Has Zale Gotten Its House in Order?

The financial markets have certainly smiled upon Zale Corp.’s new financing—its stock jumped over 20 percent immediately after it was announced. And the vendors I spoke to are feeling a lot more confident as well.

This deal does several things for the company:

– It removes any bankruptcy risk. 

Zale’s 2010 deal with Golden Gate Capital probably saved the company in the short term. But long-term—with its heavy fees, interest, and tough covenants—it was looking like its biggest threat. And while its vendors have generally expressed confidence in current management and have been paid promptly, a few were starting to wonder when the situation would be resolved.

“This move them a lot farther away from the edge of the cliff,” as one longtime Zale watcher put it. “It gives their vendors a lot less to worry about.”

This deal does make things significantly easier for Zale, particularly in regard to the covenants it has to meet and the time it has to repay its loans. It also increases the money it has access to. But it does present certain challenges. Golden Gate, which will retain its two seats on the company’s board, is still charging 11 percent interest on the remaining $80 million of its loan. That’s down from 15 percent, and on a far lower balance than before. But that’s not cheap. 

– It makes it more likely to be profitable.

For all the good news Zale has released lately—particularly the six (soon to be seven) quarters of positive comps—one stark fact remains: It has been losing money for the past few fiscal years. (Its last profitable year was 2008.) And even the rising same-store sales are coming off of dramatic comp slides in 2009 (16.6 percent) and 2010 (6.6 percent). So Zale still has a bit to go to get to where it was: Its third quarter 2012 revenues were $445 million, which is less than the $477 million it took in during the third quarter of 2008.

Still, this deal should certainly give the company a significant boost towards becoming profitable, adding a cool $17 million to its annual bottom line. When I spoke to chief administrative officer Matthew W. Appel and CFO Thomas A. Haubenstricker yesterday, they declined to forecast when the business might start making money. But at least one analyst report predicts the company will turn a profit in fiscal year 2013, which starts in August.

– It makes it easier to sell off divisions.

One thing that generally comes up when I talk to people about Zale is: Why hasn’t it sold off either Piercing Pagoda or its Canada division? (And, in fact, there was serious talk it was about to sell Pagoda last year.) Under the prior arrangement, selling a division would require certain fees be paid to its lenders. This new deal makes it easier for it to sell any part of the company, should it want to. However, it should be stressed, the company doesn’t seem to have any interest in that; Appel firmly dismissed talk the company may sell any of its components. But it could always serve as an emergency measure.

So where does this leave Zale? It still has to contend with a tough economy, a lot of competition, and high material costs—things all jewelry companies have to deal with. But those things are out of its control. For a venerable retailer that has had a rough couple of years, this new deal could mark a turning point.

JCK News Director