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Walmart’s Warning Says Retail’s Back Is Against the Wall

Walmart slashed its outlook Monday afternoon as Olympia Sports’ 35-store shutdown triggers a liquidation and new data suggests a troubling picture for retail debt.

The mega-retailer’s move highlights the challenges facing retailers forced to contend with sky-high inflation and consumers cutting back on niceties so they can pay for the bare necessities. Target already rattled the industry and investors alike when it admitted last month it had gotten itself into an inventory pickle forcing the retailer to discount products and cut orders.

Merchants lacking Walmart’s and Target’s deep pockets might find themselves up a creek without a paddle.

Retail, coupled with the restaurant sector, holds the dubious distinction of having the highest distress ratio—17.7 percent—of sectors tracked by S&P Global Ratings’ credit markets research group, which found the overall U.S. corporate rate more than doubled over the past month to 9.2 percent as of July 5. According to Nicole Serino, S&P’s associate director of credit markets research, certain consumer-facing companies “are showing signs of stress.” The distress signal is now a level not seen since October 2020, when Zac Posen’s parent and True Religion were exiting bankruptcy while JCPenney was still in the throes.

“Roughly, movements in the distress ratio run parallel to movements in the U.S. default rate with several months lead time,” S&P said in a report on Monday. “Multiple headwinds including tighter financing, lower growth prospects, and geopolitical tensions intensifying supply chain pressures all weigh on lower-rated U.S. issuers and is expected to push the U.S. default rate to 3 percent by the first quarter of 2023.”

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Of the 10 distressed-debt companies under retail and restaurants, where the ratio rose from 16 percent in June, Fossil and Michaels are rated stable while QVC, 99 Cents Only, At Home Group, and Rite Aid got a negative rating. The outlook is equally grim for Bed Bath & Beyond, which recently tossed CEO Mark Tritton in an attempt to stop the bleeding.

The sector seems to be facing factors beyond its control.

“What I am seeing is that the cost of higher interest makes banks want to cut back [and] be less willing to work with [certain] borrowers,” said Paul H. Aloe, who chairs the litigation and bankruptcy practices at New York City-based law firm Kudman Trachten Aloe Posner LLP.

Rising interest rates could spark new bankruptcy filings, he warned.

“Changes in interest rates and business swings tend to be a major driver of bankruptcies,” he said. “I would expect as the Fed tightens interest and slows the economy, there will be more filings.” He went on to say that companies whose landlords or banks extended a lifeline during the pandemic might be “unwilling to grant further forbearance,” and demand to collect what they’re owed.

Ron Johnson’s eight-year-old company recently filed for bankruptcy in a sign of the challenges for new retail concepts and the onetime Apple guru’s fading Midas touch. Though he created the popular Michael Graves product lines during his stint as Target’s merchandising VP, Johnson failed to convert any success he cultivated as the brainchild behind Apple stores during a disastrous two-year tenure as JCPenney CEO that alienated many of the chain’s longtime customers. Enjoy Technology filed for Chapter 11 bankruptcy on June 30, less than a year after it went public through a special purpose acquisition company deal in October. With assets of $111.7 million and liabilities of $70 million as of March 31, it now plans to link up with Asurion, a technology repair firm, according to the bankruptcy filing.

US distressed debt ratio is rising, reflecting the impact of inflation and rising interest rates on consumer spending and retail profits.
The struggling athletic chain is closing all 35 store locations by the end of September. Kristoffer Tripplaar/Sipa USA via AP Images

Now, Olympia Sports is going out of business after Nike’s decision to stop wholesaling to the sporting goods chain only compounded the company’s long-standing problems. JackRabbit, the running-focused retailer, closed 76 Olympia stores after purchasing the chain, which once operated 200-plus locations, in 2019. Olympia said Friday it’s shuttering its remaining 35 stores. Its website says “everything must go” at liquidation sales underway at all of its locations.

Companies in fashion and retail are about to trot out second-quarter reports, with Steve Madden up Wednesday morning. Wall Street insiders expect many firms will bring overly optimistic profit and earnings outlooks back to reality given what’s going on with inflation, consumer spending, supply chain hiccups and fears of a recession.

Though Walmart has considerable financial firepower at its disposal, the fact that it said growth is likely to slow down could chill the broader retail sector and serve as a sign of what’s to come.

Walmart sees second-quarter comps outside of fuel coming in at 6 percent, or 1 percent higher that what it announced in May.

But the company said it’s now marking down apparel to get customers to buy clothing, largely because they’re spending more of their dollars on food, where inflation is up by double digits.

“We’re now anticipating more pressure on general merchandise in the back half; however, we’re encouraged by the start we’re seeing on school supplies in Walmart U.S.,” Walmart Inc. president and CEO Doug McMillon said.

For the year, Walmart expects consolidated net sales growth at 4.5 percent, with adjusted earnings per share declining between 11 percent to 13 percent. When it reported first-quarter results, the company raised net sales growth to 4.5 and 5 percent. But even with the lowered guidance to 4.5 percent, that’s still above the original guidance of 3 percent in February.