Michaels lackluster earnings pressure bonds, portend weakness for Jo-Ann Stores

Michaels Stores capital structure plummeted this morning after the arts and crafts retailer reported disappointing 3Q19 results and cut full year guidance, citing pressure from online competition, according to four sources familiar with the matter. The sector weakness is expected to seep into the results for fellow crafts retailer Jo-Ann Stores as well, two of the sources said.

On Michaels’ earnings call this morning, management alleviated some investor concerns by detailing future strategic initiatives, causing the bonds to recover slightly, two of the sources said.

Michaels’ USD 500m 8% senior unsecured notes due 2027, issued this past June, changed hands as low as 89 to yield 10.105% this morning from trades at 94.75 to yield 8.964% yesterday. The bonds retraced to the 91-92 range after the earnings call, according to MarketAxess. Its USD 2.23bn Libor+250bps TLB due 2023 softened to the 94.2/95.25 context today from quotes at 94.714/95.571 yesterday, according to Markit.

The company’s stock dipped as low as USD 6.28, before bouncing to USD 6.47 and a market cap of roughly USD 1bn, still down 10.6% from yesterday’s close.

For the quarter, the company reported USD 1.22bn of net sales, compared to USD 1.27bn in 3Q18. Adjusted EBITDA shook out to USD 160.72m, down 10% year-over-year from USD 179.27m in 3Q18.

Michaels also missed estimates for comparable store sales and adjusted earnings per share, the sources said. Comparable store sales fell 2.2% in the quarter, compared to an uptick of 3.8% in 3Q18. The company was expecting flat to up 1% of comp sales.

As of 2 November, the company is 3.4x levered, based on USD 2.65bn of total debt and USD 790m of LTM adjusted EBITDA.

On the earnings call, management credited “the underlying business trend” for part of the decline. Sources interpreted that as weakness in the overall arts and crafts space, pressured by online retailers like Etsy and Amazon.

In reaction to Michael’s disappointing quarter, quotes on Jo-Ann’s USD 725m L+500bps first lien term loan due 2023 softened to the 72/74.25 context today from 73.438/75.375 yesterday, according to Markit. The troubled Jo-Ann generated negative EBITDA in its fiscal 2Q19, as reported.

Still, some of Michaels 3Q earnings issues can’t be blamed on sector dynamics, sources noted. The company acknowledged poor marketing execution as well as poor seasonal transition and a lack of newness in underperforming categories.

To offset the expected decline of roughly 100bps in margins, the company plans to personalize customer messaging and websites along with e-commerce growth, among other strategies.

So far during 4Q, the company has launched an e-commerce website in Canada, including the first phase of a personalized website in which each customer sees a different website configuration based on their spending history.

“The personalization is big for them and plus e-commerce in Canada, it’s about time,” one of the sources said.

The company also expects the AC Moore liquidation to add inventory and pricing pressure to the sector, contributing to the lowered guidance for 2019.

Michaels reduced guidance for the year for comp store sales to be down 2%, compared to previous expectations of flat comp store sales in 2019. The company also expects comp store sales to decline 2%-3% in 4Q19.

Net sales for 2019 are now expected to total USD 5.06bn-5.08bn from guidance of USD 5.16bn-5.19bn last quarter.

The company has plans to acquire 40 AC Moore stores for USD 58m and reopen select stores under the Michaels name in 2020 to rightsize some of the pressures from the liquidation. Michaels also plans to lease a distribution center in New Jersey, increasing its reach in the northeast US market.

Michaels did not respond to a request for comment.

2019 Debtwire

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