Hancock Fabrics at a crossroads

By Carlie Kollath/NEMS Daily Journal

TUPELO – Hancock Fabrics faces many challenges, according to analysts and the company.
The Baldwyn-based company last month reported it lost nearly $11.3 million in the most recent fiscal year. The fabric and craft retailer additionally had to cope with falling sales and self-admitted merchandise problems.
In the past year, it’s also hired a new CEO, ended contracts with four of its executives and hired a new management team. It spent $401,000 in severance costs and another $300,000 to cover relocation costs for its new CEO, Steve Morgan.
Hancock has more than doubled borrowing from its credit line. It hasn’t issued a dividend in the past six years, and last month, the company said it was indefinitely suspending dividends.
At least one research company is concerned about the future of Hancock Fabrics, which filed for bankruptcy protection in 2007 and emerged a year later.
New Constructs, a firm based in Brentwood, Tenn., last week released a “red flag” report for Hancock and labeled the company a “dangerous” investment.
New Constructs CEO David Trainer said Hancock fell into the “red flag” category because the valuation of its stock “looks really out of control.”
“It has to grow profits for 20 years compounded annually at 25 percent to justify its current stock price,” he said.
Rob Driskell, chief financial officer for Hancock, on Friday said in an emailed statement, “Due to the fact we are in a quiet period pending the release of our first quarter results, I will not comment on this one individual’s opinion on stock valuations other than to say that there are many different opinions and methodologies of valuations.”
Hancock was delisted from the New York Stock Exchange after it filed for bankruptcy. It now trades on the over-the-counter markets as HKFI.PK. Shares closed Friday at 85 cents.
Trainer said his company’s research also found that Hancock’s pension fund is underfunded by $38 million, and the company has $110 million in debt.
“You add these things up and you’ve got a company that’s in worse shape than you might think just going off the balance sheet and earnings,” he said. “When I look at this company, it just looks bad. I don’t know if they’ll ever generate the cash flow to pay their pensions.”
Driskell said the company’s pension liability, as of the end of its fiscal year, was $34.7 million and not $38 million. He said the plan’s funding status is directly related to the financial markets.
“We are currently experiencing all-time lows in interest rates, which influence the discount rate,” Driskell said. “As recently as 2007 – when we were using a much higher discount rate – our liability was as little as $5 million.”
Driskell said the company’s pension funding issue is not unique.
“Many businesses across America, including Fortune 500 businesses, are experiencing a similar situation,” he said. “The situation is so widespread that Congress is considering legislation to address the issue. We will continue to ensure that our pension plan is in full compliance with all applicable requirements.”
Wright Investors’ Services also has issued a report about Hancock Fabrics. The May report mentioned Hancock’s lower profit margins and higher debt. It ranked Hancock’s financial strength a “D,” which Wright uses to reflect a “fair” rating.
In the most recent fiscal year that ended Jan. 28, Hancock reported a net loss of $11.3 million on sales of $272 million. Online sales contributed $4.8 million, down 7.9 percent from the previous year.
The company posted a $10.5 million loss in FY2010 and a $12.4 million loss in FY2008. But in FY2009, Hancock went into the black and recorded earnings of $1.8 million.
PROFITS ELUSIVE
Hancock has reported profits for only four of the past 10 fiscal years, according to its financial filings with the U.S. Securities and Exchange Commission. The company cited continuous discounting and consumer resistance to price increases as factors that lowered profits every year.
The company also has cut its employee count. In January, it had 3,700 employees. A year earlier, it had 4,300 employees.
But Hancock did have a bright spot in its fourth quarter that encompassed the 2011 holiday season, according to its CEO.
“We were able to deliver the best fourth-quarter comparable sales Hancock has seen since 2002 and experienced the best overall comparable-sales quarter achieved in four years,” Morgan wrote in an April press release. “I am also happy to report net comps have continued to be positive through the spring.”
Yet, the company in its most recent annual report said it faces many risks. It acknowledged its “significant” indebtedness, increased fuel costs and “intense” competition.
Hancock identified some of its competitors, such as Jo-Ann Stores, Walmart, Hobby Lobby, Michaels, A.C. Moore Arts & Crafts and Internet-based retailers.
“Moreover, we ultimately compete against alternative sources of entertainment and leisure activities for our customers that are unrelated to the fabric and craft industry,” Hancock wrote in its report. “We believe that our continued commitment to providing a large assortment of fabric and other items that are affordable, complete and unique, combined with the expert sewing advice available in each of our stores, provides us with a competitive advantage in the industry.”
Hancock also said it anticipates it will be able to pay its pension plan contributions, debt service requirements and working capital requirements with available cash, proceeds from operations and borrowed money.
“We expect to generate adequate cash flow from operating activities to sustain current levels of operations,” Hancock’s April report said.
The company, as of Jan. 28, operated 263 stores in 37 states. It reported having 3,300 employees in its stores and about 400 at its headquarters and distribution center in Baldwyn.
Those numbers have shrunk from the company’s pre-bankruptcy heyday. In fiscal year 2005, Hancock had 443 stores and 6,200 employees.
The company also said it has wrapped up expenses with its bankruptcy filing. It reopened the case Oct. 17, 2011, to settle two remaining claims. SEC filings show the company settled the claims for $730,000. The case was closed Nov. 4, 2011.
The company is moving into the new year with several strategies, according to filings with the SEC.
First, it plans to focus on merchandising and to make adjustments based on anticipated consumer demand and current sales trends. It also is expanding its craft product selection to more stores.
In an April press release, Morgan said, “We have overcome our inherited inventory challenges of missed merchandise buys in the latter half of 2010 intended for 2011 sales.”
The company, according to the same press release, also hired a senior vice president of store operations in January and and a vice president of marketing in April.
“These additions complete the revamping of all areas of our business and we now have the talent and experience throughout our organization to be successful in 2012 and into the future,” Morgan said.
The company also said it will continue to use technology in its store infrastructure to improve labor efficiency and enhance store performance. It said it upgraded systems in 2011 to help manage fabric cuts. Plus, the company said it has refreshed its point-of-sale equipment.
Also, the company plans future inventory reductions as it refines its supply chain management systems. Hancock said its focus is to use more efficient systems for its inventory control, which ultimately means a reduction in labor.
Added Morgan, “In addition to other initiatives undertaken in preparation for this year, we have recently cut an additional $4.2 million of expense annually in order to improve profitability as we move forward. We continue to feel good about this team and the momentum we are taking through the first quarter.”
carlie.kollath@journalinc.com