January 8, 2018 Consensus

The Weekly Consensus – January 8, 2018 (Volume 10, Number 2)

The Big Story
Uncle Sam as a Partner
Billy Busko

A business class professor often reminded us, “Every business has a partner: the government.”  There are many ways that the government and its laws and regulations impact business, but one universal factor is taxes.

The Tax Cuts and Jobs Act passed by Congress just before Christmas took effect January 1st.  How will the Act impact the Retail Industry?

To provide a general and global perspective, Ernst & Young reports that the U.S. has had the highest federal corporate tax rate in the world at 35%, which on average increases to 39% including state taxes.  This compares to a worldwide average of 25.8% or a modestly higher GDP-weighted average of 27.9%.  The global book ends have been the United Arab Emirates at 0% and the U.S. at 39%.  In between are Russia (20%), the U.K. (21%), China (25%), Canada (26%), Australia (30%), Germany (30%), Mexico (30%), Brazil (34%), India (34%), Japan (35%) and France (36%).  Moreover, the U.S. has not had comprehensive corporate tax change in thirty years.  In the meantime, the global average corporate tax rate has decreased approximately 15%.

The Tax Cuts and Jobs Act decreases the federal corporate tax rate from 35% to 21%.  The National Retail Federation (NRF), the world’s largest retail trade association, hailed the tax reform as “a major victory for retailers”.  The NRF further added that the “landmark legislation will boost our nation’s economy more than anything we’ve seen in decades”.  The National Restaurant Association commented that the tax changes “will help restaurants remain strong economic engines and job creators”.  The Food Marketing Institute stated that “the bill dramatically lowers tax rates and increases expensing levels, which should help fund improvements in technology and job growth.”  This is a reference to the new provision that will now allow for immediate deduction of capital improvements, except for the purchase of real estate, rather than amortizing these improvements over numerous years.

At the crux of the Retail Industry’s warm reception to tax reform is that the sector has largely not benefitted from the previous tax deductions and credits that have lowered tax bills for other industries.  Thus, the Retail Industry has paid the highest effective tax rate among all industries.  The Tax Cuts and Jobs Act eliminates the majority of such tax breaks to allow for a lower rate.  Further, small business “pass throughs” will receive a 20% deduction.  This is an important provision to Retail because small businesses (defined as fewer than 50 employees) account for 98% of all retail establishments and 40% of industry employment.

So what does the lower tax bill ultimately mean for the Retail Industry?  The greater after-tax cash profits should financially strengthen businesses and their owners, which is much needed after a year that saw a record number of store closures.  If theories prove correct, the improved financial position should create jobs as companies will have greater means to add employment. On this front, the NRF projects that 500,000 to 1,500,000 retail-related jobs will be added.  Further, these jobs and investments should occur beyond retail walls and websites and include technology, supply chain and marketing functions.  On top of this, is the expectation that consumers themselves will be better off.  And looking to spend.

Time will tell if the Tax Cuts and Jobs Act proves to be a boon for business. But retailers are already celebrating as though they received precisely what they wanted for Christmas.


Headlines of the Week

Toys R Us hires liquidation advisers as some stores hit the chopping block

Toys R Us is poised to put struggling stores on the chopping block in early 2018 as the company aims to reorganize its operations in bankruptcy following the holiday shopping season. The big-box retailer revealed in court filings that it had already hired a firm that specializes in evaluating stores for liquidation. Toys R Us did not reveal how many stores it plans to close. But the company said in a court filing that it had hired New York-based Malfitano Partners for help “soliciting and evaluating proposals to liquidate the inventory and furniture, fixtures, and equipment in certain store locations that the (company has) identified for closing.” Analysts at investment-bank UBS estimated on Dec. 19 that 183 Toys R Us stores — or roughly 21% of the company’s U.S. locations — could be shuttered in 2018.

J.C. Penney CEO Warns Sears: We’re Coming for Your Appliance Business

J.C. Penney CEO Marvin Ellison makes no bones about it: the retailer is going hard after fellow struggling department store chain Sears’ appliance sales. Penney, which resumed selling large home appliances two years ago after three decades away from the category, saw comparable appliance sales rise 30% in the November and December holiday period, a significant contributor to Penney’s better-than-expected 3.4% holiday season sales growth, Ellison told Fortune in an interview on Thursday.



Apparel & Footwear

Elie Tahari, Bluestar Alliance Forge Joint Venture

In the first fashion deal of the year, Elie Tahari Ltd. and Bluestar Alliance LLC have formed a new joint venture company, TBH Brand Holdings LLC. The deal, which closed Jan. 1, is effective immediately. Elie Tahari has contributed the intellectual property for the Tahari and T Tahari collections, along with related trademarks, into the joint venture with Bluestar, which will be responsible for the day-to-day management and licensing of those brands domestically and internationally. The designer will retain ownership and manage the Elie Tahari brand. In a separate but related transaction, Elie Tahari, Arthur Levine and Les Schreiber have contributed the intellectual property of the Tahari ASL trademark into a new company, TASL Brand Holdings LLC. All combined, the family of Tahari brands exceed $500 million in retail sales today.

