RadioShack Corporation announced that Standard General LP and certain other investors have replaced GE Capital as the lead lender under RadioShack's $585 million senior secured asset based lending (ABL) credit facility (which included a $50 million FILO term loan tranche)and agreed to changes affecting the amount available to borrow under the facility. Other investors, including RadioShack shareholders Standard General and Litespeed Management LLC, are providing $120 million to be used to cash-collateralize letters of credit (LOCs) for RadioShack.
While these actions provide near-term liquidity to fund the inventory build-up for the upcoming holiday season, Fitch still believes the risk of a restructuring (in or outside of bankruptcy), including a distressed debt exchange, that is detrimental to bondholders remains high over the next several months given the material deterioration in liquidity and no visible signs that RadioShack can turn operations around. In addition, RadioShack needs to meet certain conditions to maintain the new credit facility and convert the $120 million investment into equity; meeting all the hurdles is likely to be challenging.
Significant Deterioration in Liquidity
There was significant erosion in RadioShack's liquidity during the second quarter of 2014 (2Q'14), with total liquidity of $183 million as of Aug. 2, 2014 ($31 million in cash and $152 million of availability on the revolver) down from $424 million at the end 1Q'14. Revolver availability was constrained by additional discretionary reserves of $104 million put in place by the lenders, drawings on the revolver of $43 million (up from no borrowings at the end of 1Q'14), an increase in LOCs to $89 million, and a lower borrowing base due to lower inventories and receivables. While no details have been provided about the changes to the new credit availability, the $120 million investment that will be used to cash-collateralize the LOCs, the potential removal of discretionary reserves of $104 million put in place by GE Capital, and other measures could provide approximately $200 million in additional near-term liquidity.
Fitch estimates that RadioShack will have liquidity needs of up to $300 million during 2H'14, including negative free cash flow (FCF) of around $200 million and a seasonal inventory build-up of an estimated $100 million. The negative FCF projection is based on 2H'14 EBITDA of negative $150 million, interest expense of $30 million, and capex of $20 million, and assumes flat working capital. For the full year, Fitch expects EBITDA to be in the negative $300 million range with no upside in 2015.
RadioShack reported a 17.5% revenue decline in 1H'14, and a 16.9% decline in comparable (comp) store sales. EBITDA for the LTM period end Aug. 2, 2014 was negative $272 million, compared with negative $161 million in 2013 and positive $48 million in 2012. Weak underlying trends in RadioShack's mobility and consumer electronics businesses have been responsible for this material decline in profitability. Within RadioShack's U.S. Company-Operated Stores Segment, comparable store mobility sales (52% of revenue; includes postpaid and prepaid wireless handsets, commissions and residual income, prepaid wireless airtime, e-readers, tablet devices, wireless accessories, and tablet accessories) were down 24% in the first half mainly due to unit declines in its post-paid wireless business, and comp store retail sales (consumer electronics, batteries, etc.) were down 8.9%. Fitch projects continued negative trends in these businesses.
New Financing Plan and Implications for Liquidity
ABL Facility - Standard General and certain other investors have acquired the loans and agreed to changes affecting the credit availability under RadioShack's existing ABL Facility. As a result, RadioShack believes that it will have sufficient credit capacity under the ABL facility to fund its inventory build for holiday. Because borrowing availability under the amended ABL facility changes in March 2015 (details not provided yet), RadioShack expects to seek to refinance the facility by that time. In addition, the amended ABL facility will be required to be refinanced if the rights offering described below is not completed by March 15, 2015.
New equity - The $120 million investment is expected to be converted into equity securities representing (together with related fees payable in equity securities) 50% to 80% of RadioShack's outstanding equity securities upon satisfaction of certain conditions. These conditions include the modification of a key supplier contract, at least $100 million of available cash and borrowing capacity at Jan. 15, 2015, development of a fiscal 2016 plan satisfying certain requirements and the completion of a rights offering to existing RadioShack shareholders to purchase equity securities at a price of $0.40 per common share equivalent.
RadioShack intends to initiate the rights offering late this year or in early 2015. The percentage of equity securities that Standard General and other investors will own as a result of this transaction will depend upon the level of participation, if any, of existing shareholders in the offering. If no shares were purchased in the rights offering, existing shareholders would own 20% of RadioShack's equity securities.
As noted above, the $120 million investment that will be used to cash-collateralize the assets and the potential removal of discretionary reserves of $104 million put in place by GE Capital and other measures could provide approximately $200 million in additional liquidity under the new financing plan. However, RadioShack will need to significantly improve its operations and/or undertake a major store consolidation program to pursue a longer-term restructuring and stave off bankruptcy early next year. It will need to seek amendments to address constraints under its existing $250 million term loan, led by Salus Capital, in order to undertake a store-base consolidation program and pursue other measures to reduce its cost structure. Currently the term loan allows only 200 store closings annually, down from its earlier plan to close up to 1,100 stores. In Fitch's view, closing fewer stores is a drag on profitability and, more significantly, FCF, as it does not provide the much-needed funds from inventory liquidation that RadioShack has been seeking.