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Tottering Toys R Us Triggers Tremors Well Beyond the UK and US

With Toys R Us in trouble on both sides of the Atlantic, what does this signify for the toy sector in general and for UK retailers in particular? John Baulch, Publisher of Toy World, charts the seismic shifts that are already underway.

Photo: Have the wheels come off for Toys R Us, one of the world’s leading toy retailers? (Shutterstock.com)
Have the wheels come off for Toys R Us, one of the world's leading toy retailers?
Photo: Have the wheels come off for Toys R Us, one of the world’s leading toy retailers? (Shutterstock.com)
Have the wheels come off for Toys R Us, one of the world's leading toy retailers?

It is no exaggeration to say that the global toy industry was shaken to its very core in September when the US division of Toys R Us filed for bankruptcy protection. At the time, the retailer stated that its European and Asian operations would remain unaffected. In truth, though, many feared that the US decision would soon have repercussions on the other side of the Atlantic, fears that were more than borne out when Toys R Us UK instigated a CVA (Company Voluntary Arrangement) earlier this month.

While the move places about 800 jobs – a quarter of the UK workforce – at risk, Toys R Us has confirmed that there will be no substantive changes over the crucial Christmas period. The early months of 2018, however, are certain to see a significant restructuring of the retailer's UK operation, a development that will have a significant impact on the whole of the UK toy market.

So, what do we know to date? Well, Toys R Us has said that the CVA will not only involve comprehensive operational changes, but also fundamental financial restructuring, especially with regard to what it refers to as "onerous rent agreements". To be fair, the leases on a number of its sites were taken out on a 99-year basis in the 1980s and 90s, a time when things were very different.

We also know that the CVA proposal was distributed to creditors on 4 December. They will now get to vote on it on 21 December, with a minimum of 75% support required for the procedure to move to the next level.

According to the retailer, the CVA will allow it to transform itself into a business that is better aligned with current customer expectations. While such an objective is hard to take issue with, what will that mean exactly once it's put into practice?

Well, it is the company's larger, warehouse-sized stores that have been singled out as the primary drag on its finances, while its smaller, more interactive stores are, apparently, far more popular with consumers. You don't have to be a genius, then, to realise that the larger stores are the most imminently vulnerable.

Indeed, it has already been confirmed that a minimum of 26 stores will close, with redundancy notices – dated as early as 1 March 2018 – having already been issued to staff in certain locations. Toys R Us, then, is clearly not hanging around, with most of the closures expected in spring next year or, at the very latest, by the summer.

It is also known that 29 stores have been designated as profitable, with the expectation being that they will survive unscathed. That, though, is hugely dependent on the goodwill of the landlords in question, many of which are being urged to accept a maximum of 80 pence in the pound (and, in some cases, far less) in settlement for outstanding rent arrears.

Not only will this rankle with many landlords, but the issue is also further complicated by the fact that Toys R Us has already conceded that these particular sites are actually profitable. If a 'struggling' retailer can make a profit from these sites, then many might be forgiven for assuming that a successful one could fare better still. There is a possibility that these more sought-after sites could become subject to a bidding war – a war that Toys R Us might not automatically win simply because it is the incumbent.

On top of that, a further 21 pop-up stores do not come within the CVA's remit at all. That means there are about 50 stores whose fate will depend on the outcome of the negotiations now under way with landlords, many of which are being asked to reduce rents, agree to downsize the stores or, in some cases, to accept a combination of both measures. The alternative, though, is grim – administration and a settlement of 12.5 pence in the pound at best. Surely, then, approval for the CVA is pretty much a fait accompli?

Photo: B&M: The value store eying Toys R Us’ prime sites.
B&M: The value store eying Toys R Us' prime sites.
Photo: B&M: The value store eying Toys R Us’ prime sites.
B&M: The value store eying Toys R Us' prime sites.
Photo: Bunnings: Looking to set up on former toy shop lots.
Bunnings: Looking to set up on former toy shop lots.
Photo: Bunnings: Looking to set up on former toy shop lots.
Bunnings: Looking to set up on former toy shop lots.

Well, perhaps, although the final store estate picture may turn out to be far more complicated than the initial assessment suggests. In all likelihood, while some landlords will acquiesce, others will be far less amenable. That choice will ultimately be down to what other options are on offer.

In the case of the profitable stores, if there are tenants keen to move in and willing to pay a higher price – with the Bunning's DIY chain and the value retailer B&M both linked to just such a move – then landlords may feel that waving goodbye to Toys R Us is in their own best long-term interests.

A downsize, after all, can cost a landlord up to £1 million, a far from attractive prospect, particularly if new tenants are willing and able to pay the current rent. It is more than likely that some landlords may exercise their 45-day notice option if they can see a better deal on the horizon.

Amidst all this, however, toy suppliers across the world have been left waiting nervously. There is, though, at least one piece of good news on that particular front in the form of a statement issued on behalf of Toys R Us: "We can confirm that all monies owed to suppliers will be paid in full. The only parties that are compromised under the terms of the CVA process are the landlords."

Despite this particular reassurance, the situation is far from being resolved. Many Toys R Us buyers, for instance, are reportedly in something of limbo, not likely to know whether they are being retained until after the 21 December creditors meeting.

Photo: Toys R Us: Home to children’s dreams and boardroom nightmares.
Toys R Us: Home to children's dreams and boardroom nightmares.
Photo: Toys R Us: Home to children’s dreams and boardroom nightmares.
Toys R Us: Home to children's dreams and boardroom nightmares.

Already there are rumours that the retailer may downsize its head office operation, as well as its warehousing requirement – possibly even outsourcing the latter. There are also suggestions that the company's problems have spread to its European operations, with many of the continent's banks said to be reluctant to support the chain.

At present, though, the company is only conceding that its US and UK operations are in need of life support. For many, however, it seems all but certain that the group's other international subsidiaries are also set to falter.

Photo: Baulch: “Smaller, more interactive”.
Baulch: “Smaller, more interactive”.
Photo: Baulch: “Smaller, more interactive”.
Baulch: “Smaller, more interactive”.

In a perhaps significant detail, the CVA document makes is clear that the restructuring consultants were first approached by Toys R Us US back in July, although the move wasn't made public until much later – a fact to which the substantial debts racked up with a number of toy manufacturers over the intervening six months will clearly testify.

It has also emerged that the pension deficit of the company's UK operation is at least £17 million, while that same division has paid more than £670 million to the US parent company in the past 18 months. The US$21 million in bonuses secured by the US management team has also done little to excite sympathy. With that bonus now authorised by the US courts, the subsequent ill-feeling will not help Toys R Us, particularly at a time when it needs all the support it can get from suppliers.

At the end of the day, though, no one in the UK toy community wants to see Toys R Us fail – even its competitors are well aware of the damage its demise would do to the market overall. Not only would it result in a substantial volume of toys being sold at clearance prices, but it would also make credit insurers very wary of the whole toy retail channel.

Even before this latest blow, it had not been a vintage year for the UK retail market and, should Toys R Us go under, it will be the country's largest retail casualty since Woolworths vanished from high streets in early 2009. Understandably, then, many are hoping that the CVA proves acceptable, paving the way for the company to turn its fortunes around and emerge a leaner and fitter concern. As to whether this particular Christmas wish will be granted, we may still be waiting long after 25 December to find out for sure.

John Baulch is the Publisher of Toy World,
the UK's leading toys and games trade publication

Content provided by Picture: HKTDC Research
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