Rumors about retailers can be very bad news for their health

Word started trickling out in October, warning that gift cards could be worthless if stores were to go bankrupt. Within a month, an ominous Internet claim said chains including Ann Taylor and Zales would close by year's end. By January, news reports and TV segments were practically declaring retailers dead, often touting lists of the 10 or 15 recognizable names most likely to disappear in 2009.

Pretty rough stuff considering cost-conscious consumers had already cut back on spending.

So can bad buzz run a store out of business — or at least push it into bankruptcy court?

Retail industry officials say alarmist media reports screaming about which stores are likely to close, among other claims, are tainting perceptions with consumers, investors, creditors and suppliers.

Retail implosion forecasts typically come from the same handful of retail consulting gadflies — at least one of whom says he makes money when retailers' stock prices fall — and the forecasts are often based on subjective criteria that do not jibe with widely accepted methods of assessing corporate health.

"People are really paying attention to these articles, and the effects are extremely damaging," says Tracy Mullin, CEO of the National Retail Federation, which represents most major retailers.

To be sure, the retail industry is in dire straits. Even retailers agree this year will see more store closures, and that more Chapter 11 bankruptcy filings and liquidations are likely. An estimated 150,000 stores closed last year, while only about 110,000 opened. The same is expected this year, leading to a net loss of 40,000 retail locations each year, according to the International Council of Shopping Centers. Some big-name retailers, such as Gottschalks and Circuit City, are simply liquidating.

But accurately declaring whether an individual company is in trouble isn't something that can be done flippantly. Credit-rating agencies — Standard & Poor's, Moody's and Fitch Ratings — are generally considered the official purveyors of data on the health or plight of public companies. These agencies rank retailers based on the size of their debt loads, business stability and outlook, and ability to keep up with interest payments.

A USA TODAY analysis of Altman's Z-score data from S&P's Capital IQ shows that just one of 12 major retailers that have shown up on retail death lists — Eddie Bauer EBHI— is under a potentially dangerous level of financial duress. The Z-score is a mathematical way to measure how much financial stress companies are under and is one predictor used by financial analysts and in business books and databases.

Stores take it on the chin

The 2008 holiday season aptly illustrated the bad-publicity effect. Charming Shoppes CHRS, which owns Lane Bryant, Fashion Bug and Catherines, says it was experiencing double-digit growth in gift-card sales for several years before a few iterations of an Internet hoax hit.

"The decrease in our gift-card sales exceeded the decrease in sales that we attribute to a difficult economy," says Gayle Coolick, Charming's director of investor relations.

Soon after the false e-mails, articles on and elsewhere suggested that store closings by a few of the same purportedly troubled retailers, including PacSun and Zales ZLC, could presage the end of some well-known chains.

PacSun PSUN is feeling the downturn but is hardly at death's door, according to the Z-score data (see chart.) Even if same-store sales decline 20%, the company says, it will end 2009 with $25 million in cash.

Maria Sceppaguercio, spokeswoman for Ann Taylor ANN, says the chain doesn't belong on any likely-to-fail lists. Ann Taylor, she notes, ended 2008 with $112 million in cash. Its plan to close 163 of more than 1,000 stores was designed "to increase our efficiency, effectiveness and profitability and make the company an ever stronger one. Closing underperforming stores is a natural part of business of any smart retailer."

The complications of analyzing retailers' financials go beyond just a sound bite.

"It is very dangerous to speculate who may or may not be surviving without being inside the circle of knowledge," says Janet Hoffman, global retail managing partner at the consulting firm Accenture. "There could be alternatives (the retailer) may be pursuing without going out of business."

The "rumor mill," says Hoffman, could prompt "vendors to stop supplying product and creditors to stop extending credit." In the case of bigger-ticket items like appliances or jewelry, it could even cause consumers to "get concerned and stop shopping there," she says.

The lists of experts

Those being quoted in the death-watch articles say they do their homework on troubled retailers.

Investment banker, retail consultant and popular media interviewee Howard Davidowitz says he looks at "current trends," including a retailer's monthly sales, when its debt comes due, and economic data such as unemployment figures. He says he only publicly disparages the prospects of retailers after others have already done so.

For example, he says it should come as no surprise to Zales investors that he's been saying the jewelry store chain is doomed, as "everyone in the jewelry business knows Zales' situation. They didn't need me to say it."

