On this Market Foolery podcast, host Chris Hill is joined by Motley Fool Hidden Gems' Abi Malin to comb through some interesting business news.
First, venerable toy store giant Toys'R'Us filed for Chapter 11, which anyone could have seen coming; Nike (NYSE:NKE) and Under Armour (NYSE:UA) (NYSE:UAA) have been hit bit analyst downgrades at a time when Adidas has surged back into the No. 2 spot in sneaker-dom, which even a few years ago nobody saw coming; and finally, GM's (NYSE:GM) president recently sold a big chunk of shares, which is naturally causing some investors to wonder if they should too.
A full transcript follows the video.
This video was recorded on Sept. 19, 2017.
Chris Hill: It's Tuesday, September 19th. Welcome to Market Foolery. I'm Chris Hill. Joining me in the studio today, from Hidden Gems, Abi Malin. Thanks for being here!
Abi Malin: Thanks for having me!
Hill: We're going to dip into The Fool mailbag. We have a bunch of things to get to, which is always good considering that it's not earnings season. But we have to start with the big news of the day, and that is the fact that Toys'R'Us, which is the largest toy chain in the United States, has filed for chapter 11 bankruptcy protection. We were talking about this earlier this morning, not a surprise.
Malin: Not a surprise in the slightest. More than 20 retailers have already filed for bankruptcy since the beginning of 2017, and I think this is sort of a sign of the times, honestly.
Hill: It is a sign of the times, and I get that, but part of me, and maybe this is my age, is a little amazed/impressed that Toys'R'Us has made it this long, that they have survived to this point for this long.
Malin: Yeah, I would agree with that. I think previously, they were thought of as this category killer, because they had this huge specialty store with low prices, and they squeezed those independent shops. But now we're seeing the flip side with the Amazons, Wal-Marts, Targets squeezing Toys'R'Us. And I think they also had a pretty wide selection with the depth of products, so they were thought of as the last place to get the hot toy right before Christmas, that was sort of an advantage for them. And they also had a pretty good track record of identifying hits on toys well before their arrivals. So it was a combination of things, but we've seen that deteriorate over time.
Hill: And they have fended off competition in the past. Primarily what I'm thinking of is in the late nineties with the dot com explosion, there was a company called eToys, which was essentially the Amazon for toys, because back then, Amazon was really overwhelmingly books and music. And eToys comes in and people were like, oh my goodness. And eToys was one of those IPOs -- if eToys went public today and had the IPO that they had back then, we would just be scratching our heads. I think eToys went public at $20 and closed the opening day at something like $75. It was some insane valuation for eToys. And I'm not going to go through the history of eToys, but the way that ended up was Toys'R'Us ended up buying eToys for essentially a ham sandwich. So, where are we now in terms of where this business goes from here? The chairman and CEO was very quick to come out and put as positive a spin on this as you can when you're announcing bankruptcy protection, because we're heading into the holiday season. This really should be the great three to four months for this business, and he came out and said, "This is the beginning of a new era for us and I want to let everyone know we're going to still be open through this." I don't know, I have not hesitated in the past to go to Toys'R'Us when I've been in the neighborhood of one. I don't know, on a gut level, I look at this now and think, "I'm not sure I want to do this."
Malin: They were purchased for $6.6 billion in 2005 by KKR, Bain, and a real estate investment group called Vornado Realty Trust. They experienced growth for a couple of years. They actually filed for an IPO in 2010. And the finance situation weakened, so they pulled back from that. I think we've seen it with a lot of private equity deals that these companies are pretty leveraged, so they haven't had a ton of capital to reinvest and keep up with their competitors. So a lot of the critics have said that they're really slow to get into e-commerce and they've been slow to compete with Amazon and things like that. And I definitely agree. I think making a smaller store base, which is what they've talked about, keeping everything open through Christmas and then scaling back, makes sense. And I think another strategy they've been talking about is making a more experienced based store. So, having in-store play areas and stuff like that. If you look at successful retailers and brick-and-mortar stores today, you think, Ulta. So, borrowing from that sort of, trying products before you buy them, and having the mix of high and low. I think it could be positive for Toys'R'Us, but it's definitely going to be harder than it would have been had they done this 10 years ago.
