Kmart
From Invertopedia, the encyclopedia of how things fail
Kmart was once the envy of American retailing, but by the 1980s Walmart had taken over and Kmart could match neither its prices nor Target's merchandise[1]. It tried to fight Walmart on price anyway[7]. An $850 million inventory overbuy built up, and it quietly slowed payments to suppliers until many stopped shipping, according to the SEC[4]. On January 22, 2002, it filed the largest bankruptcy by a US retailer up to then, with just over $17 billion in assets[1][3].
Contents
The bet
Chuck Conaway became chief executive in May 2000 and set out to make Kmart more efficient, closing weak stores and bringing back the BlueLight Special[3]. The bet was that Kmart, still pulling in about $37 billion a year in sales, could win shoppers back by competing directly with Walmart on price[7].
In January 2002 an analyst at Banc of America Securities summed up how that had gone: Kmart had tried to go head to head with Walmart on pricing, and "They will kill you every time"[7].
What happened
| 1899 | Sebastian S. Kresge founds the company that becomes Kmart.[1] |
|---|---|
| 1962 | The first Kmart discount store opens in Garden City, Michigan. In its growth years the chain adds 100 to 200 stores a year.[1] |
| Early 1990s | Walmart passes Kmart. By the mid-1990s Kmart is near collapse, losing heavily and closing stores.[3] |
| May 2000 | Chuck Conaway becomes CEO.[3] |
| 2001 | A Kmart officer makes a reckless purchase of $850 million of excess inventory, according to the SEC. To cover the cash shortfall, Kmart slows payments to suppliers, in effect borrowing $570 million from them by the end of the third quarter.[4] |
| Jan 2002 | Kmart says it is up to date on vendor payments. Standard & Poor's cuts its debt to junk, days after Moody's.[7] |
| Jan 22, 2002 | Its main food supplier, Fleming, cuts off shipments over $78 million owed. Kmart files for Chapter 11.[3] |
| Dec 2002 | After 84 years on the New York Stock Exchange, Kmart's shares are delisted and move to the Pink Sheets.[1] |
| May 2003 | Kmart leaves bankruptcy with about 600 fewer stores. Edward Lampert's ESL Investments turns $2 billion of claims into a 49% stake, and the old shares become worthless.[2][5] |
| Jun 1, 2009 | A jury returns a verdict in the SEC's favor on all charges against former CEO Conaway.[8] |
The kill shot
Kmart picked a price war with a rival that had lower costs, then, the SEC alleged, hid the damage. When a huge inventory overbuy ate its cash, it paid for it by stretching its suppliers, and once they stopped shipping, the end came in weeks.
According to the SEC, the inventory pile-up in 2001 came largely from one officer's "reckless and unilateral" purchase of $850 million of excess goods[4]. Kmart's own disclosure blamed "seasonal inventory fluctuations" instead[4]. To keep going, it slowed payments to vendors, in effect borrowing $570 million from them, and its CEO and CFO lied about why the bills were late, the SEC alleged[4].
In January 2002 Kmart said it was up to date with its vendor payments[7]. Within days, Fleming, its main food supplier, cut it off over $78 million in unpaid bills, and Kmart filed[3]. Retail analysts later traced Kmart's problems in part to "seat-of-the-pants management"[5].
Red flags ignored
- Fighting the strongest rival on its own terms. Kmart tried to match Walmart on price, which an analyst said kills you "every time."[7]
- Inventory nobody asked for. One officer bought $850 million of excess inventory.[4]
- Suppliers as a bank. Slowing vendor payments amounted to borrowing $570 million from them.[4]
- Too many hands on purchasing. 220 employees could give final approval to orders. After bankruptcy, the number was cut to 15.[2]
- Losses before the fall. Kmart lost $344 million in the first nine months of 2001.[7]
The cost
Kmart lost $3.22 billion in fiscal 2002[5]. It closed about 600 of its 2,114 stores[2] and shed more than 60,000 employees[5]. Its old shares, already pushed off the New York Stock Exchange[1], were made worthless when new stock was issued[5].
Conaway was ordered in 2010 to pay $5.5 million, $3 million of it from a retention loan Kmart had paid him, after the jury verdict[8]. The former chief financial officer, McDonald, was charged alongside him[4].
The inversion
Do not start a price war against a rival with lower costs than yours. And when cash runs short, tell investors and suppliers the truth; using your suppliers as a hidden lender only works until the first one stops shipping.
What survived
Kmart came out of bankruptcy in May 2003 under Edward Lampert's ESL Investments[2], and a few years later Lampert combined it with Sears, promising to restore both[6]. The 2008 recession and Amazon got in the way, Sears filed for Chapter 11 in 2018, and Transformco bought the assets of Sears and Kmart in 2019[6]. Kmart, which once had more than 2,000 US stores, was set to close its last full-size store in the mainland United States, in Bridgehampton, New York, on October 20, 2024[6].
References
- ^ “Bankrupt Kmart's shares move to Pink Sheets”. Tribune News Services via Chicago Tribune, December 20, 2002. The founding, the first Kmart store and 1970s growth, Walmart taking over in the 1980s, the record retail bankruptcy and the NYSE delisting.
- ^ “Kmart ends 15 months of bankruptcy protection”. Associated Press via Lawrence Journal-World, May 7, 2003. The emergence, the 2,114 stores at filing and about 1,500 after, ESL's 49% stake, and order approvals cut from 220 people to 15.
- ^ “Kmart files for Chapter 11 bankruptcy protection”. WIS-TV, January 22, 2002. The January 22, 2002 filing, Fleming's cut-off, assets of just over $17 billion, Conaway's start and changes, Walmart passing Kmart, and the employee count.
- ^ “SEC Charges Kmart's Former CEO and CFO with Financial Fraud (Litigation Release No. 19344)”. U.S. Securities and Exchange Commission, August 23, 2005. The SEC's allegations: the $850 million inventory overbuy, the misleading disclosure, the $570 million effectively borrowed from vendors, vendors stopping shipments, and the January 22, 2002 filing.
- ^ “Chapter 11 in rearview for leaner Kmart”. Associated Press via The Washington Times, May 8, 2003. The $3.22 billion fiscal 2002 loss, the 60,000 jobs shed, the old shares made worthless and analysts' view of the management.
- ^ “Kmart is closing its last full-scale US store”. Associated Press, 2024. The Sears combination under Lampert, Sears's 2018 bankruptcy, Transformco's 2019 purchase, the peak store count and the last full-scale mainland store closing.
- ^ “Kmart board meets”. CNN/Money, January 15, 2002. The price war with Walmart and the analyst's warning, the $344 million nine-month loss, Kmart saying it was current with vendors, the junk downgrades, and the sales and store figures.
- ^ “Former CEO Of Kmart Ordered to Pay $5.5 Million (Litigation Release No. 21745)”. U.S. Securities and Exchange Commission, November 17, 2010. The June 1, 2009 jury verdict and the November 15, 2010 amended judgment ordering Conaway to pay $5.5 million.