Markets & Finance

S&P Cuts Toys "R" Us Below Investment Grade


On Jan. 8, 2004, Standard & Poor's Ratings Services lowered its ratings on Toys "R" Us (TOY). The long-term corporate credit rating was lowered to 'BB+' from 'BBB-' and the short-term corporate credit rating was lowered to 'B' from 'A-3'. In addition, the long-term ratings on the company were placed on CreditWatch with negative implications.

The downgrade reflects the continued deterioration in Toys' U.S. toy business and Standard & Poor's expectation that the company will not show the recovery in performance and credit ratios that was incorporated into the previous ratings. Toys' operations are being affected by intense competition from Wal-Mart (WMT) and Target (TGT). The company recently announced 2003 holiday sales in the U.S. toy division decreased 4.9%, and that margins were under significant pressure because it lowered prices to protect market share. However, it did not provide other specific financial information.

Although Toys is the largest specialty toy retailer in the U.S., discount department stores have been gaining share since the late 1990s, as price has proven to be a compelling driver of seasonal sales.

Although some benefits are coming from the growing Babies 'R' Us business and international operations, as well as from the decision to close Kids "R" Us and Imaginarium Stores, Standard & Poor's does not expect operating performance to meaningfully improve until the U.S. toy business turns.

Standard & Poor's believes that Toys will continue to gain share from a dwindling number of independents, but that it will continue to be challenged by Wal-Mart and Target. Discounters often use low prices on toys to generate traffic, offsetting the loss in gross margin with other categories. In addition, Toys is not expanding its store base, but Wal-Mart and Target are aggressively growing theirs. Wal-Mart's current share of the U.S. toy market is estimated to be about 20%, versus Toys' share of about 17%.0-17.5%.

Toys retains its important position in the toy industry, a geographically diverse store base, and good financial flexibility. However, the company has an inconsistent record of performance since 1995, and has not been able to reverse the negative trend in its U.S. toy business despite management's repositioning efforts.

Standard & Poor's assessment is that Toys' business and financial profiles are no longer consistent with an investment-grade rating. After 2003 results are evaluated, Standard & Poor's CreditWatch review will determine whether a 'BB+' or 'BB' corporate credit rating better reflects the company's business position and financial profile. From Standard & Poor's RatingsDirect


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