Hill: Yeah. For every example of a private equity firm -- this is not a knock on the firm you mentioned, but I feel like any time there is a successful move by private equity, there are also moves like this, examples where you can point to and say, "Oh, maybe in hindsight, loading Toys'R'Us up with debt was not the best move here."
Malin: Right, definitely.
Hill: Our email address is email@example.com. From Mark Hubbard, listener #32 in the U.K., "Whenever you talk about Under Armour and Nike, you never seem to mention Adidas. With its new CEO and finger back on the fashion pulse, if Adidas is not the 800-pound gorilla in the room, it is definitely the 500-pound gorilla." First of all, I love that example. I love that Mark is saying, "Let's not classify all gorillas as 800 pounds. A 500-pound gorilla."
Malin: Still relevant.
Hill: Still relevant, still kind of terrifying, and timely, with today's story in the Washington Post about how Adidas is now No. 2 in the United States in sneaker sales, trailing only Nike.
Malin: Replacing the Jordan brand.
Hill: Yeah. And with the rise of Adidas, which, five years ago, Adidas seemed like it was in so much trouble. It just shows you how, to Mark's point, new leadership and a new strategy can turn things around. On the flip side, we've got both Nike and Under Armour this week getting downgrades from different analysts for different reasons. As we shift from toy retail to athletic apparel, what stands out to you among these three things? In terms of the rise of Adidas, the downgrade of Nike, which appears to be focused very much on their basketball line of products, and Under Armour's, which in some ways is a more dire downgrade?
Malin: Going into that basketball point a little bit, basketball footwear sales declined 20% this year, and this is the category's second year of decline. Nike declined in the mid-single digits with the Jordan brand, lost a third of their sales. Under Armour was down about half, but Adidas basketball has grown by more than 40%. I think part of this is product innovation, part of this is staying relevant. And I think a lot of this speaks to the fickleness of retail and consumers in general, and how quickly things can change. And I think if you look at the reactions on Twitter to this, a lot of people were saying, "We had no idea, we never would have seen this coming five years ago." And I think that's part of the challenge of investing in retail, honestly. Things can change really quickly.
Hill: And when you overlay with Nike the fact that, a year ago, they came out and said, "We're getting out of the golf business, we're shutting down our golf division completely because it's just not worth it to us," so therefore they're able to invest more in the real money makers, basketball.
Malin: They took away that diversification. Probably regretting it now.
Hill: Yeah. And again, if you just look at the two stocks over the past year or so, Nike is basically flat, Under Armour is down about 60%. Because of Nike's size, because of their longer track record of success, I think it's natural and probably correct to look at them and say, "OK, well, they're not in the same amount of trouble as Under Armour." By the same token, I am a little surprised by this second year in a row of a pretty substantial decline for basketball. They've done so well for so long. And they've got the stars. Can we talk about Under Armour for a second? That downgrade was ... was that Wells Fargo downgrading them?
Malin: Yeah, Wells Fargo, from a price target of $17 down to $13, which is pretty dramatic.
Hill: [laughs] As an Under Armour shareholder ...
Malin: Yeah, that one hurts.
Hill: It doesn't hurt any more than the previous 12 months have hurt. But, when I look at that one, that downgrade was not about one particular part of Under Armour's business. That was about this overall trend, and saying, "Look, we think we're going to see an overall decline in athletic footwear, athletic apparel." If that plays out for Under Armour, doesn't it stand to reason it plays out not just for Nike but for Lululemon Athletica (NASDAQ:LULU)?
Malin: I think there's a little bit of a difference in the brands. Lulu focuses more on women's wear than either of those two brands do. I think it's a little bit more fashion than athletic. People wear that out, around, to brunch, whatever you're doing. Whereas with Under Armour and Nike, they've been more primarily focused in that athletic space. But, it's definitely something to watch and consider, for sure.
