Activists Push Circuit City Towards Much Needed 'Brand Rehab'

The vultures activists are circling one of my favorite targets of derision: Circuit City (CC). The exit of several major shareholders has opened the door to activists, who are trying to install a new management team to turn the company around.

I fully support the efforts of the activists to install a new management team, as the current one has only succeeded in eviscerating shareholder value and losing money. When the market has so little faith in your company as to value it at around 50% of book value and the alleged turnaround strategy is making things worse, it’s rather obvious that the current management team just doesn’t get it.

From the WSJ:

Wattles Capital Management LLC, a Thornton, Colo., investment fund, last month initiated a proxy fight to remove the company's board and elect a slate of five directors. It argues that new directors and a new chief executive would bolster the company's turnaround prospects. And that could boost its stock price.

Wattles's entry came as the two largest Circuit City holders, Wellington Management Co. and TCW Group Inc., each sold about a 10% stake in the company late last year. A third investor, Maverick Capital Ltd., sold all of its 11 million shares in the first six weeks of the year, according to Securities and Exchange Commission filings…

…Shares, which had climbed as high as $21.67 on the New York Stock Exchange in early 2007 in anticipation of a turnaround, resumed their slide as it became clear the problems would be longer-lived. The stock closed Thursday at $4.38, off about 75% in the past year. Circuit City is set to be replaced in the Standard & Poor's 500-stock index by Philip Morris International Inc. after the close of trading on March 28.

Circuit City, like a lot of retailers, has been hurt by a consumer-spending slowdown that appears to be worsening. It has struggled to capitalize on strong demand for flat-panel televisions even as rivals Best Buy Co. and Wal-Mart Stores Inc. have gained market share…

… Efforts to cut expenses and improve results by reassigning some store employees and replacing 3,000 higher-paid workers backfired last year as sales of higher-margin home-theater systems, warranties and accessories declined in the hands of a less-experienced sales staff. Instead of an expected upturn, the company now sees a "modest loss" for the fourth quarter that ended Feb. 29 and a pretax loss of between $100 million and $200 million for the full year.

Based on the company’s performance in 2007 (let alone the duration of his tenure at CC), Phil Schoonover needs to be sacked, as he’s done run the company into the ground in an environment where other companies are having no issues making money selling electronics. For me that’s the most glaring problem with Circuit City: they’re having trouble turning a profit despite selling a nearly identical product line-up as Best Buy at very similar prices.

At this point, the only positive going for Circuit City is the $2.89/share in cash they have on the books, which of course means that the market is valuing the company for next to nothing after the value of the cash on their balance sheet. If the book value number is accurate the company is trading at a little more than ½ of book value. These numbers would make Circuit City a good investment, if the current management wasn’t so busy eviscerating shareholder value, losing money and had a viable turnaround strategy.

News about Circuit City always seem to generate a cacophony of nonsense from “value investors” who tout Circuit City as a buy based on its well recognized brand, “it’s a well known brand, the company won’t die”. The problem is that they’re confusing brand equity and brand recognition. A strong brand isn’t one that people are just aware of, a strong brand is one that people have faith in and will spend their money on. At the moment Circuit City’s brand is abysmal (at best), as they’re not a real competitor to Best Buy (BBY) despite having nearly identical product line-ups and pricing. Circuit City’s needs to rebuild its brand into one that provides people with a high-quality customer experience, only then will their turnaround efforts be successful.

Sources:

The Wall St. Journal: Activists Circle Circuit City – Gary McWilliams, March 24, 2008.

Disclosure: At the time of publishing the author didn’t own a position in Best Buy or Circuit City.

Comments

[BayMan]

A great retail brand removed from S&P Index. What a sorry state of affairs brought about by Phil. Phils' short-sighted efforts have short circuited CC. Firing of 3500 experienced and knowledgeable front-line staff and a wide chasm between marketing strategies and technological hurdles have done more damage than good.
CC needs a new lease of life sans Phil. And no mistake!