The pandemic fueled a recontouring of the landscape of virtually every sector remotely related to retail, from manufacturing to logistics, and, as a result, a significant number of consumer-focused companies started or went through bankruptcy in 2020. According to S&P Global Market Intelligence, 160 struggling retailers filed for some kind of bankruptcy relief.
It’s an impressive number, to be sure, but the fact that these companies have asked for bankruptcy protection during the pandemic doesn’t necessarily mean they’re seeking relief related to the pandemic itself. That should be a great relief to many who already have these companies among their portfolio holdings.
Fitch Ratings found that many of these bankruptcies were at least partially strategic, giving retailers some breathing room during a time that was already trying for the wider economy. Even so, according to its recently released case study, close to half of retail and supermarket bankruptcies were liquidations, rather than reorganizations.
Retail liquidations and reorganizations
Like consumer bankruptcies, there are two main tiers of bankruptcies for retailers: Chapter 7 and Chapter 11. Under Chapter 7, the entirety of debts are discharged, and, in general, assets are also liquidated. This leaves very little for the company to either sell off to other potential corporate suitors, or to restart operations with. It’s pretty bad news, all and all, for a company, and often spells the end of all things.
Given the many dire forecasts for retail in 2020, it would be easy to assume that the bulk of retail bankruptcies were of this type. After all, between cities and states shutting down for various periods of time and potential shoppers refusing to enter individual shops due to COVID-19 related insecurities, the leap that slumping foot traffic kicked off a deadly downward spiral is not a far one.
But, that’s not the case at all. Approximately half of these bankruptcies were, instead, reorganizational, which is a whole different situation. The rare company may attempt to fall on its sword by filing for a reorganizational bankruptcy when rightfully, it should simply liquidate, but for the most part, these Chapter 11 bankruptcies are like financial reset buttons.
Unlike Chapter 7, which is a sign of defaults that are either in process or on the immediate horizon, Chapter 11 happens when a company can see trouble coming or at least sees an opportunity to better rearrange debt to create smoother sailing long term. Companies that file for Chapter 11 fully intend to continue operations in one form or another. They simply do it with less debt, which can improve bottom lines.
The Millionacres bottom line: The retail sector is setting itself up for a comeback
Bankruptcy is a dirty word for a lot of investors. The last thing you want in your commercial real estate rental portfolio or REIT is a company on the verge of, or just through, bankruptcy. That company may be in its death throes, or worse, poised to default again. However, when the bankruptcy type you’re talking about is reorganizational, it’s far less alarming.
With all the changes that happened in retail in such a short span during 2020, it was practically expected that there would be fallout. Old business models had to be shown the door for companies to survive the rapid evolution of retail that took place in early-to-mid 2020. It also meant rapid investment in new technologies, hiring for positions that may have never existed before, and a future that was anything but clear.
This is the right combination to incentivize companies to take advantage of debt streamlining, rebalancing retail stores, and strategically moving money into areas that appeal to the shoppers of the shorter-term future. For example, today curbside is in, but the many tools that support this type of retail shopping had to be built from scratch and deployed without hesitation, no matter the cost.
Although retail is not at its best right now, there’s good reason to keep an eye on this segment as an investment vehicle. The companies that have taken advantage of the pandemic to reorganize their debts are on a path to make the remaining pandemic easier to swallow financially. They will also be the same ones that will come out the other side of it both intact and profitable. Some may even find expansion suits them in the post-pandemic economy, creating further opportunities for growth.