Lending to retailers is once again on the rise, as capital flows back into the market and retailers that stayed afloat during the recession look to strengthen their competitive positions. During the economic downturn, the more nimble and savvy retailers cut costs, reduced inventory levels, renegotiated leases and closed underperforming stores.
Many of these retailers now have stable cash flows, lean operations and clean balance sheets, and are seeking financing to rebuild inventory and expand conservatively in new or existing markets. Fortunately, they’re finding that capital is once again available.
One factor is the return of private equity. Sponsors who held off on investing in the retail space during the recession are once again ready to invest and are pursuing well-positioned retailers. Another important factor is the presence of lenders with in-depth retail expertise who can look beyond comparable-store sales and other standard performance measures when determining a retailer’s creditworthiness and market value of its brand.
Loan structures are also shifting. Over the past 24 months, asset-based loans — loans secured primarily by the retailer’s inventory — were the most prevalent loan structures available. Today, an increase in the use of cash flow loans — a loan measured as a multiple of the retailer’s projected cash flows and sized according to the perceived enterprise value of the retailer — means more options are available to meet the specific needs of each retailer. These loans put both working capital and long-term debt at the retailer’s fingertips, facilitating the purchase of inventory as well as supporting acquisition bids.
The increase in loan volume is evident in looking at figures for the first six months of 2011. Total non-investment grade leveraged retail loan volume was $34.4 billion, up from $27.7 billion in all of 2010, according to Thomson Reuters LPC. The data also show that cash flow lending, with $20.5 billion in volume, far outdistanced asset-based lending, with a volume of just $13.8 billion for January through June of this year.
While there are clear signs of growth and revival within the retail sector, not all segments are recovering from the downturn at the same rate. Discount and luxury consumers are shopping, albeit at lower levels, while the aspirational consumers — those who covet and purchase items outside of their typical budget — continue to largely delay spending.
Also, the double dip in the housing market is reverberating through the retail sector, particularly impacting those retailers selling household durable goods, such as furniture, electronics and appliances, according to Property and Portfolio Research (PPR), U.S. Census Bureau and Moody’s Analytics.
Looking toward 2012, the health of the sector and the availability of credit will depend largely on macroeconomic factors. The financial markets remain volatile, and the struggling economy, weak housing market, high unemployment and political uncertainty will all have an impact on corporate retail finance.
Investors are also keeping a close eye on the commercial real estate market. Retail property values are rebounding in the top 10 retail metro areas, according to CoStar, and PPR data show retail vacancies receding as demand rises. In areas where lease rates remain low, some retailers are pursuing new leases, triggering a need for increased inventory levels and perhaps new financing. But in most markets lease rates continue to be pressured by excess supply.
Overall, investor appetite is expected to track the economy. Still, the future of retail finance appears strong. Consumers are shopping again, although not at pre-recession levels.
With lots of dry powder after the past few years fueling a strong appetite for retail among lenders and investors — and barring a severe economic downturn — this critical part of the economy should have plenty of capital to grow.
Jim Hogan is senior managing director, GE Capital, Corporate Retail Finance, a leading provider of senior secured loans and leases that meet the unique capital needs of midsize and large retailers from specialty to big-box stores (gecapital.com/americas).