Zales VP and Treasurer David Sternblitz, who cites the 2,000-store chain's "significant liquidity" and the fact that it is closing just 5% of total stores — says news articles and TV segments predicting their demise "increase the level of questions" from vendors and lead to calls from customers asking about the warranties on their jewelry.

While Davidowitz has long been retail's unofficial devil's advocate, the recessionary stars have aligned to give new credence to naysaying by him, as well as by consumer trends expert Britt Beemer. Both have long predicted the demise of Sears Holdings SHLD, which now owns Kmart: Davidowitz says he was criticizing Sears even when the stock was close to $200 and "everybody thought I was crazy." It closed last week at $52.49.

In October 2002, Davidowitz told the New York Daily News that Kmart "is headed to liquidation. It's just too far gone to save." Two years later, he told Westchester County, N.Y.'s The Journal News, "My prediction is in three years there will be no more Kmart; in six years, no more Sears."

But while the stock has fallen as retail sales have declined, credit-rating agencies' ratings don't agree with any doomsday scenario for Sears and Kmart.

Moody's downgraded Sears to Ba2 on March 23, but even that lower rating implies just a 2.5% chance it would default on its loans in a year. And even in the challenging fiscal year ended in January, the company generated free cash flow, which factors in the costs to upgrade facilities, of nearly $500 million.

Betting against retailers

Davidowitz has consulted for the retail industry — advising on mergers, among other things — but he also often bets against it.

He says he and his team of four professionals spend most of their time buying and selling retail stocks and bonds with money that includes $500 million from a group of Japanese investors and about $50 million of Davidowitz's own money. Nearly all of the money he made in 2008, however, was shorting retail stocks, Davidowitz says.

Short selling — a bet that a stock price will fall — is legal but has come under fire as a possible source of market abuses. Investors profit through short selling by borrowing a stock from another investor, selling the shares and then buying them back later. The short seller, if successful, buys the stock back at a lower price and returns it, pocketing the difference in price. The Securities and Exchange Commission said last week that it planned to crack down on the practice.

Davidowitz says he never shorts the stocks he disses publicly and has refused to disclose all of the names on his list of troubled retailers in TV and print interviews. Davidowitz says CNBC and Bloomberg TV always ask him before appearances if he "has a position" on any of the stocks he plans to discuss. He says he always says no. CNBC and Bloomberg confirmed that describes their policies.

"Anybody who is commenting on the performance of a company and shorting the stocks has a clear conflict of interest," says NRF's Mullin. "This person really shouldn't be considered a credible source. There are a lot of analysts who bring a lot of knowledge and a deep understanding of the industry … and then there are others who are really in it for themselves."

Investors aren't required to disclose which stocks they short. But public records show retailers are big targets of short sellers.

For his part, Beemer, who has run America's Research Group for the past 30 years, says about 25% to 30% of retailers are likely to be forced into bankruptcy reorganization and have to "shed 30 to 40% of their stores."

Unlike Davidowitz, who focuses more on financial trends, Beemer relies more on his company's regular telephone surveys of consumers to detect shopping trends that are running in favor of or against a certain retailer.

Beemer proudly notes he was among the first to foresee four or five years ago the failure of Linens 'n Things, which liquidated last year, and of Mervyn's, which liquidated last fall in a scenario he had been publicly banking on for about five years. Of one of the first big furniture store liquidations in late 2007, he says: "I predicted Levitz long before they did."

"I'm a consumer guy," says Beemer, who says his clients tend to be smaller regional retailers who are willing to act on his recommendations. "My clients know and respect me for the fact that I'm very frank and blunt."


"What retailer sells his best stores but Eddie Lampert?" shouts investment banker and retail consultant Howard Davidowitz, referring to the Sears chairman in an interview. "That will put you out of business!"

It will also get you on Davidowitz's list of troubled retailers, a list that helps get him frequent television appearances and mentions in several hundred newspaper and magazine articles a year.

Davidowitz, 67, welcomed a reporter to a recent interview in his unpretentious Manhattan offices by displaying the five news clips quoting him that morning, including Time and Newsday. The 45-year veteran of retail consulting says he does about 20 interviews a week, a claim that a search of news services and a scroll through CNBC's archives supports.

