Money for Nothing
Long before the 1987 movie “Wall Street” and the now-legendary quote from the fictional Gordon Gecko “Greed is good” became part of the American business worlds’ verbal infrastructure, success, wealth and growth in business were built on the startlingly simple notion that to create, run and succeed in a business, you actually had to know something about that business. The great tycoons of the turn of the century — Carnegie, Rockefeller, JP Morgan, etc. — all knew a good deal about oil, railroads and real estate, respectively.
It was a given that to benefit from an industry, you had to understand it and be just that little bit smarter, quicker or more risk tolerant than the next smart guy. As world boxing champion Mike Tyson said, you win the fight by “being smarter than your opponent, not stronger.” More apropos to our story is the seminal quote from George Santayana, which in its original form it read, ‘”Those who cannot remember the past are condemned to repeat it.”
Money for Nothing? The Art of Failure
All of these ideas are bound up in the essential distillation of fervent market worship and wrong-headed economic approaches that came to dominate the U.S. business climate time and again. Corporate roll-ups, conglomerates, growth by acquisition, leveraged debt, junk bonds, corporate raiders — none of this is really new; it’s just new terminology for old style avarice. Companies buy companies not because they want to grow them but for their cash-flow — LTV buys Altec, Beatrice Foods buys Harman (which of course just got bought again, this time by Samsung), LVH buys every luxury brand on the surface of the planet, Sony buys CBS and Columbia Pictures, and the list goes on.
The short list of national companies, in many cases pillars of the electronics and related products retail world, that have succumbed to the blatant lust for profits and demonstrated a level of incompetence bordering on malfeasance is stunning:
- Circuit City
- Crazy eddies
- Good Guys
- Incredible Universe
- Lafayette Radio
- Ultimate Electronics
- The Wiz
- HH Gregg
- J&R Music World
- Radio Shack**
**General Wireless Operations (GWO), which runs the RadioShack chain of stores and the company website, has pulled the plug on almost all of its remaining stores. The company said it shuttered most of its remaining 1,000-plus locations over Memorial Day weekend, effectively ending the long tortuous death spiral the retailer had been suffering. RIP RadioShack. This is of May 30, 17 via Business Wire reports. For the record, there remain 70 company-owned and 425 independently owned/franchised stores nationwide still open, but realistically those too are doomed as suppliers and vendors have essentially ceased servicing the company.
And let us not forget those on the periphery of the electronics businesses like Tower Records, Virgin Megastores, Borders, Blockbuster (Video and Rental), Musicland, Camelot Music, (add your own regional death spirals here).
Perhaps the most visible and tragic of these tales is the current terminal cancer called hedge fund management that is crushing Sears. One of the more succinct summaries of the situation put it this way: Sears’ financial difficulties are incredibly deep (and totally self inflicted by Mr. Lampert and his team of financial hedge fund money management geniuses). Since Lampert’s hedge fund bought K-Mart to use it to buy Sears he has been able to do the following:
Not generate a profit since 2010 and report more than $2.2 billion in losses for fiscal 2016. (Total net losses since the acquisition are not fully known due to the incredibly convoluted interlocking financial structures created by the dozens of layers of fiscal accounting matrices, but reported data shows losses of at least US$8 billion since 2013.)
To turn the company around, these same wizards are gutting what remains by closing stores, often selling off the real estate, as well as borrowing even more high-risk (translation: high interest rates) money and putting some of its most legendary and iconic brands up for sale.
Anyone want to buy Kenmore? How about Craftsman? Oops, sorry, you’re too late; Craftsman was sold to Black and Decker. Need a clothing company? Lands End is on the block. And so on. This is all the result of a tunnel vision like focus on cash flow and profit at the expense of EVERYTHING else including ethics, people and the communities and structures that grew up around Sears stores for 100 years.
As of May 25th, Sears Holdings announced that it had restructured 1.5 billion of its debt obligations and negotiated with Metropolitan Life Insurance to assume annuitized payment of benefits to 51K retirees. While this may provide some short term breathing room, it does not solve the core problem Lampert has created with the massive debt and loan obligations he has placed on the company. This is simply shuffling the deck chairs on the Titanic, as one Wall Street analyst put it.
What will be left when it’s all said and done is the shattered remains of one of the cornerstones of American retail — and a lot of lost jobs, closed stores and empty malls. What a legacy the magic money guys have produced yet again. Oh and by the way, just in case it isn’t obvious by now, both Sears and Kmart are now on well on their way to becoming vaporized completely as brands.
Now let’s add in the non-U.S. corporate victims of the same concepts and processes operating on a global scale. Most recently Toshiba, Pioneer, and of course on-going saga of the Samsung soap opera, plus Phillips becoming a licensed brand (in consumer AV electronics), Fujitsu General (displays), Sony (although they are back — sort of) Panasonic (displays) both destroyed by their South Korean and Chinese competitors and their own non-functional decision-making bureaucracy.
As an aside, it is worthy of note that both Sony and Panasonic poured new money into their businesses long after many of their own analysts warned it was futile. They are now reaping the results of their arrogance and insularity to the real world’s economics and are currently digesting the heartburn caused by over-investment and bad planning.
