J. Crew Blues: The Bankrupt Retailer Looks to the Future 

With its Chapter 11 filing Monday, the retailer is set to get new owners and a slimmer profile.

 

Published May 5,2020

J. Crew Group ended on brand — classic with a twist. 

While the preppy mainstay’s bankruptcy on Monday fit neatly into a long-running theme that’s seen private equity firms hobble many of their retail properties with heavy debt loads and at-times inconsistent management, it also speaks clearly to just how hard fashion has been hit by the coronavirus shutdown. 

The company, which owns J. Crew and Madewell, projected social distancing store closures would cost it $900 million in sales this year — the equivalent of 35 percent of the $2.5 billion in revenues it logged in 2019. 

J. Crew’s bankruptcy is a big blow to retailing and a sign that, even with an emphatically preppy positioning and high-profile consumers like Meghan Markle and Michelle Obama, the market is only growing more unforgiving of missteps in either merchandising or financing. 

Over the past six weeks, the retailer scrambled with the rest of the industry to cut costs as revenues dried up. The active workforce shrank to 2,000 full-time employees, down from 4,000 full-time workers and 9,000 part-time associates across the U.S., Canada, the United Kingdom, China, Hong Kong, Vietnam and India. 

But it wasn’t enough with a $2 billion debt load bearing down and the plans to spin off Madewell in an initial public offering wrecked as the coronavirus shutdown tanked the stock market. 

“J. Crew’s bankruptcy will be the first in a wave of defaults among retailers with weak balance sheets,” predicted Raya Sokolyanska, vice president at debt watchdog Moody’s Investors Service. “The impact of coronavirus-related disruption will be felt very acutely within the apparel retail sector, which has already undergone significant challenges over the past several years and now needs to unload stale inventory to raise cash.”

Neiman Marcus Group, also backed by private equity, and J.C. Penney Co. Inc. are said to be preparing to file for bankruptcy, while many others dance along the edge of insolvency. 

Even with the consumer world just starting to tentatively open back up in the U.S. and elsewhere and the global economy so uncertain, there seems to be a future for J. Crew after bankruptcy.

While lenders were hoping to get paid when the company spun off Madewell, they are now set to step in as owners. 

TPG Capital and Leonard Green & Partners, which teamed with then-chief executive officer Millard “Mickey” Drexler to take the company private in 2011 after one of retail’s most successful IPOs five years prior, will see their equity canceled entirely in the bankruptcy. 

The company cut a deal with lenders holding about 71 percent of its term loan and about 78 percent of its IPCO Notes to convert $1.65 billion in debt into equity and positioning J. Crew and Madewell for what the group termed “long-term success.”

Madewell is set to remain part of J. Crew Group Inc., where Jan Singer will remain ceo. Libby Wadle will continue in her role as ceo of Madewell.

To carry on through the bankruptcy process, J. Crew secured $400 million in debtor-in-possession financing facility and committed exit financing provided by existing lenders Anchorage Capital Group, GSO Capital Partners and Davidson Kempner Capital Management, among others.

Together, they would get to appoint four out of seven directors to the board of the reorganized company, according to a governance proposal filed in the bankruptcy docket. 

“J. Crew and Madewell are two classic American brands with deeply loyal customers,” said Kevin Ulrich, ceo of Anchorage Capital Group. “We look forward to supporting Jan, Libby and the management team to recognize their full potential. The significant deleveraging contemplated by this agreement, coupled with J. Crew Group’s strategy to strengthen its robust e-commerce platform to drive continued growth in its direct-to-consumer segment, will position the company for future success.” 

The firm operates 181 of its namesake stores, 170 J. Crew Factory doors, and 140 Madewell locations, but is set to shrink even further in bankruptcy.   

All together it has leases with about 140 landlords and monthly rent of $23 million, with roughly 500 unexpired leases. 

Early last month the company, with the help of Hilco Real Estate, started “communicating with landlords in an effort to improve lease terms.”

“If certain accommodations with landlords are not achieved, the debtors likely will reject certain burdensome leases and close the related stores,” the retailer said in court papers. 

