

Would Mervyn’s have survived without such asset stripping? Retail is a highly competitive industry today: demand is cyclical, net margins are thin, and thus profit depends on a combination of operational efficiency, savvy buying power and clever merchandising. Internet-enabled price comparison (let alone online buying) has further commoditized the distribution function once served by chains of well-situated brick-and-mortar stores.

A half-dozen other major retail chains also died in 2008. Mervyn’s was particularly vulnerable given that almost all its bets were on California, where the recession came earlier and promises to be deeper.

My guess it that once cut free of Target, Mervyn’s could not have survived the triple threat of its declining uniqueness, competition from Kohl’s (and Target), and the impact of the current economic downturn upon California working class customers. But again, there’s no way we’ll never know for sure.

Comments

[einstein p ...:]

I'm surprised that Mervyn's lasted as long as it did. It offered nothing special to the consumer and got buried by the competition.

America is overstored and has been for some time. Time to thin the herd to let the strong survive. Expect more casualties in this space this year.

Jan 05 09:32 AM

[notsosmart:]

the whole system has become warped.taxpayer money bailing out private equity.its all ponzi.

Jan 05 04:04 PM

[Joel West:]

Dear Einstein,

My point is that Mervyn’s had did have something special, for at least some people. I would agree that looking at the merchandise mix and pricing on paper, it looked like just any other store in a very competitive segment. But it had some sort of niche with a loyal following -- just not a big enough loyal following.

Is America overstored? I dunno; I suppose with all those Wal-Marts and Targets and Kohl's opening, there's a day of reckoning that's been put off, or from all the sales going online.

What I do know is that you will get your thinning of the herd with this recession. For investors and employees, the interesting question is which chains will be bought whole, be bought in pieces (typically out of bankruptcy), and which will disappear entirely with the space to be taken over by yet another Kohl's or Best Buy.

JW

PS: Notsosmart, I certainly agree that too much taxpayer money is bailing out private mistakes. Look for the Madoff bailouts coming soon.

Jan 05 11:11 PM

[Former Empl...:]

I am a former employee of the late Mervyns retail chain. Bing a student of bsuiness, I have written papers on the different aspects of Mervyns. One thing that many people do not realize was that in 2004 Mervyns was forced to complete a technological overhaul to it's infrastructure...in 18 months. I feel that this helped cripple the weak business as it had to "reinvent the wheel" in record time to stay in business.

Even if some readers think that the merchandise was not good enough or spectacular enough I have clothes which fit well, didn't cost too much, and are decent looking. Remember that the closing of this and other business does not simply mean the ending of a business, but the increase of stresses onto the governmental and social infrastructure. These 18,000 people are now mostly jobless since we are in the state hit hardest by this recession. We were let go during the slowest part of the year where many similar busineses are removing their extra hires. Those other businesses too are strapped for cash as sales slump. Are they hiring us? No. So we file for unemployment and Uncle Sam gets even less of our income taxes. And when we are storing all of our reserves to make the pennies stretch the furthest, other sectors are affected. The liquidations were nightmares for us, and we are glad to be done with those, but we do miss the paychecks.

On our last day of being open I spoke with my former manager. I had kicked 9 people out of the store during the liquidation. This is because they were a) shoplifting or b) acting out of hand. The latter was the most common. Before opening on the last day my manager spoke to me saying that he was happy I had the nerve to draw the line because it helped other customers stay in line behavior-wise. How bad were the customers? An example is from Christmas Eve. I had a lady trying to form her own line when there was a visible line of ten people next to the big red sign that said "Please form a line here". I politely told her that she needed to be in that line, because we needed to be fair to the other customers. As she went to the back of the real line, she called me a jack*ss, What a nice holiday spirit she had, eh? and that was a mild one.

