The Deal: Gymboree Weighed Down by $1.1B Debt Burden

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.

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) Children's Place Retail Stores  (PLCE) and Gap's (GPS) 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%.


To Gymboree's advantage, Tuhy noted, is its good liquidity position. The company has about $165.9 million of undrawn availability from its $225 million senior secured asset-based revolving credit facility, which is due in 2017, and $35.1 million oustanding letters of credit, as of Nov. 2. It had a cash balance of just $19.1 million as of that date.

And the company clearly has a sense of urgency, if recent management changes are any indication.

On Jan. 8, 2013, former Gap North America, GapKids and babyGap executive, Mark Breitbard, took over as chief executive, bringing with him former Gap Inc. and Old Navy executive Evan Price, who was appointed CFO. And on June 19, Joelle Maher was appointed as Gymboree's new chief operating officer. Maher previously served various leadership positions at Levi Strauss.

Given its debt and competitive situation, Gymboree isn't impressing analysts as an M&A candidate, at least immediately.

"Good luck finding someone who wants to purchase it," Morningstar analyst Jamie Katz said by phone, noting the company's high debt burden. "Most [retailers] run without debt. Does that make it harder for someone to come in and acquire it? Most definitely."

Moody's Tuhy doesn't completely dismiss the M&A card, especially for the Janie & Jack brand.

"If they were in a pinch, that's probably the business that could be sold off," Tuhy said, explaining that, despite being the smallest of the company's three brands, it's been performing well.

Stable demand for children's apparel notwithstanding, it's challenging for players such as Gymboree to remain profitable, Katz added, given how crowded and competitive the industry remains. Larger, well-performing players such as baby clothing retailer Carter's, for example, can undercut on price by running promotions year-round, she explained.

"The kids space is a very difficult space to operate," Katz said. "The No. 1 purchasing decision in the category is price. Independent of the brand, it's hard to build that sort of following that you might get for an adult."

Gymboree and Bain Capital officials couldn't be reached Wednesday.

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