So the bankruptcy could ripple upstream to landlords as it also hits downstream partners, such as its more than 200 vendors. 

How the whole J. Crew ecosystem fares will depend on what happens next. 

It’s bankrupt and a victim of several self-inflicted wounds, but industry experts said Monday that J. Crew has enough brand equity and enough of a following to survive, with some heavy lifting.

The J. Crew business is buttressed by its still-growing Madewell sister brand, but there are concerns that Madewell too has lost the level of momentum seen in past seasons and needs repair work, including some novel fashion ideas.

Madewell, developed by the legendary Drexler — who left as ceo of the J. Crew Group in 2017 — has been losing steam since well before the outbreak of the COVID-19, sources close to the company told WWD. While Madewell reported positive comparable gains in 2019, the business didn’t show the kind of double-digit increases the brand had been racking up previously, quarter after quarter.

As companies grow, it becomes harder to achieve big gains on top of big gains, and while that may be the case at Madewell, sources also noted that the styles and looks that set the brand apart have become widely available and knocked off by competitors.

“Madewell epitomized the whole denim-centric look, peasant tops, festival tops to go with the jeans. Now that kind of a look can be found at a lot of different places. Madewell is no longer the only game in town because of that,” said Craig Johnson, president of Customer Growth Partners. “In our store  checks, we have been seeing some softening of demand at Madewell. It’s not seeing 22 or so percent growth anymore. They have tried to diversify their offerings with sweaters and non-denim bottoms. Those efforts have not been home runs. Singles and doubles but not a home run. But that is a curable issue. They need to bring in a little bit extra fashion, not just seeing one or two unit baskets. They need to add a third or fourth item to the basket.”

Another source familiar with the Madewell brand, said: “The essence of Madewell — it’s gone now and it didn’t take very long for it to happen. The clothes look cheaper and younger and there’s a different team there that seems to have a very different vision and point of view,” from when Drexler was running the J. Crew Group

Jane Hali, ceo of Jane Hali & Associates investment research, noted, “With J. Crew, the problems were self-inflicted. J. Crew wasn’t listening to the consumer. At a time when ath-leisure was hitting it out of the park, the company refused to go into that business. Retail is a business of pleasing the customer and giving them what they want, not what the company wants.

“There was a time I wanted everything in the store,” said Hali. “The business was so on target. That all changed. For one, you saw coats in Florida coming in very early for the longest time, which made no sense at all. We need buy-now, seasonless clothing.…Then Jenna Lyons [the former women’s creative director at J. Crew] brought quirky to a new level. The merchandise looked like costumes. With quirky, the prices also shot up and the customer refused to pay the prices. And the company wasn’t paying attention to the digital brands, such as Everlane — wearable clothes at good prices.”

However, with Madewell, she added, it’s laid-back style continues to sell, and the denim is “doing okay. What is really selling well is premium denim and Madewell denim, priced at $100 to $125, is on the low end of premium.”

Johnson added: “J. Crew’s problem was less that its execution of the prep-with-a-twist look was weak, but that organic demand for prep styles has plummeted over the past decade, from about 12 percent of the apparel market in 2010 to barely 7 percent today. Over the years almost all the stuff you could buy at J. Crew you could buy somewhere else online. To the extent that shoppers stayed in the prep lane, they graduated from arch-rivals like Crew and Banana to newer and hotter prep brands such as Peter Millar, J.McLaughlin, Rodd & Gunn, Rhone, Faherty, Rails, etc. Even if J. Crew shoppers haven’t exited the prep look altogether, their share-of-wardrobe has migrated to other styles, whether ath-leisure like Lululemon or, ironically, to denim-centric venues such as sibling Madewell,” which he suggested being situated in close proximity to J. Crew stores in malls, to some extent cannibalized J. Crew sales.

Johnson said he doesn’t think the merchandise issues are “showstoppers” for J. Crew. “It has a lot of residual positive brand equity, and a shrinking but still loyal customer base. People like the name, and don’t feel it’s a place where they are getting ripped off,” compared with some higher-priced brands.