Jan 06 03:50 AM

[Carol Spiec...:]

Great recap of a retail tragedy! Dayton Hudson/Target put Mervyns on a banana peel quite a while back through its benign neglect and Cerberus' subsequent and not-so-benign actions put a nail in the coffin. Had they not, I truly believe that a more focused Mervyns could have thwarted Kohl's growth considerably, stolen some of J.C. Penney's thunder and...perhaps hastened the demise of Dillard's that many believe is now in progress. The new wisdom is that more than two players in a space is overkill(!); however, the "big middle" softlines space that Mervyns occupied had, and still has, quite a bit of room as Walmart dominates the lower end and mid-tier players such as Kohl's and Penney's push upward. Target emerges as the true mid-tier player...Mervyns could have been a contender.

Jan 06 10:32 AM

[Ted Mackel:]

Thanks for completing your Fourth attempt!!! This is a great recap and I am sure you had plenty of time into the research. The blog post is appreciated.

Jan 12 01:02 PM

[sean cannova:]

I worked for mervyns for about three years. was one of the many to lose their job as mervyns doors began to close..The company seemed like another retair store chain true. what Mervyns offer was much more then your local target or walmart. offer that was heart.MOst of us employees went out of our way to go above & beyond what was expected to make our shoppers feel welcome & get the best service they could..We prided ourselfs on always striveing to be the best & above.We made sure the stores were always well stocked & neat for the shoppers..I have enjoyed working for Mervyns & will greatly miss my co workers & friends. I have made.What we offer was one of a kind that was pure heart. to make the shopper feel welcome & respected.The blame isnt on the employees we all did the best we could but the blame should go to the owners such as hudson & other investor companys that ran mervyns they raped the store of any profits & didnt place enough back into the company to give it the foundation support it needed to grow & be on top.this company truly was special.The founder did one heck of a job .
I seriously doubt that any other retail store could come close to employee decation.I will miss the good times & bad times at mervyns Ill even miss the rude shoppers we got..I was lucky & honor to have worked for mervyns.They gave me a chance & hired me without my high school diploma when other retail stores wouldnt hire me due to not completeing high school.This company was one of a kind & special.Its just sad that Mervyns wasnt able to climb to the top this company passed without truly spreading its wings.I will miss my friends and working for this company god bless all of the mervyns employees that lost their job My prayers are with them in hopes of them finding employment.

Jan 18 09:12 PM

[sean cannova:]

Just wait & see when the herd gets thin out how quick those left standing wont jump on raising their prices since the threat of other retail stores will be low the ones left standing will now have the room to do as they please us being the shopper known theres not alot of good pickings will be forced to eat it and go with paying the new higher prices..A bigger herd also allows to keep prices down.Ps:Mervyns had what is rare in retail stores thats heart..


On Jan 05 11:11 PM Joel West wrote:

> Dear Einstein,
>
> My point is that Mervyn’s had did have something special, for at
> least some people. I would agree that looking at the merchandise
> mix and pricing on paper, it looked like just any other store in
> a very competitive segment. But it had some sort of niche with a
> loyal following -- just not a big enough loyal following.
>
> Is America overstored? I dunno; I suppose with all those Wal-Marts
> and Targets and Kohl's opening, there's a day of reckoning that's
> been put off, or from all the sales going online.
>
> What I do know is that you will get your thinning of the herd with
> this recession. For investors and employees, the interesting question
> is which chains will be bought whole, be bought in pieces (typically
> out of bankruptcy), and which will disappear entirely with the space
> to be taken over by yet another Kohl's or Best Buy.
>
> JW
>
> PS: Notsosmart, I certainly agree that too much taxpayer money is
> bailing out private mistakes. Look for the Madoff bailouts coming
> soon.

Jan 18 09:21 PM

[Jonathan Cu...:]

Thanks so much those this, what I would like to call, a documentary. I worked for Mervyn's as well and was there until the end in December. I was within inches of becoming the Department Supervisor of the Fine Jewelry Department, but we then found out that all the stores would be going through liquidation. My mother always took me to Mervyn's as a child and I don't regret a single day that I went to Mervyn's. There was a sense of realness at Mervyn's; not like other department stores like Macy's and what not where everyone is full of themselves or even fake. That's what I remember Mervyn's as. Something I'll always remember. :)

Thanks again for this article and is much appreciated,
Jonathan Cushing - Former Fine Jewelry Specialist

Feb 12 03:52 AM