In Retail: COVID-19 special edition #2
07 May 2020
The Twilight – what retailers and stakeholders can be doing now
This is an unprecedented time in terms of the level of uncertainty for the retail industry. The disruption and unique challenges stemming from COVID-19 have made many pre-COVID-19 strategies for the short, medium, and long-term redundant.
Retailers, landlords and stakeholders remain in a state of flux. All are forced to implement short-term responses to a constantly changing landscape in an effort to survive, and are making critical decisions without any degree of certainty about what next week, next month or next year looks like.
This second instalment of the In Retail COVID-19 special edition series explores the four broad stages of the virus’ impact on the retail sector. We also look at some key factors retailers, landlords, lenders and suppliers should be considering now.
While the journey will be different for each retailer and retail category, we see four broad stages all retailers will need to respond to before we get back to (a new) ’normal’. Understanding these stages will also be useful for landlords and other stakeholders as they prepare to respond and assist.
Phase 1: Fight or flight
The immediacy of COVID-19’s impact was shocking for all, requiring retailers to respond immediately with fundamental business changes. This phase is categorised by a focus internally on liquidity and immediate survival.
The sudden and seismic disruption to the retail landscape means no retailer was immune and all retailers had to rapidly adjust their business and operating models in response to sales in ‘freefall’, or conversely contending with panic buying and stockpiling. During this period we saw surges in supermarket sales requiring rapid increases to operational, logistics and supply chain capacity, while at the same time many discretionary retailers such as apparel and accessories retailers went into hibernation by shuttering entire store networks, furloughing staff and cutting fixed costs in an effort to preserve cash. This was evidenced by the recent ABS retail sales data which showed overall growth of 8.5% but vast differences across categories.
Phase 2: Twilight (current phase)
Material uncertainty remains around the duration and severity of the impact and what the landscape will look like in the future, making medium and long-term decision making highly challenging. This phase is categorised by a focus on scenario planning, arrangements with key stakeholders and remaining responsive.
This becomes a holding pattern until strict restrictions are eased (and beyond as physical distancing restrictions are likely to ease on a staggered basis) and a period where retailers are getting to grips with the various government assistance packages and codes of conduct. Many retailers are updating financial forecast models and looking at opportunities to pivot or tweak business models – some examples we have seen are adapting store operations such as IKEA style store route maps, expanding online offerings (including vast increases to the ‘click and collect’ offering) and partnering with other businesses for distribution. Some have also looked to strengthen their capital structure via equity injections and alternative finance options. Everyone is contending with the cost of hibernation, with landlords and lenders playing a critical role in finding a way forward.
Phase 3: Resetting
While clarity may become available on when COVID-19 restrictions will ease/lift, permanent shifts in consumer behaviour and the retail sector will remain unknown for some time. This phase will be characterised by a focus on the business model and restructuring in preparation for full emergence.
The profile of emergence from the twilight phase will be different for every retailer as restrictions are progressively relaxed, people gradually return to daily routines and stimulus and support measures end. To determine their go forward strategy and structure during this period, retailers will need to place bets around their expectations of the new normal and the characteristics of a successful retailer in that environment. More detailed scenario planning will be required and action plans established for each broad scenario. Some level of restructuring to reset the business will be required (including a reassessment of store footprint). Management teams will have to focus on working capital given some will have effectively missed a season of inventory clearance. They will also need to address carried forward liabilities (including those linked to the costs of hibernation, e.g. deferred rent, creditor and interest payments). Scenario planning now is vital so that retailers can respond with a pre-arranged strategy to whatever may eventuate. Presenting those plans to lenders to explain and facilitate required financial assistance will be critical.
Phase 4: Rebuilding
The rebuilding phase will be characterised by retailers, landlords and stakeholders adjusting to the new reality and changes to consumer behaviour. There is likely to be intense competition and consolidation in many sectors, with heavy discounting when stores reopen to convert ageing stock into much-needed cash. This phase will be characterised by a focus on the wider market, your competitive positioning and implementing the applicable strategy developed in the previous phase.
