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The City Revival Plan: Circuit City Analysis and Restructuring

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The City Revival Plan: Circuit City Analysis and Restructuring “The City Revival Plan” Circuit City Analysis and Restructuring December 14, 2007 Columbia Business School Turnaround Management Professor Laura Resnikoff Chester Han, Andrew Huml, Anand Kagalkar, Lena Saito, Kristy Sundjaja December 14, 2007 Circuit City Stores, Inc. Board of Directors 9950 Mayland Drive Richmond, Virginia Dear Members of the Board: We have completed our analysis of Circuit City Stores, Inc (“Circuit City”). The objective of our work was to document a detailed study of Circuit City’s industry, market share, financial structure, and market valuation, then define a comprehensive turnaround plan for sustained and profitable growth. As you have requested, we have not met with Management in the execution of our work. Therefore, we have made certain assumptions that we have stated throughout. In addition, with any turnaround plan, we expect minor changes to our strategy and approach throughout the plan’s implementation. The accompanying pages of our report include the following sections: • Executive Summary • Industry and Company Background • Our Recommended Turnaround Plan – “The City Revival Plan” This report is intended solely for the information and use of the Board of Directors and is not intended to be and should not be used by anyone other than this specified party. Circuit City’s external auditors and regulators may be provided with a copy of this report in connection with fulfilling their respective responsibilities. Yours truly, Turnaround Management Team Disclaimer: This analysis was developed as part of a graduate program assignment; all information used in connection with this analysis is publicly available in annual reports, company publications, and news media. This is a fictitious letter to the Board and for example purposes only; Circuit City’ Board or Management were not contacted and did not solicit this analysis. Table of Contents Executive Summary 1 1.1 Overview ................................................................................................................. 1 1.2 The City Revival Plan ............................................................................................ 1 1.3 Next Steps ............................................................................................................... 2 Industry Analysis 3 2.1 Consumer Electronics Market .............................................................................. 3 2.2 Competitive Landscape ......................................................................................... 3 2.3 New Competition .................................................................................................... 6 2.4 Existing Competition - Specialty Retailers .......................................................... 8 2.5 Industry Trends ..................................................................................................... 8 2.6 Industry Comparison Data ................................................................................. 10 Company Overview 13 3.1 Background .......................................................................................................... 13 3.2 Customers and Product Selection....................................................................... 13 3.3 Sourcing and Supply Chain ................................................................................ 14 3.4 Multi-Channel Sales Operations ........................................................................ 15 3.5 Remodeling Initiative........................................................................................... 16 3.6 Marketing ............................................................................................................. 17 3.7 Management Structure & Background ............................................................. 18 3.8 Company Initiatives ............................................................................................. 20 Financial Analysis 21 4.1 Financial Analysis / Stock Performance ............................................................ 21 4.2 Historic Operating Performance ........................................................................ 21 4.3 Capital Expenditures ........................................................................................... 26 4.4 Liquidity................................................................................................................ 26 4.5 Credit Rating ........................................................................................................ 28 4.6 Capital Structure ................................................................................................. 31 4.7 Valuation ............................................................................................................... 32 Table of Contents Restructuring Plan 37 5.1 Restructuring Overview ...................................................................................... 37 5.2 Management’s Approach .................................................................................... 37 5.3 Proposed Approach – “City Revival Plan” ....................................................... 39 A. Cost Reduction Plan ...................................................................................39 B. Expand Revenue Opportunities ................................................................43 C. Refocus Strategy .........................................................................................47 Appendix Appendix A – Table, Analysis, Models, Etc. ...................................................................... 54 Appendix B – Industry Detailed Analysis, Financial Measures ....................................... 66 Appendix C – Board of Director Composition .................................................................. 69 Executive Summary 1 Executive Summary 1.1 Overview Circuit City continues to falter in the computer and electronics retail industry – an industry that has grown 8-14% annually for the last five years (US). In two of the last four fiscal years, Circuit City was not even profitable. The company’s recent quarterly losses of $54.6 million (Q1 2008) and $62.8 million (Q2 2008) demonstrate the Quick Facts December 2007 continued downward trend. At the same time, Best Buy, Wal-Mart and Revenue: $ 12 billion Employees: 46,000 others are recording record sales in consumer electronics and continue US Stores: 650 (approx.) to erode Circuit City’s market share. Canada Stores: 800 (approx.) NYSE Ticker: “CC” What has Senior Management done to reverse this downward slide? - 52 Week High: $25 Low: $5 Consumer Electronics Retail we will argue not enough. While the company has a turnaround plan Headquarters: Richmond, in place, it lacks momentum, adequate execution and proper coverage Virginia, USA Founded: 1949 of the issues. Investors tend to agree, as Circuit City’s per share price www.circuitcity.com has fallen over 80% in the last two years. 1.2 The City Revival Plan We propose a multi-faceted turnaround plan that covers several aspects of Circuit City’s business. This “City Revival Plan” is organized into three distinct objectives: A. Cost Reduction Plan B. Expand Revenue Opportunities C. Refocus Strategy The following report details the analysis and formulation of these objectives, but in summary, each objective has implementation costs, expected revenue gains, and targeted cost savings. Related to Objective A, Circuit City’s Selling, General and Administration Expense (SG&A) ranks among the highest in the industry. There are several reasons for this, but most notably is the high number of employees per store and high relocation costs (due to poor store placement). To further reduce SG&A, it Executive Summary 2 will be necessary to reduce headcount per store, close 75 domestic and 60 international stores, reduce advertising spending proportionately, and minimize inventory carrying costs. In connection with Objective B, Circuit City is operating in a growing yet increasingly competitive market. Therefore, we have identified a number of revenue opportunities going forward, several of which the company is prepared to address. We anticipate that the Circuit City’s firedogSM service, with adequate investment, will grow revenues from $200 million in fiscal year 2007, to over $700 million by fiscal year 2010. Furthermore, by increasing the company’s sourcing and sales of private label brands, margins can be increased by 1% and an additional $1 billion in revenue can be generated by fiscal year 2010. After Circuit City restructures and stabilizes its operations, the company must expand globally and reduce their reliance on the US market. As part of Objective C, the company will expand to the consumer electronics markets that are projected to grow 15-20% annually (most notably China). Currently, Circuit City only has stores in North America, while Best Buy already has 10% of their retail space in China and is actively testing other countries. Circuit City does not have to be the first mover in emerging markets, but must start modest global expansion by 2010. Lastly, Circuit City must realign their compensation structure with the industry. In particular, Senior Management is over compensated in comparison to the much more successful Best Buy. To ensure the turnaround is understood and embraced by Management, compensation will be tied to the overall turnaround objectives. 1.3 Next Steps While Circuit City has been an underperformer as of late, it still owns a strong brand, several prominent
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