Avoiding Retail Bankruptcy: Overloaded with Debt, Retailers Must Focus on Cash Management and Cost Takeouts

Five best practices for retailers to manage cash, cut costs, and stay afloat as debt comes due

In late 2017, a Bloomberg headline read, “America’s ‘Retail Apocalypse’ Is Really Just Beginning.” The main culprit, the authors suggested, was the amount of high-yield debt on company balance sheets, which would balloon just as a record wall of debt across all industries came due.

Though the pandemic—and low interest rates—may have enabled refinancing opportunities for some, the respite was temporary, and the infamous maturity wall is at our doorstep. With interest rates still high, recent projections from Moody’s and Fitch indicate a significant rise in retail defaults.

“In a sharp reversal since the benign conditions of 2021, which lasted through September 2022, defaults have since spiked, driven by a dearth of debt financing, high interest rates, surging costs, declining discretionary goods spending and supply chain challenges,” Moody’s wrote last year. “Strong balance sheets are now even more essential.”

Unfortunately, many retailers can no longer rely on the benchmarks, expectations, and metrics they’ve used to assess their businesses in the past. Most, for instance, don’t have a rigorous cash-flow model, and few grasp Warren Buffet’s warning that EBITDA (earnings before interest, taxes, depreciation, and amortization) is not an accurate reflection of a company’s health—especially when it comes to debt payments.

So how can retailers avoid default in today’s volatile economy? Below we outline key strategies to keep top of mind.

Five Best Practices for Retailers

Timing is key: retailers should look for productivity improvements, cost-takeout opportunities, and cash-flow strategies at least six to nine months before facing real trouble. As they do, here are best practices to consider.

1. Build a stronger cash-flow model. As debt servicing adds strain on retailers, it’s more important than ever that they have a comprehensive, closely managed cash-flow model to understand the real implications of refinancing on their balance sheets. Most organizations simply rely on financial assumptions and forecasts rather than a cash-flow model built on true sources such as retail sales, customer fees, royalty streams, and uses like payroll, vendor payments, and rent. The model should factor in timing of cash in-flow/out-flow and reserve requirements where applicable.

2. Understand how to stretch your cash management cycle. With a proper cash-flow model in place, retailers can find smart ways to stretch their cash management cycles (i.e., understanding when you’re receiving cash and when you owe cash so that you can extend those timelines). On the payable side, this might involve negotiating new terms with suppliers to better align payables with receivables. On the receivable side, wholesalers may want to think about how they’re managing credit lines to their retail accounts. On the other hand, direct-to-consumer retailers may want to assess the amount of funds being held in reserves for noncash transaction solutions (e.g., credit cards, PayPal).

3. Think about the cash impact of inventory. Retailers must understand how quickly inventory is moving so they’re not paying for product that lingers on shelves. This requires digging into the details. For instance: What are your fast-going items? How can you rebalance your buys and measure inventory—both from a return perspective and with regard to how quickly it can be converted into cash?

   Segment performance by product types (i.e., your core products versus fringe offerings), as well as by stores and channels, then place bets on proven products and locations so that you don’t have inventory tied up in low-performing outlets. Mistakes will still happen, which is why it is critical to have end-of-life discipline and processes in place for exiting excess inventory in a timely manner.

   Companies without such discipline may struggle with proactively managing aged inventory. In many cases, this inventory may not be tracked diligently—and when companies do track it, assessments may not accurately reflect the inventory’s carrying costs, including cost of working capital. Hesitation to manage aged inventory may stem from potential impacts to the borrowing base for asset-based loans and/or the reporting of merchandise margins.

4. Reassess cost structures—and tie them to healthy margins. Now may be the time to undertake a thorough review of your cost structures, including general and administrative expenses, indirect spend, and costs of goods sold. When was the last time the company engaged in a competitive bidding process (for both direct and indirect spend)? Remember: exercises like this won’t lead to efficiencies if done in siloes; leaders across departments need to be involved.

5. Focus on operational improvements to fund growth, not borrowing. Even if they’re under financial pressure, retailers must make continual investments in their stores, products, and technology to stay competitive. But as long as interest rates remain high, operational improvements resulting in better productivity should be explored as a means to fund these investments and reduce the need for taking on more debt. When you do make investments, be sure to consider the impact on cash flow.

Money = Time, Time = Options

Bankruptcies continue to rattle the retail sector, and debts can’t be refinanced forever. The old ways of measuring the health of your business are also transforming. In today’s market, rigorous cash management is key.

Use the above strategies to understand where you’re at now, so that you have time and capital to make necessary adjustments before it’s too late. The closer you get to potential default, the fewer tools you’ll have in your arsenal to prevent it.