The following article was penned by SB360’s Aaron Miller and Siegfried Schaffer for the June 2020 issue of the Journal of Corporate Renewal.
First came subprime mortgages, the ensuing financial crisis, and the Great Recession. Then predictions came of a retail apocalypse caused by the Amazon effect. Despite years of grim headlines predicting the demise of traditional brick-and-mortar stores, retailers have continued to find ways to adapt, evolve, and even thrive. But the shock brought on by the spread of COVID-19 poses the greatest threat to storefront retail seen in generations.
There will be no easy path forward for retailers as life as they’ve known it has fundamentally changed, at least for the foreseeable future. Surely lessons and strategies learned from the Great Recession are being put to good use as retailers hunker down during this time of uncertainty. What is certain is that well-thought-out strategies implemented now by management teams, working with experienced financial and operational professionals, will improve the prospects for a successful return to normal course operations.
The COVID-19 pandemic has triggered a domino effect and the acceleration of enormous changes already impacting the retail industry. With millions of confirmed COVID-19 cases around the world and hundreds of millions of people worldwide sheltering in place, the full impact of this crisis is as yet unknown. To begin to comprehend the scope of the challenge presented by coronavirus, companies, lenders, and turnaround professionals must consider some of the significant dominos that continue to fall on American retailers.
Supply Chain, Inventory Management
One of the first dominos knocked over in the chain reaction caused by COVID-19 was the disruption of supply chains. The coronavirus outbreak tested the world’s dependence on Chinese manufacturing and production as that nation moved to close factories and seal off many regions of the country. Retailers that relied heavily or solely on Chinese factories found themselves caught in a logistical nightmare.
The ongoing trade war between the United States and China had already prompted several companies to diversify their supply chains beyond China. Beginning months before the COVID-19 outbreak, many retailers and other companies began looking for supply chains outside of China to minimize the financial impact of expected new tariffs on Chinese exports to the United States. Where possible and economically viable, new vendors were tapped in Asia, Africa, and South America. However, even for those retailers that had successfully diversified their manufacturing base, resupply networks have been challenged as air cargo capacity dropped precipitously with the reduction in passenger flights and the prioritizing of essential cargo by sea as the pandemic took hold.
The COVID-19 pandemic will undoubtedly cause professionals to once again rethink how best to respond to large-scale supply chain disruptions. In the coming months and years, the retail industry will see changes in the way inventory is procured as supply chains evolve to become more resilient. The relationship between retailers and vendors will forever change as the industry once again reassess long held assumptions with respect to geographic vendor diversification, just-in-time replenishment, and who bears the risk of unsold merchandise when stores are shut down for extended periods of time.
Venturing beyond normal course plans, planograms, on-order files, and 13-week cash flows, retailers and their professionals must be prepared with crisis management tools enabling them to effectively respond to disruptions in sales and the supply chain caused by ever more frequent natural disasters, terrorism, trade wars, and pandemics.
Not all retailers have been impacted equally by the COVID-19 crisis. Nonessential retailers face a decrease in sales activity as stores remain closed and consumers temporarily shift their spending habits away from discretionary items. Those retailers that have invested heavily in e-commerce platforms have been able to mitigate some of the pandemic’s impact. But even retailers with stores open for the sale of essential goods have been impacted, with empty shelves as a result of panic buying and a slower than normal replenishment cadence.
As reopen dates are reconsidered and in most cases delayed beyond initial estimates, retailers must look at ways to recalibrate their inventory to meet customer demand. For many retailers, the shutdown came at a time when they were clearing unsold winter merchandise, bringing out early spring pack away inventory from last year, and taking in new spring receipts. By working with an inventory management professional, retailers can implement creative ways to generate liquidity while they sell out-of-season merchandise and make room for current and next season merchandise.
As the pandemic ripples through the industry, supply chain and merchandise issues aren’t the only problems. Retailers nationwide have been forced to close stores or place restrictions on customer traffic in response to social distancing guidelines. In most states, governors have mandated stay-at-home orders and the closure of all nonessential retail.
For retailers that are heavily reliant on brick-and-mortar sales, have little or no e-commerce presence, and are deemed nonessential, such guidelines may prove catastrophic. With no date set for reopening stores in most of the country, it is vital that these retailers work with their advisors to project cash flow and identify the most efficient use of current liquidity. Equally important is the ability to work with traditional or alternative lenders that have the creativity and flexibility to allow retail borrowers access to additional liquidity.