Billabong Directors back surfwear brand’s A$200m sale to US owner of Quiksilver

Two of the global surfwear groups founded in Australia will be united under one parent company in a A$200 million deal that paves the way for a sweeping industry restructure. In a move consigning another famous Australian label to foreign ownership, Billabong directors have backed a buyout offer from the US company that now owns rival Quiksilver. Billabong, which is based on the Gold Coast, announced yesterday that its directors and key investors were formally supporting the takeover offer from Boardriders. Based in California, Boardriders owns fashion brands including Roxy, DC Shoes and Quiksilver, which was founded in Torquay almost 50 years ago. Boardriders is controlled by Los Angeles-based private equity house Oaktree Capital Management.


Athletic & Sporting Goods

Camping World buys Erehwon Mountain Outfitter

Camping World announced its plan to purchase Erehwon Mountain Outfitter, a Midwestern specialty retailer of outdoor gear and apparel. Financial terms were not disclosed.  Founded in 1972 in Chicago and now based in Arlington Heights, Erehwon has three suburban locations and a flagship in the Milwaukee suburbs. Camping World, based in Lincolnshire, is a national chain of RV retailers and platforms. In the most recent quarter, the company reported total revenue of $1.24 billion, up 25 percent year over year. Net income increased 24.6 percent year over year to $85.3 million.


J.W. Childs buys Honors Holdings, franchisee of Orangetheory Fitness

J.W. Childs Associates, L.P., a private equity firm focused on operational value creation in middle-market growth companies, announced it has acquired a majority interest in Honors Holdings, LLC, a leading franchisee of Orangetheory® Fitness.  Honors Holdings operates 16 studios in Georgia, Tennessee, South Carolina, Washington and Oregon.  Founder Jamie Weeks will retain a substantial investment in the business.  Orangetheory Fitness is a 60-minute workout broken into intervals of cardiovascular and strength training.

Gun Sales in America Drop

After a strong Black Friday, gun sales were surprisingly lackluster in December despite the traditional role of the holidays as the time when many Americans give each other firearms. The sluggishness in sales is due in part to a lack of fear on the part of gun enthusiasts. Now that Republicans who typically oppose gun regulation control Congress and the White House, even rushes on gun stores (and increases in gun stocks) have slowed in the wake of mass shootings.  Despite the all-around slow year, however, holiday gun sales remain robust compared with the rest of the year.

Cosmetics & Pharmacy

CVS Health Provides 2018 Outlook

CVS Health issued its initial outlook for 2018, expressing confidence in the execution of its growth strategy. For full-year 2018, the company expects to deliver consolidated net revenue growth of 0.75% to 2.5% and adjusted consolidated operating profit growth of 1% to 4%. Adjusted operating profit in its Retail/LTC segment is expected to grow in the low-single digits and adjusted operating profit in its Pharmacy Services segment is expected to grow in the low- to mid-single digits. Strong growth in scripts and claims, continued purchasing efficiencies from the company’s Red Oak venture, and incremental net benefits from the company’s streamlining initiative are expected to be beneficial contributors to enterprise growth.

Walgreens’ Weak Retail Sales, Gross Margins Hit Shares

Walgreens Boots Alliance Inc reported its sixth straight fall in retail same-store sales in the first quarter of fiscal 2018 along with a drop in gross margins in its U.S. business, sending its shares down as much as 6.3 percent.  The biggest U.S. drugstore chain’s stock fell to $70.73, recording its biggest intraday percentage loss in more than two years. Same-store sales in its front-end outlets through which the company sells over-the-counter drugs and general merchandise fell 0.9 percent, hurt by weak demand for consumables and personal care products.

Rite Aid Misses Revenue Estimate, Shares Fall 12 Percent

Drug retailer Rite Aid posted smaller-than-expected quarterly revenue due to a fall in reimbursement rates and comparable-store sales.  The company’s shares plunged 12 percent to $1.86 after the bell. The stock has fallen over 45 percent since June, when larger rival Walgreens Boots Alliance Inc scrapped its deal to buy Rite Aid outright after failing to win antitrust approval.  Rite Aid, however, received regulatory approval in September to sell 1,932 of its stores to Walgreens for $4.38 billion. “We have transferred 357 stores (to Walgreens) and have received about $715 million in proceeds, which we have used to pay down debt.” Rite Aid Chief Executive John Standley said. The company said same-store sales fell 2.5 percent in the third quarter, dropping for the sixth straight quarter.


Discounters & Department Stores

Neiman Marcus CEO Karen Katz stepping down

Karen Katz, CEO and career-long veteran of Neiman Marcus Group Ltd., is reportedly stepping aside for a new chief executive. The Wall Street Journal wrote Thursday that Katz, who has served in the Dallas luxury retailer’s top position since 2010, will be replaced by a new CEO from outside of the company. She will retain her seat on the company’s board. Katz joined Neiman’s in 1985 and has held various roles during her tenure, including president of the company’s catalog division.


