NEW YORK (The Deal) -- The next 12 months will be crucial for private equity-backed Gymboree as a $1.1 billion debt burden and deteriorating profit margins continue to weigh on the children's clothing company.
"Given their expectations for 2013, they generate enough cash to cover interest expenses and their current level of capital expenses expenditures to be cash-flow breakeven, but they're not going to be able to pay off debt with that cash flow," Moody's Investors Service analyst Scott Tuhy said in a phone interview. "There are ways for them to improve performance, but these types of turnarounds take time. The clock is ticking toward 2018."
San Francisco-based Gymboree, a Bain Capital portfolio company, has about $1.1 billion in long-term debt, including a $767 million secured term loan due on Feb. 23, 2018, and $347 million senior unsecured notes due in December 2018. The term loan has an interest rate of 500 basis points.
Considering Gymboree expects Ebitda between $125 million and $130 million for the current fiscal year, down from $161.8 million and $192.6 million in fiscal 2012 and fiscal 2011, respectively, Moody's expects the company's debt-to-Ebitda ratio will reach about 9 times by the end of the year. On Aug. 3, that ratio was 8.7.
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Citing the company's high debt burden, weak sales and declining profit margins, Moody's on Dec. 18 downgraded the company's corporate family rating to Caa1, from B3,, and its probability of default rating to Caa1-PD from B3-PD.
"Over the next 12 to 18 months, it will be important for them to show that they can at least stabilize the business and make some progress in earnings," Tuhy said. "They do have time, they do have enough liquidity to invest behind those initiatives, and they have three recognized brands."
Gymboree, founded in 1976, operates more than 1,300 stores under three different brands - Gymboree, Janie and Jack, Crazy 8. Janie & Jack offers higher-end, more expensive clothing than the company's Gymboree brand. Crazy 8 is a discount apparel label.
Boston-based Bain Capital took the youth clothing retailer private through a leveraged buyout on Nov. 23, 2010, after its $65.40 per share bid topped offers from other firms, including Kohlberg Kravis Roberts Bain committed $524 million of equity to finance the acquisition, valuing it at about $1.76 billion.
Prior to the LBO, Gymboree had about $132.4 million cash on its books and no debt at the end of its third quarter.
Faced with heavy competition from Carter's (CRI - Get Report) Children's Place Retail Stores (PLCE - Get Report) and Gap's (GPS - Get Report) Old Navy, GapKids and babyGap, Gymboree has had to face consistent pressure on its earnings and cash flow, with profit margins falling each year since going private. Over the last 12 months, the company's profit margin was negative 3.21%, according to Bloomberg data. In fiscal 2010, the retailer's profit margin was 10.04%.