Many unique challenges lie ahead for retailers that have not furloughed employees, are operating e-commerce platforms and fulfillment centers, and/ or are hiring back staff in response to government-funded initiatives. Protecting the health and safety of store, warehouse, and e-commerce associates is of the utmost importance as the nation tries to slow the spread of the virus. Retailers should maintain updated contact information for all employees to cultivate healthy work environments and support those affected by the virus.
It is also important to understand the potential legal issues that may arise during this time and seek legal advice as needed. Measures should be taken to institute new policies and procedures aimed at maintaining safe and virus-free workplaces.
Congress on March 27, 2020, passed the Coronavirus Aid, Relief and Economic Security (CARES) Act to help counteract the pandemic’s economic impact on individuals and businesses. The law includes many provisions to aid smaller retailers as well as millions of retail industry employees. CARES provisions included one-time checks for individuals and families, an extension of unemployment insurance benefits, loans, tax measures, and access to additional liquidity that will allow for the retention of employees during this period of economic uncertainty. These government provisions are a lifeline for smaller retailers and employees who need an economic bridge from the current dislocation in the marketplace to a more normalized trading and work environment.
Challenges concerning inventory, personnel, and employee safety precautions loom large as authorities begin to permit the reopening of retail locations and distribution and fulfillment centers. China’s attempt to recover from its own COVID-19 related retail shutdown presents an interesting example for countries dealing with the subsequent spread of the virus. Some stores in China have understandably offered deep discounts or other promotional incentives to encourage customer spending. Early evidence shows store traffic in China is slowly returning to pre-virus levels as infection rates slow and consumers regain the confidence to venture out from their homes.
While the pandemic caught most off-guard, analysts are closely watching those retailers that are reacting creatively and strategically to recapture and potentially grow market share.
Retailers are facing a daunting list of challenges as they manage the many threats to their bruised balance sheets. Many retailers began temporarily closing stores in early to mid-March while planning to reopen them at the end of the month. As cases of COVID-19 continued to increase in the United States, however, those plans had to be shelved. With most retail stores now shuttered for an uncertain period of time, landlords are among those feeling the pain. Almost all retailers, regardless of how seriously they have been impacted by the virus, have deferred rent payments.
For many landlords, the loss of rent payments negatively impacts their ability to make mortgage payments and fund operations. Various government measures to assist homeowners facing payment default penalties, eviction, or foreclosure have not trickled down to commercial markets. In the absence of such measures and facing tenant requests for temporary relief, landlords must consider the impact that any such economic concessions will have on their existing financing arrangements. Remaining flexible to short-term economic exigencies and retaining legal counsel knowledgeable of respective contractual obligations and remedies will assist both landlords and retailers in reaching necessary lease accommodations.
During this unprecedented time, retailers that were in the process of liquidating merchandise or strategically closing stores when the pandemic struck have been constrained in their ability to conduct going-out-of-business sales due to government-mandated closures in the vast majority of states. Going-out-of-business sales that were in progress were paused pending a return to normal trading conditions.
While new bankruptcy filings have slowed, many anticipate that mounting financial pressure will most likely result in an increase in bankruptcy filings, particularly for retailers, as the crisis and its aftermath play out. Some retailers will undoubtedly use the bankruptcy process as a means to reorganize operations and restructure lease portfolios. For others, it will be the precursor to liquidation and permanent closure.
One of the results of this COVID-19 crisis will undoubtedly be an exponential increase in the demand for turnaround management expertise. Many retailers were already under pressure before the crisis due to the shift to online retail, new tariffs, and shifting consumer demand. With the additional hardships imposed by the spread of COVID-19, some of them will not survive. For healthier retailers, the buildup of excess and dated inventory will be a significant obstacle to recovery efforts. There will be an urgent need to right-size levels of inventory to support revised sales plans and clear shelves of out-of-season merchandise.
The retail landscape has always been in flux. If history is any indication, some retailers will adapt to confront these new challenges and emerge rejuvenated, while others will surely exit the marketplace. During these challenging times, it is important to strategize and prepare a financial, operational, and merchandising recovery plan. Management teams, lenders, consultants, and turnaround professionals need to work together to provide vital support, helping retailers weather the storm and get back on a path to normalcy.
With crisis comes opportunity. These coming months will be the catalyst for even greater innovation and change in the retail industry.