And let us not forget the sad, dark and incredibly Viking-like sagas of Sharp and Hitachi, once top tier leaders in AV, now relegated to at best plastic logo plates on somebody else’s product.
All of these crash and burn episodes add up to an astonishingly large amount of any currency you care to use — trillions (in U.S. dollars) at least if not much, much more in lost jobs, plant closures, bankruptcy filings, debt write-offs, and don’t overlook the ancillary, very deep ripple effects on all these companies’ suppliers, vendors, logistical support providers, credit card processing services, financing providers — all the way down to the folks who used to stripe the parking lots.
The Sad Tale of hhgregg
To really understand how this happens, let’s take a more detailed look at one spectacular crash and burn — the convoluted disaster that brought hhgregg to Chapter 7. The lessons learned here are applicable to the whole industry and provide some sinister and serious warnings for everyone.
The story begins about two decades ago. In the late 1990s, the groundwork for hhgregg’s woes was laid when the late founding-family scion Jerry Throgmartin launched an aggressive geographic expansion (a familiar scenario by now), which saw the Indianapolis retailer grow from 18 to 220 stores across 19 states.
The strategy was fueled by a public offering and the vision of chief investor Freeman Spogli & Co. (surprise! another private equity firm) of hhgregg as a national chain, which the firm sold to the founders wrapped in sugar plum visions of huge rewards and massive returns on first their money and then everyone else’s.
But the plan was upended by an unfortunate confluence of events, including Throgmartin’s untimely death, the recession, e-commerce competition and disruptions within the TV category, the business’s bread-and-butter. Of course, all this came as a gigantic surprise to the private equity guys who never bothered to understand the business they were buying.
The multiregional build-out eventually stretched the company’s leadership ranks (yet another surprise to the PE guys), which led to a succession of outside the industry management teams built from the ranks of the PE guys’ networks and unsuccessful forays into exercise equipment and other merchandise categories. ‘Well if we can’t make money on TVs, let’s add more stuff to the mix and make money on that’ was the rationale presented to the fiscal spreadsheet management teams according to internal memos that have since surfaced publicly.
In the lead-up to the bankruptcy, hhgregg experienced a punishing holiday quarter and brought in investment banking firm Stifel Financial Corp. (the hedge fund manager’s solution to all problems is always another investment banker) to help it weigh its options. Surprise! They began by closing 88 showrooms, representing 40 percent of its store base, in a pullback from four major markets. What do you think came next?
In a March 31 filing with the Securities and Exchange Commission, the retailer said it reached a deal on the going-out-of-business sales with a joint venture comprised of Tiger Capital Group and Great American Group (more money guys helping money guys to get money from nothing, cash from failure and profit from stupidity).
The sales would take place “only to the extent that no acceptable going concern bids are received by… April 7,” the retailer said in the filing. Really? Who did they expect to step up and buy the Titanic after it had already hit the iceberg? So the $5,000-suit lawyers wrote that “the agreement was to be subject to approval by U.S. Bankruptcy Court in the Southern District of Indiana”, where hhgregg had filed for Chapter 11 protection. But in a move that should surprise no one but the courts, on April 4, this site went up: http://liquidations.hhgregg.com. So the liquidation site went up three days before the supposed cutoff date for a buyer to step in, to which the court had agreed. Hmm. A little fuzzy math here don’t you think? Or perhaps it was just clever legal maneuvering? Decades of liquidation sale statistical data shows that if they were incredibly lucky the average recovery at auction would be 15 percent of MSRP or a net loss of 85 percent of the potential profit. Not surprisingly, some manufacturers have asked for return of all unsold, new-in-box inventory, forthwith.
And here’s the kicker: The liquidation deal would give the liquidators payment equal to 1.25 percent of gross proceeds of the sale of the merchandise. The lawyers for hhgregg don’t expect anything would be left for its shareholders — what a surprise!
Now the ugly side of all of this. As of April 1, 2017 (the latest date I could find for complaint reporting), there were well in excess of 1,500 consumer complaints filed in four states with more than $360K in claimed losses ,the vast majority concerning known/returned defective merchandise sold as new and extended warranty plans sold with that merchandise which were not and could not be honored as no extended warranty vendor was actually in place. The contracts were a scam, it appears, by floor salespeople gone rogue to generate cash spiffs or immediate cash commissions, knowing they were dealing deceptively and dishonestly, but trying to get what they could from the dying corpse of the company. This is, of course, a handy-dandy side benefit of a management style that de-values people over profits. The usual public pablum statements from consumer protection agencies stated they were “looking into the matter.” Good luck getting any recovery with there being no money in the pot to pay shareholders let alone unsecured customers.
All of this was going on despite this statement issued to the various state BBB offices on March 21, 2017 (two weeks BEFORE the liquidation site went up): “As a result of the chapter 11 bankruptcy filing, we are under the constraints of the Bankruptcy Court’s orders. In particular, the Bankruptcy Court ordered that we were not permitted to issue customer returns of greater than $2,850 on products bought prior to March 6, 2017, the date of the bankruptcy filing. The Court’s order does not impact product bought post filing, and therefore we are operating in ordinary course. Should you have an issue, we encourage you to call our Customer Care department at 800-284-7344 so that we can work with you to get it resolved.” Calls to the listed number were reportedly greeted with a “not in service” message after April 4, 2017.
