Factory 2-U sees bankruptcy as only hope - Company Profile

DSN Retailing Today, Jan 26, 2004 by Debbie Howell

SAN DIEGO -- A two-year streak of losses and declining sales finally drove off-price retailer Factory 2-U into bankruptcy earlier this month. The chain's filing for Chapter 11 protection hardly came as a surprise, given the abrupt resignation of former ceo Bill Fields in December, just shy of a year into his turnaround attempt.

Despite restructuring moves that included store closures, cost-cutting and a revamp of the merchandise mix, Factory 2-U continued to bleed cash and post declining sales. The chain lost $10.9 million in 2001, $28.5 million in 2002 and $11.1 million through three quarters of its latest fiscal year that ends in February. Comp-store sales have been negative in seven of the past eight quarters, with the latest financial report showing a 6.9% decline for the quarter ended Nov. 1, 2003.

And although the chain isn't giving up, new ceo Norman Plotkin announced a voluntary bankruptcy filing was the retailer's best shot at reviving the business, given its precarious liquidity position heightened by disappointing holiday sales. Comps for the first three weeks of December were down 10.9%, with the chain forecasting a loss in its fourth quarter and comps declining 2% to 5%.

In a press statement, Plotkin said that filing for Chapter 11 was "appropriate and necessary" to enable the chain to move quickly to resolve its problems. He said the new executive team and board of directors stood behind Factory 2-U's "solid operating strategy" and that they believed in its long-term survival.

"Factory 2-U has proven in the past that we can perform extremely well by providing our traditional customer base with branded apparel and other basic items at a great value. Our team believes strongly that, with the right merchandise mix and marketing plans, this strategy will be successful for us once again in the future," Plotkin stated.

Plotkin, who had been serving as interim chief following Fields' resignation, joined the company in 1998. He formerly served as evp, store development, human resources and general counsel and had responsibility for store operations during part of 2002. On the date of the Jan. 13 bankruptcy filing, Plotkin was named permanent ceo, and interim cfo John Swygert assumed the permanent cfo title in the aftermath of former cfo Douglas Felderman's resignation.

Melvin Redman, evp, store operations and distribution, was promoted on that same date to evp and coo. These three, along with evp and gmm A.J. Nepa, formed a new executive committee to manage the retailer's day-to-day business while being assisted by Crossroads, a consulting firm retained as restructuring adviser.

Factory 2-U said business would continue as usual and that it had received a commitment for $45 million in debtor-in-possession financing from The CIT Group/Business Credit, Inc. and GB Retail Funding. The chain intends to use the funds to fulfill obligations during bankruptcy and ensure that stores remain stocked.

A store closure program--common in retail bankruptcies--has not been announced. Factory 2-U has shuttered 44 stores since early 2002 and currently operates 243 stores in 10 states.

Factory 2-U's formula of selling off-price branded casual apparel, domestics and household goods at prices below those of traditional discounters has come into question as a viable strategy given the past two years' financial struggles. When the economy tanked in 2001, so did Factory 2-U's business. The chain targets low-income shoppers, which for some chains has been a booming business.

Value retailers, such as Dollar General and Family Dollar, have thrived targeting this niche, though their mixes are more skewed toward hard lines. For Factory 2-U, the focus is apparel, a segment that has been soft during the tough economy.

"There are some fundamental flaws in their strategy. They're trying to compete with deep discounters like dollar stores, Wal-Mart and a broad variety of low-priced retailers. That's a very difficult marketplace," said George Whalin, president and ceo of Retail Management Consultants of San Marcos, Calif.

Whalin added that Factory 2-U's small stores in less-than-ideal and diverse locations are other problem points. Before sales began to decline, Factory 2-U had embarked on a broad expansion strategy that put small numbers of stores in multiple states, such as one each in Idaho and Oklahoma. This later led to admissions by Factory 2-U that its real estate strategy hadn't been thought out sufficiently.

Perhaps most importantly, Whalin said Factory 2-U is lacking a compelling, differentiated retail strategy with sufficient marketing behind it to support it.

"You have to give customers a compelling reason to come to your store today. Their merchandise mix was not exactly compelling. It was all right," Whalin said. "I'm not sure they're going to survive."

With a third ceo attempting a turnaround at Factory 2-U since late 2002, it doesn't seem that the odds are in the company's favor. Mike Searles, who ran the company during its heyday of the late '90s, resigned in August 2002 after his own attempts to revive the business failed. Then came along Bill Fields, a former Wal-Mart executive who vowed to return the merchandise focus to extreme values, claiming the mix had veered too high in price points and therefore alienated core shoppers.