Circuit City Needs a Management Overhaul

For some reason I found myself struggling to find a way to discuss Circuit City’s (CC) recent quarter results (Qtr ending 5/31/08 – Q1 FY 09), probably because the situation is just more of the same and the company’s situation just continues to get worse. So I’ve decided to just let the numbers speak for themselves.

• Overall Net sales (Domestic & International) decreased 7.4% on a YoY basis and declined 8.8% domestically due to a comp store sales decline of 12.2%. Considering the current retail environment the drop in revenue isn’t that bad, the real issue is the YoY change in earnings as we’ll discuss below.
• The company’s pre-tax consolidated loss from continuing operations nearly doubled on a YoY basis to $161.8 million from $82 million in the previous year. The company’s net loss increased to $1.00/share from $0.33/share in the previous year, a YoY increase of roughly 203%.
• On the balance sheet net cash declined by 271.9 million on a YoY basis to 92.2 million a decline of 74.68%; one has to wonder how many quarters like the most recent one can Circuit City survive without needing a major influx of capital?  
• In order to conserve its remaining capital the company is suspending its dividend and tapping lending facilities to build up inventory for the holiday shopping season. While the company may not admit it, their dramatically reduced cash position coupled with accelerating losses puts them at significant risk.
• The call made a reference to a “shelf registration” with the SEC that could presumably be part of a future attempt to raise capital, if/when the company’s cash position declines further.

The story for the above is pretty simple: despite revenue declines that are fairly typical for the current retail environment the company’s losses have increased dramatically, and their cash position is at significant risk.

Despite the company’s claims as to the veracity of their turnaround plan, the company has been in turnaround mode since 2006, and shareholders have been rewarded with nothing but a decline in the value of their investment as the company continues to go downhill. How can the company’s executives tout their turnaround plan when the company is in worse shape than before the plan was initiated two years ago?!

While the company (and analysts) may blame the current retail environment, Wal-Mart  (WMT) and Target (TGT) selling more electronics, etc, it doesn’t change the fact that Best Buy (BBY) is turning a profit via selling a nearly identical product line at very similar prices. In fact despite a tough retail environment, electronics sales continue to be a bright spot for many of Circuit City’s competitors. I.e. there is no excuse for not being able to make money selling electronics right now, even if we are in the midst of an economic slowdown.

If you want to handicap a management team’s ability to successfully turn a company around, look at their candor with investors, if they’re clued in to their problems and how they react when things aren’t going well/proceeding according to plan. When I look at Circuit City, I’m more disturbed by their executive’s cluelessness and lack of candor, than I am by the financial results themselves. Q1’s loss wouldn’t be as disturbing if the management team was clued in enough to execute a successful turnaround plan, as opposed to being a legion of spin-doctors who have done nothing but wreck the company over the past two years.

At this point, even the most optimistic of observers would have to pronounce Phil Schoonover’s tenure at Circuit City as a colossal failure, as his turnaround plan has done nothing more than to send the company backwards. At this point, the company needs a new turnaround plan to get them back to the state they were in before the current one was initiated! If that wasn’t bad enough the company is unable to generate profits in an environment that continues to be fruitful for CC’s competitors, in spite of the current rather difficult retail environment and declining individual product margins.

Moving forward, it’s not a question of when Schoonover’s turnaround plan begins to show fruit; it’s a question of when does the board do their job and oust him and the rest of his management team. The only way Schoonover can claim to be on track with respect to turning Circuit City around is if he believes that the goal of a turnaround is to drive a company into bankruptcy.

Sources:

Seeking Alpha: “Circuit City F1Q09 (Qtr End 5/31/08) Earnings Call Transcript” – June 19, 2008.

Disclosure: at the time of publishing the author didn’t own a position in any of the companies mentioned in this article.

Comments

[billddrummer]

Mr. Lee,

I appreciate your penetrating analysis of CC, and the problems that are plaguing it.

