Activists Turn Up the Heat - But Can They Save Circuit City?

by: Markham Lee April 04, 2008 | about stocks: CCTYQ.PK    
Markham Lee

Markham Lee

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Activist investors are turning up the heat on Phil Schoonover and company, noting that Circuit City's (CC) management is touting a $200 million cost initiative as a success even though it cost the company $500 million in gross profits.

From the WSJ:

Calling Circuit City Stores Inc.'s turnaround efforts "disastrous," Wattles Capital Management LLC sent a letter to the retailer's board reiterating its desire that Chairman and Chief Executive Philip Schoonover be ousted.

The move is a sign the proxy battle between the shareholder group -- which holds a 6.5% stake in Circuit City -- and the consumer-electronics giant is heating up. Wattles already has nominated a slate of five directors for election at the annual meeting…

…Wattles said Mr. Schoonover and his senior management team appear to have focused on cost-cutting measures with little or no consideration for their negative impact on revenue and gross profit, referring to the company's year-ago layoff of 3,400 workers. To much criticism, Circuit City replaced them with lower-paid staff.

Wattles said the company "has repeatedly touted the fact that they have cut $200 million of annualized selling, general and administrative expenses while ignoring the fact that approximately $500 million of gross profit has been wiped-out in the process."

When I consider the short-sightedness involved in over focusing on short-term cost cutting to the detriment of medium to long term profits, the obvious disconnect with the consumer and inability to make money in a hot market, I can’t see this company surviving without a change in management.

The most glaring indictment of CC’s management team was that they were originally brought in to turnaround a struggling company, and done nothing more but to make things worse. A new management team would have to effectively “catch-up” by bringing Circuit City back to the point it was at prior to Mr. Schoonover’s tenure, and then start to fix the company’s original problems.

The fact that activists have to get involved in order to effect a management change is kind of ridiculous when you consider the company’s performance as of late; Circuit City was actually making money before the so called “turn around” process started. Why is the board sitting silently by while the company is run into the ground?

If Phil is given the sack and a new management team is installed, I wouldn’t be surprised to see a quick upsurge in the company’s stock. However, I’m not sure the surge would be sustainable, as it’s unknown (at this point) if an effective management team will be installed that not only understands CC’s problems but can develop effective solutions for them. Ousting the current management team is just the tip of the iceberg; the real challenge will be selecting a management team that is up to the task of saving Circuit City.

The million dollar question is whether or not Circuit City turnaround 2.0 will fare better than the current one, as the new managers will have a tougher job ahead of them did Mr. Schoonover and company did.

Sources:

The Wall St. Journal: “Circuit City Critic Stirs It Up” – Donna Kardos, April 3, 2008.

Disclosure: at the time of publishing the author didn’t own a position in Circuit City.

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This article has 5 comments:

  •  
    Apr 04 10:08 AM
    CC can't be saved. Mass merchants are taking over aggressively, as they did to knock out Toys R'US. BBY is even struggling. My company sells software and audiobooks at $1.99 and $3.99--over 90% are handled by grocery, drug, and dollar (about 75,000 stores v. less than 2000 for BBY and CC). Gamestop did it right: dump everything but games; be small and Mall based. And they are really big in used game, a huge profit center for them. Then, of course, you have digital downloads--our fastest growing markets with software at digitalriver.com and their affiliates (which includes BBY) and audible.com, recently scooped up by Amazon, for audiobooks (audible.com is larger than Barnes & Noble, #2).
    Reply | Link to Comment
  •  
    Apr 04 10:23 AM
    Wattles ran Hollywood Video into the ground and then lucked out by dumping the chain onto Movie Gallery who promptly went bankrupt.

    If Wattles is successful in ousting the CC CEO, I will short the hell out of the stock. Wattles doesn't know how to operate a retail chain and his ego knows no bounds.
    Reply | Link to Comment
  •  
    Apr 04 10:58 AM
    The writer must be a finance guy, because he misses the real point, which is: Can Circuit City be turned around by ANYONE ? They have a 2:1 volume disadvantage per store, which if you understand retail means they have about a 10:1 operating profit disadvantage... in other words, Best Buy can out price them, out inventory them, out-advertise them, out-locate them, etc. as necessary....and then they have Wal-Mart to worry about at the low end. Someone who understands retail economics and competition might ask: has ANYONE ever brought a discount retailer back from a competitive position like this? I don't think there's a single example Phil Schoonover may or may not be the best captain of this ship, but the
    real question is can anybody save it ? And if not, what's the best path for shareholders and employees going forward ? Most likely, it's sale to a buyer who can leverage Circuit City's best assets: Internet, service, and real estate. Maybe Radio Shack.

    But a third rate failed retail con man like Wattles will add nothing.
    Reply | Link to Comment
  •  
    Apr 04 12:09 PM
    Circuit City is doomed!! I used to work a low level job in Circuit City's corporate office in Richmond briefly for about 3 months in the last quarter of 2007. I have seen some ignorant management in my time at other firms and agencies, but Circuit City is truly run by people who have little clue as to what to do. Even my immediate supervisors did not know what to do when posed with simple questions that a two year chimpanzee could figure out in a at least a couple of days. My immediate management had come into play with the "turnaround plan". In making discussion with employees who had been there for 20 or more years, they too stated that management was completely oblivious to company and customer needs. Truthfully Circuit City is no different than the morons who run this nation. Just like our national leaders they have little insight into what goes on in the "real" world and have been exalted to very high positions of power to work out problems. Hard to work out a problem when you are the problem!

    Clearly a change of management with a sense of committment to turning the ship around would be a positive, but is it enough? I think they have run the galleon aground. Unfortunately Best Buy and Walmart are lobbing shots over the bow while she rests aground. Skull and cross bones, skull and cross bones I see.
    Reply | Link to Comment
  •  
    Apr 04 12:16 PM
    Oh yeah. There is clearly a struggle between corporate management and store management. Neither one of them wants to deal with the other. The communication and policies, or lack of policies within Circuit City is appalling. I would come home in amazement as to how a business run so poorly could remain in business this long in amazing. Knowing what happens at Circuit City corporate headquaters all day long clearly shows me that any half-wit could keep a business running, it takes a true incompetent to run it into the ground and Circuit has a bunch of these.
    Reply | Link to Comment
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