Death by LBO: Debt Brings Down Sports Authority

Yesterday, Colorado-based Sports Authority filed for Chapter 11 in Delaware bankruptcy court. Perhaps you think this is just another case of too much retailing for a slowing economy. This would be partly true but the whole story is darker than that.

Sports Authority is the poster child for leveraged buyouts (LBOs). In 2006, the company was purchased for $1.3 billion and the buyer went the LBO route, essentially buying the company with debt raised against the company itself. Clever, right? The company financed its own purchase. But the debt load was a killer.

In 2006, Sports Authority was neck-in-neck with its biggest competitor, Dick’s Sporting Goods. Today, Dick’s has around 200 more locations and sales are almost twice as much per store, making it the U.S. leader in selling athletic gear. Dick’s has better layouts and displays and has set up in-store shops in partnership with leading manufacturers like Nike and Under Armour Inc. Those improvements cost money but they have helped Dick’s pull in about $10 million a year in sales from the average store compared to about $5.75 million for Sports Authority, whose debt load hampered its ability to expand or innovate.

As part of its bankruptcy process, the bankrupt retailer reports that it has access to $595 million of new debtor-in-possession financing. Just what it needs…more debt. And it will now close as many as 140 of its 463 locations.

This sorry tale tells you what’s wrong with the US economy. Cheap money has funded financial engineering using excess debt, rather than investment and innovation. There are hundreds of these LBO deals out there, put together by clever players who strip out the equity, load up the assets with debt and then move on to the next deal. The result is a lot of zombie companies that are vulnerable to economic slowdown, higher interest rates or better run competitors.