TEXT-Fitch cuts Toys 'R' Us' IDR to 'B-'; outlook stable
Dec 20 - Fitch Ratings has downgraded the Issuer Default Ratings (IDR) for Toys 'R' Us, Inc. (Toys) and its various subsidiary entities to 'B-'. The Rating Outlook is Stable. A full list of rating actions follows at the end of this release.
The 'B-' IDR reflects Toys' weaker than expected comparable store sales (comps) performance year-to-date and the overhang of refinancing 2013 maturities, which Fitch had initially expected would be completed done by November. Fitch has concerns that the weak third quarter comps trend could continue in the critical holiday selling season and into 2013 and place pressure on margins. More than 40% of Toys' sales and over 70% of its EBITDA are typically generated in the fourth quarter.
TOP LINE DECELERATION
Toys' top-line sales are under increasing pressure with comps for the domestic and international segments at negative 2.8% and 4.7% in the first nine months of 2012, respectively, versus negative 1.7% and 2.7% for the full year 2011. The rate of decline has accelerated in each of the last three quarters, with comps declining 4.1% in its domestic business (60% of sales) and 4.6% in its international business in the third quarter.
Top line weakness is being primarily caused by continued weakness in the entertainment (approximately 13% of domestic and 12% of international sales) and juvenile categories (approximately 37% of domestic and 22% of international sales). Fitch expects the entertainment category which is going through structural changes will continue to face headwinds, while the juvenile category is being hurt by a decline in birth rates over the past few years. In addition, the overall toys category faces intensified pricing competition from discount and online retailers.
While Toys is the only remaining national brick-and-mortar specialty toy retailer in the U.S., it has muddled along against increasing competition from discounters and online retailers for the more commodity-type toy products. Toys' multi-channel strategy, coupled with recently implemented product and service initiatives including price match guarantee for the holidays, could potentially alleviate some top-line pressure. However, Fitch believes that it will be expensive and difficult for Toys to compete on pricing and retain its market share without sacrificing margins given its heavy cost structure. As a result, Fitch expects limited benefit from these initiatives on the company's top line and profitability in the near term.
Besides the sluggish domestic business, Fitch recognizes the challenging economic and capital market conditions in the major European markets (revenues generated between U.K. and Central Europe accounted for almost 17% of the consolidated revenue in 2011). This creates uncertainties in the refinancing process and could add pressure to operations going forward. Continued...