Credit Risks Grow In Apparel Retail
The explosive growth in online sales over the last five years has created unrelenting pressure on typically "brick & mortar" apparel retailers.
Management teams have engaged in a variety of strategic initiatives to deal with a quickly changing retail landscape, including store closures, cost cutting, product mix shifts, and hiring of retail specialists. Of course, many corporations have also been aggressively spending to create and grow their online presence. In an environment where few tangible competitive advantages exist, the reality of the direct-to-consumer model has now pushed many businesses into bankruptcy. Given recent underlying trends, we found that credit risk for this industry has magnified substantially in the last twelve months.
We examined public apparel retail corporations located within the United States and Canada that have a FRISK® score, a proprietary measure of financial distress, of 5 or less. The score is sourced from our FRISK® model that gauges risk on a 1 to 10 scale – 1 being the most distressed and 10 being the most financially sound. After qualitative screening, we found 16 companies that have elevated risk compared to the broader retail apparel industry:
- Christopher & Banks
- Stein Mart
- Destination XL
- New York & Company
- Tailored Brands
- Le Chateau
- J.C. Penney
- Hudson’s Bay
- EVINE Live
- Stage Stores
- J. Crew Group
- Sears Canada
- Claire’s Stores
- Bon-Ton Stores
- The Gymboree
- Sears Holdings Corp
Over the last twelve months, this group had the following adjusted average financial trends:
- Cash conversion cycle extended to 82 days year-over-year, up from 79 days.
- The Altman Z' ' Score dropped 12.6% largely related to lower trending EBIT and falling retained earnings.
- More than half of the businesses reported negative and/or declining free cash flow, partially driven by changes in working capital and higher interest expense.
- Working capital and debt as a percentage of total assets declined 3% and rose 10%, respectively, suggesting less liquidity and more debt recycling.
CreditRiskMonitor's proprietary FRISK® Stress Index, a quantitative measurement of trending risk for an industry, shows that apparel retail financial strain has expanded drastically:
Exhibit 1: FRISK® Stress Index for Apparel & Accessory Stores
The FRISK® Stress Index indicates that the probability of failure now stands just above 2% for the Apparel Retail Industry – or 2 out of 100 companies within the next 12 months will fall into some variation of bankruptcy.
To further highlight the problems in this area, we took the 16 at-risk companies in our sample and created a specialized portfolio to identify how much credit risk has expanded for this smaller group over the same timeframe. As you can see below, the increase in risk that this group faces has expanded nearly four times as much as the Apparel Retail average:
Exhibit 2: FRISK® Stress Index for Apparel Retail Sample
More worrying, the FRISK® Stress Index rating for the at-risk group is more than twice as high as the level realized during the 2008 financial crisis. We can see that the near-term failure rate for this group stands at an astounding 9%, where four of the companies within the group maintain a FRISK® score of 1, the worst possible rating.
As incremental financial risk for these companies continues to climb higher, there will likely be challenging ramifications for associated suppliers, service providers, landlords, and other counterparties. Credit managers will be required to navigate this area tactically by evaluating the financial strength of their partners more critically and monitoring collection policy. It is not only important to identify which particular businesses yield the most transaction risk, but also to recognize those that are capably working through a period of adjustment.
For a more in-depth look at what is happening to retailers from a credit risk perspective, we recently performed a deep dive into the situation at Sears Holdings (SHLD), which you can access for free. Read our credit risk analysis on Sears Holdings.
And, learn the signs you should look for when examining a retailer that stands at a heightened risk of financial distress. Read a post-bankruptcy analysis of American Apparel.
FRISK® score is a proprietary model that provides a score that measures the degree of financial distress for a public company. The model has been back-tested over the last decade to catch 96% of public company bankruptcies globally. The failure score has been recently enhanced by our credit subscriber base through crowd sourced behavioral data patterns. Provided below is the scoring chart that displays the statistical probability of bankruptcy within the next twelve months for each respective score:
FRISK® Stress Index is a model that provides the average probability of failure for a group of companies (e.g. by industry, portfolio, or country) over the next 12 months. The level of risk is measured through a scale of 0 to 50, with 50 being the most risky.
CreditRiskMonitor is a financial news and analysis service designed to help professionals stay ahead of public company risk quickly, accurately and cost-effectively. More than 35% of the Fortune 1000, plus thousands more worldwide, rely on our commercial credit reporting and predictive risk analytics for assessing the financial stability of over 58,000 global public companies.
At the core of CreditRiskMonitor’s service is its 96% accurate FRISK® score, which is formulated to predict public company bankruptcy risk. One of four key components calculated in the FRISK® score is crowdsourced subscriber activity. This unique system tracks subscribers' patterns of research activity, capturing and aggregating the real-time concerns of what are essentially the key gatekeepers of corporate credit. Other features of CreditRiskMonitor’s service include timely news alerts, the Altman Z” score, agency ratings, financial ratios and trends. CreditRiskMonitor’s network of trade contributors provides more than $135 billion in trade data on their counterparties every month, giving them visibility into their biggest dollar risks.