So what can we as an industry learn from these gangrenous examples of corporate greed, malfeasance and avarice?
So in 2017 terms here is the fake news:
Myth #1: Bigger is Better
William Lazonick, an expert on the American business corporation and a professor of economics at University of Massachusetts Lowell, has written extensively about the rise of the conglomerate movement of the 1960s. Much as we see in a modified form today, at that time, shareholders (private equity funds didn’t play much of a role back then) were clamoring for rapid growth, so they pushed for big mergers and acquisitions (the same pressure is used by the private equity, hedge fund manager, venture capital money today).
Once-successful firms were pressured to move away from their core businesses, or grow far more rapidly than their management resources were capable of handling (sound familiar?), often to terrible results. In various articles and commentaries, Lazonick has noted that “the ideology was that a good manager could manage anything, and that all the central office needed was performance statistics so that it could ‘manage by the numbers.’”
This arrogant and often tyrannical stupidity almost always ended up following this script: The company (fill in your favorite here) imploded as a result of gross mismanagement, plummeting stock prices and a long list of other potentially indictable offenses.
Evidently today’s fiscal wizards, like Mr. Lampert or his colleagues involved in the hhgregg fiasco, or the Toshiba managers who faked profits and so on didn’t get the memo. But we did get two new terms for the American business vocabulary: the “hostile takeover” and the “corporate raider.”
It turns out that contrary to the notions of Lampert and his many clones in the big money world, you actually do need to know something about a business in order to manage it well. There’s really no substitute for industry-specific experience. And bigger is not always better — a gigantic corporation can be too unwieldy and complex to thrive, especially when your management philosophy is derived from a spread sheet and the advice of risk capital moguls.
Myth #2: Self-interest is the Paramount Asset
The practitioners of today’s mine-is-mine and yours-is-mine economics depend on everyone believing that all human beings are little more than a blob of self-interest. This syllabus teaches that the market economy is populated by pseudo-rational individuals whose selfishness is constrained only by convenience. This approach gave life to the idea of business units or individual store locations competing to see who can produce the most profit, or sales people knowingly selling non-existent merchandise with fake extended warranties in the name of cash flow and spread-sheet reported daily profits.
What actually happens is that the “units” or stores or people began to behave something like the cutthroat city-states of Machiavellian Italy, wherein “I” is the only thing that matters, and essentially each group declares economic war on the others. What followed is very, very, predictable.
Management and senior people in one “unit” took to undermining other units because they knew their bonuses were tied to individual unit performance. The business rapidly becomes a miserable place to work, rife with internal strife.
What this mindset totally fails to recognize is that in a normal world (never to be found in the land of big money), most people actually have an innate preference to work for the mutual benefit of an organization. They like to cooperate and collaborate, and they generally work more productively when they have shared goals (this is why the military focuses so hard on building team loyalty and unit coherence — it works).
Myth #3: Greed Always Wins
The famous Gordon gecko quote comes from a toxic business philosophy that had at its core, the belief that shareholders were the only true stakeholders in a company, because they made the investments and bore the risk. The investments and risks carried by the people that work for a company or its non-shareholding investors simply don’t matter.
This pernicious concept produced executives who believed that they were entitled to use any kind of above- or below-board method to line their pockets. For example, one of the most common scams was buying back their own stock in a way designed to inflate earnings per share and hide weaknesses (as demonstrated by Toshiba and an endless list of others). What automatically results is the concept that upgrades and new stores or other improvements to existing infrastructure or operating facilities is not an efficient use of capital. Oh, and almost always this is coupled with the lord/serf idea that paying workers decently does not in any way matter. ‘There are five applicants for every job so we can pay poverty wages and always find someone willing to take the job’ is a standard mantra for these folks.
The opposite side of this and the one that aggressively proves that the whole greed and cheap idea is plainly wrong can clearly be seen in the way both McDonald’s and Wal-Mart have taken up the idea of decent pay and worker advancement, education benefits, hiring veterans. These are all concepts that focus on people and a better workplace and all of which have improved profitability and earning for both companies.
If you don’t believe that this matters, let me raise up that bastion of the cognoscenti — Apple. Wonder why it is no longer making anything interesting? Why its retail workers get paid squat? Check out what they’ve been doing with stock buybacks and internal investment — despite news reports designed to deflect away from these facts, which are evident in any reading of the back pages of the latest 10K filing.
So greed in the form of sucking every dime out of a company to feed the insatiable demands of equity capital partners, hedge funds or other profit-immediately investment structures will without question destroy the very business that is providing the cash. It’s like slaughtering all the stud bulls in a cattle herd and then wondering why there are no new calves to fill the space left by those sent to market. Duh!
The key lesson from all of this is very, very simple. It’s so obvious that even a bunch of five-year-olds running a corner lemonade stand on a hot summer day will get it: You (we) have to know something about the business you’re running and the real winners on any business team have figured out how to cooperate rather than compete.