A portly and polite (at least to the press) man who is given to outbursts of expletives, Davidowitz is the man retailers love to hate but are hesitant to take on in print.

Though he says he has consulted for some of the best-known names in retail — Van Cleef & Arpels, Target and Limited are among the past and present clients listed on his website — he seldom works for the big names anymore, acknowledging having just four retail clients, none of them household names.

He and his team of four professionals spend most of their time buying and selling retail stocks.

No retail officials would agree to specifically discuss him directly or his allegations on the record, although he says some have called him personally. When a major retailer's public relations representative called a few years ago to complain about some of his comments, Davidowitz says he cursed at the person and said, "I can say whatever I want."

Davidowitz's website notes that he was retail practice leader for the consulting firm now known as Ernst & Young until 1981, when he said in an interview he was "booted out" for reasons he didn't "want to go into."

According to a February 1983 judgment, Davidowitz pleaded guilty and was convicted of securities and mail fraud that year, sentenced to serve every weekend in prison for nine months and pay a $10,000 fine. Court documents show the conviction was for making stock trades based on confidential inside information of a planned 1981 takeover of Drug Fair by Gray Drug Stores while he was representing Gray for Ernst.

Davidowitz says all of his clients and the journalists who quote him know about the case, but he asked that the 26-year-old conviction not be mentioned in this story because it "has no relevance to anything I'm doing." "I have a logic to what I say. It's pretty fact-based, pretty analytical (and) based on 45 years of experience of doing this stuff," says Davidowitz.

To suggestions that he only spreads bad news, Davidowitz says he "always" mentions winners — Wal-Mart and the dollar stores of late in TV appearances — even when he's declaring the end is near for others. His print appearances, however, tend to be one or two quotes, typically on the downward spiral of retailers.

But he can be withering in his criticism of those he declares losers.

The retailers may not agree with him, but Davidowitz says his frequent media exposure has helped him land major investment banking clients. When someone about to interview him mentions they saw him on CNBC or quoted in The Wall Street Journal, Davidowitz says he knows things are leaning in his favor.

While his negative comments may not have brought in any big-name retail consulting clients of late, Davidowitz says, "Truthfully, it's helped me with hedge funds and people who give us money to invest."

Saks CEO Steve Sadove hopes consumers will see through much of the talk from various sources.

"All of these comments in the press feed the negative environment relative to the consumer and shopping," says Sadove. "It puts a pall over all retail, as well as luxury retail."


Whether publicity that includes quoting consultants Howard Davidowitz, Britt Beemer and other retail doomsayers creates or exacerbates problems for stores is not easily agreed upon. And there's also a question of who is to blame.

Unlike reports of possible bankruptcy filings by automakers, some say concerns about the viability of a clothing chain are unlikely to scare off, say, working women searching for suits.

"If you said Tiffany, people would get riled up because if you're buying a wedding gift, you want to know if you can take it back," says Ken Nisch, chairman of the retail branding and design firm JGA. "But a coat? How concerned are you going to get?"

But National Retail Federation spokeswoman Ellen Davis says retailers are more affected by negative press than most other industries. "Everyone shops. I would argue that no other industry is as impacted by consumers as much as retailers," Davis says. "As a result, when they read something that's particularly alarming to them, they react — quickly."

But is the media at fault for relying on certain sources, or do retailers share much of the blame for being so press-shy?

Some retailers seldom, if ever, speak to the media, or place so many conditions on interviews that reporters often turn instead to the legions of "retail consultants" who are regularly pitched by public relations firms as sources. Most of these consultants are working for retailers — or hoping to — so they are either leery about disclosing companies' strategies or saying anything remotely negative on the record.

Retail stock analysts tend to be more objective, but like many other Wall Street analysts, they became especially cautious about speaking to the media after former New York governor Eliot Spitzer reached a global settlement with 10 investment banks in 2003 regarding conflicts of interest between the research and investment banking sides of their companies. After the settlement, many firms required their analysts to get approval from their compliance departments and e-mail disclosures to reporters before talking to them, which discouraged many from talking to the press.

That means journalists seeking to balance often-glowing comments from companies or the consultants who work for them often turn to some of the more dependable retail contrarians, who can now point to data like the soaring unemployment rate or store liquidations they predicted as evidence of expertise.

"I'll give you an honest opinion. That's the way it works," says Davidowitz. "There's only one person out there who's telling it like it is."