The Neiman Marcus Bankruptcy: Separating The Myths From The Realities.

As a former senior executive at the Neiman Marcus Group (though gone for more than a decade now) it certainly fills me with sadness to learn that the iconic luxury retailer filed for bankruptcy this morning. Though, as I wrote about nearly a year ago, this news is hardly surprising.

Another feeling I have is frustration, largely stemming from the false narratives and misinformation surrounding what this all means for the more than century old brand. Let’s first dispense with the easy stuff. No, a Chapter 11 bankruptcy is not the same as a liquidation. And, no, this doesn’t mean that merchandise deals will be any better than had they not filed. Any significant markdowns are the result of merchandise sell-through being whacked by the pandemic shutdown.

Now on to the bigger issues of what’s really going on and what it likely portends for the future.

Don’t blame COVID-19. The fact that pretty much all non-essential retail ground to a halt at the worse possible time for fashion and luxury brands contributed to the timing of the filing, but the company has been struggling under an unsustainable capital structure for years. Let’s be blunt: When Ares and the Canadian Pension Plan Investment Board acquired the company in 2013, they paid a stupidly high price and saddled the company with a crazy amount of debt. An eventual bankruptcy filing was nearly a foregone conclusion, short of a miracle happening.

Don’t blame the shift to online shopping either. While growing competition from the likes of Net-a-Porter, Farfetch, TheRealReal and many others, along with its own vendors’ dialing up of direct-to-consumer efforts, makes it difficult for Neiman’s to gain relative market share, luxury e-commerce remains largely Amazon

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proof. Moreover, Neiman’s began building out its online presence nearly 20 years ago and now does nearly one third of its business online. Said differently, they have more than held their own and the profitability of the channel is likely robust.

Department store woes have little to do with Neiman’s problems. It’s easy to throw Neiman Marcus into the mix of the well known, long-standing struggles of mall-based anchor stores. Easy, but mostly wrong. First of all Neiman Marcus’ sales productivity and operating profit margins have been far better than the Sears, JC Penney

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’s, Dillard’s

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and Macy’s

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of the world for a long, long time. Moreover, while the moderate department store sector has been shrinking for over two decades and closing many hundreds of stores, Neiman Marcus has largely been able to drive top-line growth (albeit very modestly) and has expanded its full-line store fleet during the same period.

Moreover, while the majority of Neiman’s stores are in regional malls—though several of the most productive are free-standing, e.g. Bergdorf Goodman, San Francisco, Beverly Hills—they are much more of a destination location and therefore less reliant on mall traffic than the typical anchor.

The core business is very mature, but quite profitable. One of things that made the $6 billion price tag so ridiculous was the maturity of Neiman’s core business. At the time of the acquisition it was becoming increasingly clear that there was little runway for profitable core business growth. Few, if any, new store openings were on the horizon, the e-commerce business was becoming well-penetrated (and increases were often coming from channel shift, not incremental sales), and efforts to attract younger customers had not gained much traction. A foray into off-price was poorly executed, if not misguided. The lever of continuing to raise prices to drive comparable store sales was hitting a wall. Competition (on many fronts) was becoming ever more intense.

Nevertheless, unlike many of the retailers that find themselves edging closer to the precipice, Neiman Marcus has a pretty good sense of their target consumers, a differentiated value proposition and have mostly executed well against it. Prior to the pandemic, their operating margins are well above industry average. There may not be much less gas left in the tank, but the engine still runs pretty darn well.

Significant store closings aren’t likely. Several media accounts have suggested that Neiman’s would file for bankruptcy to get out of “sky-high” rents. These stories were poorly researched. It is typical for mall anchor stores to not only pay comparatively little rent, but to get developer allowances to help offset the cost of constructing new stores. Accordingly, on average, occupancy costs are well below what national special stores chains experience. When combined with above average productivity—and understanding the role that brick & mortar stores play in driving digital sales (and vice versa)—it is likely that few stores are cash negative on a go forward basis.

It may be the case that, similar to what Nordstrom

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recently announced, given the near-term uncertainly about consumers willingness to shop in physical stores generally, and to spend on high priced non-essential items more particularly, Neiman’s will more aggressively prune stores to focus scarce capital and management attention on locations with the best long-term prospects. Either way, pursuing a Nordstrom Local-like strategy should be considered to retain (and grow) more customers from potentially vacated trade areas.

Strong headwinds exist and the U.S. has too much luxury store capacity chasing too little demand. While the pandemic’s persistence and possible resurgence makes the near-term outlook for all of retail highly uncertain, even in a more optimistic rebound situation it is still the case that traditional multi-line luxury department stores have too much physical space chasing too little spending. Saks Fifth Avenue and Neiman Marcus have many overlapping locations in the same exact malls, most of which also have luxury vendors operating their own brand specific stores. It’s highly unlikely that domestic luxury spending will rebound to 2019’s relatively tepid levels any time soon and high-spending international tourists aren’t likely to be back in full force either. To maximize sector profits aggressive consolidation needs to occur.

A merger with Saks Fifth Avenue may be inevitable. Given some of the points made above, I have found myself saying that in the future the US only needs 1.5 luxury department stores. In the very largest US cities it is probably true that both a Neiman Marcus (or Bergdorf Goodman) and Saks can co-exist and generate solid profitability. But there are other places where the two competing stores—particularly in this “new normal”—will be fighting over too small a luxury pie. Rationalizing a combined store portfolio would not only eliminate duplicative overhead costs, but taking one store out of a challenging trade area will allow the remaining store to earn an excellent return. There are plenty of complexities to this actually transpiring, but it seems increasingly likely that this would generate the best “profit pool” for the interested parties.

While many things can go awry in a bankruptcy proceedings, I expect Neiman Marcus to emerge from bankruptcy fairly quickly, as a smaller, leaner and more focused retailer with limited growth potential, but a solid ability to throw off more than enough cash to support a much more reasonable amount of leverage. Or at least that’s my hope.