For years RadioShack (NYSE:RSH) has been laser focused on selling mobile phones. Phones were moved front and center in the stores. Employees were given commissions high enough to motivate them to "wrestle" (the CEO's words, not mine) your old mobile phone out of your hand when you walked in the store. The result is that around 50% of RadioShack's company-owned store sales now come from "mobility" products, which include phones, e-readers and tablets.
Mobile has now become a terrible business, with competition from physical retailers like Wal-Mart (NYSE:WMT) and the carriers themselves to online retailers like Amazon (NASDAQ:AMZN). Whenever you are competing to sell a product with Wal-Mart and Amazon and the service provider itself, expect gross margins to fall.
In this environment, RadioShack is looking to shift focus from post-paid to pre-paid phones, which have better margins and are not subject to as much competition, particularly from the carriers. This is probably the correct overall strategy notwithstanding that around half of the company's sales come from mobility products, and a majority of those sales are sales of post-paid phones. If RadioShack can grow its pre-paid phone sales and continue to increase sales of its high-margin signature products, it may be able to off-set continually lower sales from post-paid phones and consumer electronics. That, at least, is the idea.
You wouldn't know it though from looking at RadioShack's website. If you go to radioshack.com, the homepage has by my count ten product spots (four of which are on a loop). Of the ten product spots, five are either post-paid phones or a trade-in offer for credit to buy a post-paid phone.
Three of the phones are Samsung Galaxy phones, which RadioShack is offering for $19.99, $19.99 and $99.99, respectively, on web-only specials. These are RadioShack's best deals and are front and center on its homepage. On Amazon, those phones are listed for free, free and $49.99. How is RadioShack supposed to compete with that?
The answer is that it can't - at least not online where Amazon is just a click away. The solution I would argue is to refocus the website on pre-paid phones and the "signature" line of various do-it-yourself items. There is still competition in those categories but the items are not subject to quite the degree of price transparency online, particularly in the signature line that is exclusive to RadioShack.
Online Capital Expenditures
Total capital expenditures for the second half of 2013 are expected to be between $40 and $60 million, which is predominantly to be used for investments in IT infrastructure. Yes, that's correct - RadioShack is expected by analysts to have negative net income for the remainder of this year and all of next year and is currently in talks to raise money from lenders and investors and yet still intends to invest $40 to $60 million in IT investments.
The analyst on the second quarter conference call was similarly surprised. He asked,
"So the step-up of $11 million in CapEx in the first 6 months to $40 million to $60 million in the next 6 months is all IT?"
The answer from the CEO Joe Magnacca was, essentially, yes.
"It's the - predominantly IT infrastructure as it relates to eCommerce and what we're calling continuous channel."
I would argue that this is not an appropriate time for RadioShack to be spending $40 to $60 million on e-commerce when the last loan it received carried an interest rate with a floor of 11%.
At the very least, however, I would think that RadioShack could save a portion of this capital expenditure if it streamlined its online offering by eliminating post-paid phones. I think a good argument can be made that RadioShack should not compete online at all and stick to the brick and mortar arena where its ubiquity and convenience are real advantages. At the very least, the competitive environment seems clear enough that RadioShack should drop its focus on online sales of post-paid mobile phones and try to keep capital expenditures to the absolute minimum.
Investors should stay away from RadioShack until it starts to take actions that demonstrate a path toward distancing itself from its over-reliance on post-paid mobile phone sales. Management's statements on the conference calls that they want to focus on pre-paid phones and the signature line are great, but the fact is that the stores and websites are still dominated by post-paid phones. Changing that, and re-thinking its online strategy and capital expenditure plans, seems to be the only way forward.
Disclosure: I am short RSH. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.