A (Fire) Sale for Circuit City?

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It is clear that shareholders would prefer a sale (BusinessWeek.com, 2/29/08). Besides Wattles, HBK said in its letter to Circuit City: "We believe that an acquisition at a substantial premium to today's share price is in the best interest of Circuit City's shareholders…we urge the Board to take the necessary steps to create a competitive bidding process in order to maximize shareholder value." Dallas-based HBK didn't return calls seeking further comment.

In the meantime, Circuit City's financial distress continues unabated. On June 19 the company reported another dismal quarterly performance: a loss of $165 million, on sales of $2.3 billion, down 7.2% from a year earlier. Sales at stores open for at least a year, a key measure of a retailer's health, were down 12.2% in the quarter. Direct competitor Best Buy (BBY) recorded a 13% jump in total sales in the same quarter, while its same-store sales rose 3.7%. And discount chain Wal-Mart Stores (WMT), which has stepped up its competitive pricing on electronics, said its sales of flat-screen TVs and computers were strong in the last quarter.

Can It Be Made Profitable?

"Right now the Street is valuing it at 3¢ on a dollar of revenue—there are worse retailers that trade at 15¢ on the dollar," says Andy Hargreaves, an analyst at Pacific Crest Securities in Portland, Ore. "The question for a potential buyer is: Can you make it profitable? If it's bad merchandising and bad management, then that can be improved, but the trick is knowing whether the problem is structural." Given the intense risks confronting Circuit City, Hargreaves believes that even the $6-per-share offer from Blockbuster would be a good outcome for most shareholders.

Besides the deep losses, what spooked investors even more from the latest report was that Circuit City said it was taking various steps to preserve liquidity. The company suspended its dividend, which totaled about $26 million per year, and cut its projected capital expenditures by $10 million. Both developments further stoked investors' jitters. "The company is on a deep loss trajectory," Goldman Sachs analyst Matthew Fassler wrote in report earlier this month. Fassler said the company had also tapped a line of credit for $55 million. At the same time, Circuit City filed a shelf registration with the Securities & Exchange Commission to issue debt or stock, which allows the company to access the public market for cash.

Circuit City's weak performance in an environment of fierce competition from its rivals clearly doesn't make it that attractive. Besides, U.S. consumer spending is extremely shaky in the current environment; the Conference Board reported on June 24 that its consumer confidence index had dropped to a 16-year low in June, to 50.4. It's hard to imagine that buyers are lining up to acquire a company with nearly 700 stores, many of them in poor and underperforming locations. Still, Wattles contends that several "players" have contacted him and that a deal is entering its final stages. It is likely that Circuit City will soon reveal what sort of financial interest it can generate among suitors. What's far less murky, however, is that Wall Street isn't expecting much.

Gogoi is a contributing writer for BusinessWeek.com.