I've followed this company for over a year and a half, since I began working at BBY, and the contrasts between the companies couldn't be more telling:

Comp same store sales at BBY rose 3.4% in the 1st quarter;

Revenue increased because of both organic growth and new stores (CC doesn't have the resources to open stores now);

BBY's gross margin narrowed by 20 basis points, compared to 174 basis points for CC (despite the company's assertion that 'close rates are improving, and attachments are positive');

While net profits slipped principally because of higher interest costs (borrowings rose to finance IT and infrastructure improvements for the international division, as well as the purchase of a 50% stake in Carphone Warehouse), profits from continuing operations rose 4% compared to last year.

BBY is clearly demonstrating the 'crisp execution' that Schoonover continues to refer to in company communications. I wonder why the board continues to accept the tailspin as a viable operating strategy.

As you said, all the talk about the turnaround is just that--talk. The good news (if there is any) is that the loss was less than the company predicted when it released its FYE 2008 report. Then, the loss was estimated at $185 million. So you could spin it to say that "well, we lost less money than we thought we were going to, so that's proof our turnaround plan is working."

NOT!!!!!!!!!!!!!

[MrQ]

My question is how is it possible the shareholders and board continue to tolerate Schoonover & his team at the helm of this sinking ship? The handwriting is on the wall---Circuit City WILL BE NON-EXISTENT if they fail to act NOW.

For gosh sakes throw this drunken captain off the bridge before he takes it to the bottom of the ocean.

[rulemaker]

I recently walked into a CC store. It was dismal. I thought I was back in the Wash, DC suburb CC of the late 70's (a grungy nightmare of a store-room with clueless sales staff, and no product). I wondered how it got this bad. Then I recalled meeting Phil S. while at Best Buy. It was incredible how blind he was of the weakness to his plan then, and apparently now. Dump management now, or watch last of your investment wither to nothing.

[billddrummer]

Disgruntled shareholders have a chance to voice their concerns at the stockholders' meeting tomorrow. How I'd like to be present for that!!

[Best Buy Dave]

I worked for Circuit City for 19+ years and now for the past 3 years with Best Buy. I am one of the "shipmates" who left before Admiral Schoonover ejected me from his Titantic! I believe Circuit City's problem began before Phil took over as the CEO. Allan McClough took over from Rick Sharp. When at CC I recall Allan blamied Rick for not changing CC retail model to match customer's shopping habits. The last great CC CEO was Rick Sharp(who made quarterly profits) now who would they replace Phil S. Blockbuster who reported negative earnings this past quarter? Maybe like CompUsa, Federated, Gemco, and others, CC should fly the white flag and fade away like the Sony Betamax

[billddrummer]

I agree with you 100%.


On Jun 23 10:43 PM Best Buy Dave wrote:

> I worked for Circuit City for 19+ years and now for the past 3 years
> with Best Buy. I am one of the "shipmates" who left before Admiral
> Schoonover ejected me from his Titantic! I believe Circuit City's
> problem began before Phil took over as the CEO. Allan McClough took
> over from Rick Sharp. When at CC I recall Allan blamied Rick for
> not changing CC retail model to match customer's shopping habits.
> The last great CC CEO was Rick Sharp(who made quarterly profits)
> now who would they replace Phil S. Blockbuster who reported negative
> earnings this past quarter? Maybe like CompUsa, Federated, Gemco,
> and others, CC should fly the white flag and fade away like the Sony
> Betamax

[scottgee1]

A small comment from the front line.

I work in a major metro area and have CC and BBY stores within walking distance of my office.

When I want to make an electronics purchase, I check the websites of both companies for availability and price. To be fair (and compulsive) I do so in alphabetical order. :D

Today I got my HDTV converter box coupons so I searched both sites to determine which product to buy. BBY returned three hits, all of which were converter boxes. CC returned eight hits, none of which were converter boxes.

Want to guess where I made my purchase?