Hill: So, when Under Armour and Nike saw what Lululemon was doing a couple of years ago, and the success that Lululemon had with, in particular, yoga pants, and they looked at that and said, "You know what we can make? We can make yoga pants too." And it was thought at the time by a number of people, including a bunch of people here at The Motley Fool, that this might be trouble for Lululemon because Nike and Under Armour have good brands, and if they can sell quality yoga pants for a third less the price, who's going to go pay $100 at Lululemon? Where do you see this landscape now?
Malin: I think it's a little bit different when you talk about those three companies in particular, in terms of their distribution cycles. Lulu focuses on their own stores primarily. They built a brand around that brick-and-mortar space, where I think Nike and Under Armour have a long history and a strong reliance on those third party distributors, which we've seen struggle in the past year with a lot of those store closures.
Hill: I was going to say, like Sports Authority going out of business?
Malin: Right, exactly. So, I think they're a little bit more exposed on that end, which is something to consider, for sure.
Hill: We'll close up on these. Nike, Under Armour, do you look at either of those stocks today and say, particularly in the case of Under Armour, this is a screaming buy right now? Or, as someone who studies this space, do you look at Under Armour and think, you know what, I want to see them put up a couple of good quarters before I look to buy shares of this company?
Malin: It's really dependent on your portfolio and what your exposure is and things like that. I definitely wouldn't sell Under Armour at this price. I think at this point, you might as well ride it out, because, yikes. [laughs]
Hill: That's my problem, [laughs] yeah, exactly. There are absolutely those moments where it's like, "Well, it's already fallen to this point, so what's a few dollars more?"
Hill: Our Twitter handle is @MarketFoolery. From @theroyalblue -- that's a much better Twitter handle than mine -- a question. "General Motors executive selling off shares. The auto market is in its cycle but GM is riding high. Should this be watched or worried?" I know the question is about General Motors, but we can broaden this. I think this person gets at a very relevant question that a lot of investors have, which is, I own shares of this company, or I'm thinking about buying shares of this company, and the latest headline I'm seeing is that the CEO or some high-ranking executive at that company is selling off shares -- should I be worried?
Malin: I think it's definitely something to watch. I think it's something to consider. But I would caution anyone from using this as your sole metric for buying and selling. There are a lot of reasons that people buy and sell shares. In this case, it's Dan Ammann, who's the president, not CEO, of GM who's been selling shares. He sold 32% of his shares on September 13th, but he still owns about 7.2 million of common stock in GM. So it's down from his previous 9.6 million, but I still feel well aligned with him with that holding, even though it's less than what he had before.
Hill: It's not a situation like the ongoing soap opera that is Equifax, where executives are selling shares and not disclosing the fact that they have yet another data breach.
Malin: Right, yeah. I don't feel that position change has caused enough concern in my head. But again, that's a personal judgement call.
Hill: That's interesting to note about the president. Knowing nothing about the executive being referred to in this question, my in-the-moment reaction was, there's a decent chance this is an automatic plan, in the same way that --
Malin: Right, your position size has grown too big for your portfolio.
Hill: Right. I always think of Bill Gates setting on autopilot, like clockwork, I don't know if it was once a quarter or whatever Bill Gates ended up doing with his Microsoft stock to be like, "I'm just going to set this on a schedule, and it's going to sell off when it sells off."
Malin: Yeah. I think in terms of not only that, but also his total comp for 2016, 45% of his comp came from stock options. He was obviously well paid, but you have to consider that people have colleges or vacations or homes or whatever they want to do. So, it's still a lot of money.
Hill: You're saying executives are people, too? With lives?
Malin: They are people, too. [laughs]
Hill: I think we'll end right there. Abi Malin, thanks for being here.
Malin: Thanks for having me.
Hill: As always, people on the program may have interests in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. That's going to do it for this edition of Market Foolery. The show is mixed by Dan Boyd. I'm Chris Hill. Thanks for listening! We'll see you tomorrow!
Abi Malin has no position in any of the stocks mentioned. Chris Hill owns shares of Amazon and Under Armour (C Shares). The Motley Fool owns shares of and recommends Amazon, Lululemon Athletica, Nike, Twitter, Ulta Beauty, Under Armour (A Shares), and Under Armour (C Shares). The Motley Fool recommends KKR. The Motley Fool has a disclosure policy.