“To survive and thrive, J. Crew has to bring more newness to the assortment and reduce the overcapacity. From 180 to 190 stores, it needs to get to down to 140 to 150. It’s a niche brand, catering to the prep style.”  

Designer Todd Snyder, former senior vice president of men’s wear for the retailer, said: “They still have talent but they need to restore the shine and figure out the secret sauce. They need to shut half the stores and reboot a pared-down version of the catalogue to reacquire their customer.”

As Erik Gordon, a professor at the Ross School of Business at the University of Michigan, sees it, “The biggest problem wasn’t debt or that they missed on a fashion season or two. It’s actually that the brand used to stand for something that was desirable to wear. But now young people want to spend their money with companies that are on the right side of things. They want to be identified with companies that are affirmatively on the right side of things, and are cynical about companies that try to use causes as a marketing tool and skeptical about companies that get on the right side of things late. If J. Crew announced tomorrow that they are only using sustainable cotton and every garment sewn comes from a shop paying reasonable wages, I don’t think it will come across as authentic or move the needle much for them because that was something they could have done two years ago, if not five years ago. It is not easy to reposition your brand from being identified with preppy privilege to being seen as inclusive and concerned about social issues. The harder you try, the phonier you look.”

Asked if the J. Crew brand still has a future, Gordon replied, “So you keep restructuring your debt, close more stores, and fire executives, and that all gives you more time to go right down the drain. But J. Crew does have cache among a small and growing smaller group. Someone could buy the brand, and it could survive as an online retailer that reaches people,” though he added that the intention with the bankruptcy appears to be to try to maintain the multichannel character of the business.

 

As the company begins its forced evolution, it is trying to make the most of the tools available to it in bankruptcy.   

For instance, the filing allows it to make decisions with the support of the majority of creditors, which, outside of bankruptcy court, would take unanimous support. Such is the case with canceling existing equity interests, which in out-of-court negotiations would need full consent of all creditors. But in bankruptcy, it takes two-thirds  of the amount of claims, and more than half of the number of creditors to get on board. 

“That’s why you file for bankruptcy — you go into bankruptcy, negotiate an agreement that gets you down to a level of debt that’s manageable,” said Jared Ellias, professor at the  University of California, Hastings College of the Law, in San Francisco. “When  you leave with much less debt, all of a sudden that opens up new opportunities for the business.”

Still, hitting that critical two-thirds threshold of support shows creditors’ support in J. Crew’s vision for the future, Ellias said. Considering also that its existing lenders have put forward $400 million debtor-in-financing, which will go toward sustaining its operations while in bankruptcy. 

“The question is, what do creditors want to own at the end of the bankruptcy?” he said. “Is it the business? Is it the proceeds out of selling its inventory? Here, the indications are that creditors are excited about owning this business —  it’s a vote of confidence in J. Crew and its future.”

J. Crew’s plan for its future footprint will likely become clearer in the coming days, and its appearance in its first-day hearing scheduled for Tuesday morning may offer more detail. So far, the retailer has taken a now familiar route during the COVID-19 crisis, and asked for a 60-day deferral of its rent obligations, saying in a filing that paying its monthly lease obligations “is not prudent or in the best interest of the debtors’ estates and creditors” while stores are closed during the pandemic. 

The retailer’s ultimate plans for Madewell may also come into focus.  

“Looking at the bankruptcy landscape right now, I don’t think the valuations look all that attractive,” said Robert Rasmussen, professor at the University of California, Hastings College of the Law, in San Francisco. 

“They may hold onto Madewell, hoping the economy recovers, and then they can decide,” he said. “Right now, it is their most valuable asset and you don’t want to sell your most valuable asset in a depressed market.”

J. Crew expects its restructuring plan to materialize quickly — in a declaration filed Monday, the company indicated it envisions the plan being confirmed within the next four months. 

In order for a reorganization  plan to be approved, a company has to show that it is more likely than not to stay out of bankruptcy going forward. Large employers like J. Crew may be better positioned to convince a judge to approve a plan when so many jobs are on the line, experts said. 

“It’s  a fast timeline, but it’s a reasonable timeline given the agreements that they have in place,” said Rasmussen.

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