Consumer behaviour will permanently change as a result of the crisis with shifts in cashless transactions, online shopping, spending patterns amongst categories, as well as cautiousness when it comes to hygiene and health, which will pose both an opportunity and a risk for retailers. The retailers best placed to take advantage of opportunities will be those who have been proactive in the resetting phase, having their house in order and a clear go forward strategy.
Even greater focus on up-to-date results and customer behaviour will be required. Those retailers who can quickly assess results against plans, reset as necessary and communicate with stakeholders to whom ‘promises’ have been made will be best placed.
As we currently wade our way through the twilight phase, the retailers who will come out the other side of COVID-19 strong and which will struggle are yet to be determined.
Adopt a strict cash preservation culture
Produce weekly (or daily) cash flows and monitor variances closely.
Re-assess any non-critical operational and capital spend.
Review working capital position.
Utilise any available government aid (i.e. employee subsidies).
Explore abatement opportunities from landlords.
Explore payment deferral options with suppliers, particularly stock suppliers.
Explore covenant relief/principal repayment holidays from financiers.
Consider the impact of any payment deferrals on future profitability.
Note: Having a plan/forecast evidencing a return to profitability will be important for negotiations, see McGrathNicol’s insights into forecasting during uncertain times here.
Re-assess operations and forecasting
Revisit demand planning.
Assess suppliers’ ability to complete orders for next season and options to fund this.
Consider seasonality of inventory on hand and orders awaiting receipt and ways to clear this.
Consider which stores are to re-open, in what capacity, when and how.
Revisit merchandise planning.
Consider advertising strategy and funding options for this.
Ensure infrastructure, model and offering is suitable
Ensure support is available to re-open the store network: are staff ready and willing to come back, is your supply chain and logistics model ready?
Consider online presence and strategy.
Consider market changes and competitive position in a post COVID-19 environment.
Consider requests for abatement/deferral with tenants
Consider the financial strength of your tenant against the liability (i.e. would the tenant fail without a compromise?).
How has COVID-19 impacted the tenant’s performance and how open are they being about the performance (including shift of sales to online)?
Will the tenant have the capacity to pay base (and deferred rent) when restrictions are eased?
Consider the risks and benefits of a vacant premises
What alternative use is there for your premises and what are the associated capital costs?
What will demand for your premises be like post-COVID-19 and what is your desired usage mix?
What security is in place (i.e. realisable value of a rental bond/personal guarantee) and are you able to call on it?
Will there be significant negative PR implications if pursuing a personal guarantee in the current environment?
If financed, consider requesting covenant relief/principal repayment holidays with financiers.
Lenders (including suppliers)
If new/extended funding is requested
What is the borrower’s financial strength?
Does the retailer/landlord have a forecast and ability to repay this?
Does the forecast include any other assumptions around ability to defer liabilities (rent/suppliers)?
How does the forecast account for possible short/medium/long-term impacts on the business from COVID-19?
Generally, is the forecast realistic?
Is all security suitable and enforceable?
Is the security enforceable and have secured lenders holders captured all legal entities in a group structure (including foreign subsidiaries and IP holding entities)?
Have stock/asset financiers (including suppliers) properly registered PMSI security and formally agreed adequate T&Cs for enforceability?
Consider the benefit of enforcement over a retailer
What options are available and complications in the COVID-19 environment?
How has value been impacted both in terms of business and physical assets (i.e. inventory)?
Consider what is left after specific securities over stock/other assets?
How large would preferential claims be and what could they be paid from (i.e. stock, debtors)?
Will there be significant negative PR implications if enforcing a security?
Consider the reality of security enforcement over a landlord
Is the current real estate market suitable to obtain the desired/best return?
Will there be significant negative PR implications if enforcing a security?
In our next In-Retail COVID-19 special edition, we will look at the restructuring options, latest developments and the specific tools retailers can use to reset their strategy in response to this changing market, to position themselves as a strong going concern and take advantage of opportunities in the market.