Grocery & Restaurants

Buddy’s Pizza Wins “Significant” Investment to Recapitalize, Spur Growth

The 72-year-old Buddy’s Pizza announced a partnership with private-investment firm CapitalSpring that will recapitalize the Detroit-based pizza chain and accelerate new store growth, the company said Thursday. CapitalSpring, a restaurant-focused private-investment firm managing more than $1.3 billion in assets, described the investment as significant but did not disclose specifics. Buddy’s Pizza, which was founded in 1946, is widely considered the originator of the Detroit-style square pie with its red sauce on top.

Apollo to buy Qdoba in $305M deal

Jack in the Box Inc. agreed to sell its fast-casual Qdoba Restaurant Corp. to Apollo Global Management LLC in a $305 million deal. San Diego-based Jack in the Box said the cash deal covers more than 700 owned and franchised restaurants and is expected to close by April 2018.

Sentinel Capital Partners buys Captain D’s

Sentinel Capital Partners has acquired quick-service seafood chain Captain D’s from Centre Partners Management LLC, making it the fifth restaurant chain currently in the New York City-based private-equity firm’s portfolio. Nashville-based Captain D’s operates 303 restaurants and franchises an additional 227, mostly in the Southeast and Midwest.

Home & Road

Spectrum Brands to Sell Small Appliance Division

Spectrum Brands is exploring a sale of its appliance business this year and is in “active discussions” with prospective buyers, the company announced this morning.  The company’s appliance brands include George Foreman, Black + Decker, Remington, Russell Hobbs, Juiceman, Breadman and Toastmaster. The decision to put its Global Batteries & Appliances businesses on the selling block enables it to focus on its remaining businesses of Hardware & Home Improvement, Global Auto Care, Global Pet Supplies and Home & Garden.

You May Soon Be Able to Buy a Power Drill at Kroger

Kroger Company and Ace Hardware, a retailer-owned cooperative, are in preliminary talks to form a partnership, TheStreet has learned. Under the partnership, Ace would have a presence within Kroger stores as a “store-inside-a-store,” according to a source familiar with the discussion. The store-within-a-store concept is nothing new to Ace. Since 2012, it has offered local store owners $150,000 to adopt the model, in which stores of 5,000 square feet or less and can be located inside grocery or paint stores. If the Ace set-up with Kroger goes through, the grocer would be Ace’s biggest partnership according to the source with knowledge of the deal.

Jewelry & Luxury

Two Execs Leave Alex and Ani

The president and chief financial officer of Alex and Ani have left the jewelry brand, according to reports. The one-year contracts of company president Cindy DiPietrantonio and chief financial officer Bob Woodruff expired, Providence Journal reported last month. Both of them joined Alex and Ani in 2016: DiPietrantonio was chief operating officer until her promotion to president later that year, while Woodruff, a former Nike executive, came straight in as CFO.

Charming Charlie restructuring could be in place for busy spring season

Charming Charlie has proposed a plan to ease its debt load and secure new financing as it executes a strategy to boost profits after months of inventory problems and declining sales. The plan would allow the Houston-based jewelry and accessories retailer to wipe about $69 million from its balance sheet after filing for Chapter 11 bankruptcy protection in Delaware last month. Lenders would assume control of the company and provide additional loans to help it emerge from bankruptcy and overhaul operations.


Office & Leisure

Cargill to Acquire Private Label Pet Food Manufacturer

Cargill has reached an agreement to acquire Pro-Pet, a St. Marys, Ohio-based manufacturer of private label and co-manufactured pet foods, including premium dog food brand Black Gold. The acquisition makes Cargill the only national supplier of both animal feed and pet food offerings in the agricultural retail space, according to officials for the Minneapolis-based company. The transaction is expected to close within 30 days, subject to customary approvals. Terms of the deal were not disclosed. Pro-Pet provides Cargill with increased production capacity and proximity to existing agricultural retail customers to better meet their growth needs within pet food, officials added. Pet food is a top-growing category among agriculture retailers with an estimated 8 percent distribution share, in a space that continues to evolve with changing consumer preferences.

Technology & Internet

In 2018, Amazon will turn to private label goods

Amazon has long honed the business of being the middleman – getting brands to sell on its site, letting shoppers pay for and receive those items fast and efficiently. But 2017 was the year Amazon started taking steps to create its own brands.

Finance & Economy

Small-business hiring slows, even as the economy accelerates

Small business hiring slowed in 2017, even as the rest of the economy accelerated, a report from human resources firm Paychex said.  “While small business jobs growth slowed this year, it’s important to recall that small businesses led the hiring surge coming out of the recession and maintained high levels of growth for quite some time,” said Martin Mucci, Paychex president and CEO.


Consumer Comfort in U.S. Advanced in 2017 to a 16-Year High

American consumers last year were more upbeat on average than at any time since 2001, reflecting more favorable views of the economy, personal finances and the buying climate, according to the Bloomberg Consumer Comfort Index.  Sentiment in 2017 got a boost from the combination of a solid labor market that’s pushed unemployment to an almost 17-year low, limited inflation and record stock prices. Such optimism should help keep consumers spending after a bright holiday-shopping season. Retail sales during the year-end holidays may have been the strongest in more than a decade, according to calculations from research firm Customer Growth Partners.