Will PetSmart Be the Next Big-Box Retailer to Crumble Under Debt?
Given what we witnessed with the recent fall of Toys ‘R Us under the weight of $5 billion of debt, is it fair to wonder if PetSmart could suffer a similar fate?
It has been reported that PetSmart is currently burdened with more than $8 billion of debt, much of which—similar to Toys ‘R Us—came from a leveraged buyout by an investment firm. In PetSmart’s case, that firm was BC Partners, which paid $8.7 billion for the big-box pet chain in 2014. But that original load was made even bigger last year with the acquisition of Chewy.com for what was reported as a record price for an ecommerce retailer ($3.35 billion), resulting in an additional $2 billion of debt.
All of this has come at a time when PetSmart faces eroding margins as online pet product outlets like Amazon are proving to be stiff competition for big-box retailers. That is exactly what drove the Chewy.com acquisition, which was supposed to shore up PetSmart’s ecommerce business. Yet, Chewy reportedly still has not proven to be an economic engine for the company as it continues to seem more focused on customer acquisition spending to gain market share than it is on offering healthy margins to its parent organization.
As the investment world has watched the progress of PetSmart over the past few years, a couple moves, in particular, have raised red flags among observers. First, a year after acquiring PetSmart, BC Partners decided to give itself an $800 million dividend recap instead of paying down some of the debt or reinvesting it in the company. Then, more recently, the company reportedly moved more than a third of its ownership interest away from PetSmart to protect it from creditors—a development that does not exactly foster confidence.
Still, many folks inside and outside the pet industry believe that PetSmart is far from going the way of Toys ‘R Us. That is largely because none of its significant debt starts maturing until 2022, which means there is still a lot of time for the company to come up with some solutions to its current predicament. In fact, PetSmart recently began working with debt advisers to do just that.
Another positive that the chain has going for it is that its first quarter numbers were good. In fact, Bloomberg reported that PetSmart’s brick-and-mortar business was up about 11% over a year earlier ($317.3 million vs. $285 million), and that Chewy’s earnings and sales were up for the same period.
Finally, it seems that PetSmart is simply better prepared to compete against mass and online retailers than Toys ‘R Us was. While both big-box retailers saw sales and margin erosion, PetSmart has been able to, for example, lean on services to drive customer traffic—a weapon that the toy chain did not have in its arsenal. PetSmart was actually quite proactive in adding that important service element to its stores, and these offerings continue to be strong performers for the company, which appears committed to growing them even further.
So, at the end of the day, while the country’s largest pet specialty retail chain clearly faces some serious challenges over the next few years, it does not appear that it will suffer a similar fate as its counterpart in the toy market—at least not anytime soon.