More on Circuit City and the Value of Risk Management to Prevent Crises

Below a few days ago, I wrote a post about the demise of Circuit City at a time when competitor Best Buy is doing quite well. Not to beat a dead mule, but I want to add to what I wrote before from a risk management perspective.

Circuit City’s per-share earnings trend like this:
FY 2005 -- $.31
FY 2006 -- $.77
FY 2007 -- $.47
FY 2008 – ($1.02)
FY 2009 first 6 months – ($2.45)

What steps did Circuit City take when earnings declined in 2007? The annual report’s letter to shareholders that year said, “We began a process to transform Circuit City two and a half years ago, and we are committed to the vision we laid out to better serve our customers, our Associates and our shareholders…. We also need to ensure that Circuit City has caught up to retail industry best practices with our merchandising and retail transformation efforts. I would characterize these efforts not as a change in plan or strategy, but rather an acceleration of our overall transformation given the rapid changes in our marketplace.” The writer had to chuckle when writing about retail “best” practices.” I love puns!

What did the CEO have to tell shareholders after losing money in 2008? “We are nonetheless disappointed in our financial performance, which was negatively impacted by the disruption created by our necessary and broad-based initiatives…. While the amount of change was disruptive in the short term and contributed significantly to our sales and gross margin declines from the prior year, we are now in the position to improve execution and customer service. As a result, we expect to become a stronger, more effective company during the current fiscal year primarily through an intense focus on retail execution.” That was exactly the right word to use: “execution.” Phillip Schoonover, the CEO who signed these shareholder letters, is no longer with the company.

The new CEO, James Marcum, stated in the second-quarter release on September 29, “The management team and the board of directors are conducting a comprehensive review of all aspects of our business to determine the best methods of delivering substantially improved financial performance and maximizing shareholder value. We recognize that this will require that we intensify our efforts to correct problems in our business.”

Let’s see. The effort to transform Circuit City began in FY2004. After 2007’s drop in earnings, the effort intensified and earnings suffered. Then, after two more losing quarters this year, the company is still intensifying. But the last time it intensified, earnings dropped further. It seems there should have been more new initiatives and less intensification.

I went to Tom Thompson, the Institute for Crisis Management’s risk management wizard (his bio is at http://www.crisisexperts.com/Tom.htm) and asked how Circuit City might have responded differently from a preventive risk management perspective. (Tom was my guest blogger last month. See http://crisisexperts.blogspot.com/search?updated-max=2008-10-11T21%3A32%3A00-04%3A00&max-results=7.) He gave me this explanation:

“The two questions become: Was the crisis truly unexpected or unknown, and what is the true cost of risk? Circuit City’s financial performance provides a clear answer to the first question. The answer to the second question: bankruptcy and perhaps the end of the company. Risk management is by definition the identification and treatment of risk that can impact your business. Risk management is a process. How do you uncover and identify risk and exposures that can impact the intrinsic value of your business?

“Let’s look at risk identification. ICM is different from other firms dealing with crises because we take a holistic approach. We want to identify and treat those exposures and risks before they become crises. The identification process is the first step in risk management.

“1) We start by assuming that risk and exposure are found in each fundamental area of a company: Human Resources, Finance, IT, Operations, Marketing, Legal, etc.

“2) We assert that to begin, you would examine risk by logical classifications: property, human resources, liability, net income, etc.

“3) Tools that are applied include: checklists, flowcharts, physical inspections, financial statements (unfunded liabilities), compliance reviews, contract reviews, policies and procedures reviews, organizational charts, previous loss information, discussions with legal counsel on post litigation, and insurance policy reviews.

“Many crises can be avoided if the risk or exposure is identified and steps are taken to mitigate, reduce, or completely avoid the crisis. Maybe Circuit City performed a risk assessment early during its financial skid, I don’t know. If so, it failed to identify the right steps to mitigate, reduce, or avoid its financial crisis. Effective risk management should have helped soften the blow.”

Thanks, Tom. I guess the moral of this story is to be sure you periodically make a risk assessment of your entire business. That’s truer in this economic environment than ever before. A financial risk management plan may need revisited every month or two these days.

A Crisis That Will Give You a Headache

In the post below, I mentioned the new wired communications environment. It's not only anonymous, but instant. The Motrin-bashing debacle is a good case in point, and a valuable lesson about how communication works in a wired world.

Last Saturday, McNeil Consumer Healthcare, a Johnson & Johnson company that makes Motrin, posted an ad on the company's website. The video targets moms suffering from backaches due to wearing their babies in slings (http://www.youtube.com/watch?v=XO6SlTUBA38). “Wearing your baby seems to be in fashion. I mean, in theory, it’s a great idea.... Plus, it totally makes me look like an official mom. And so if I look tired and crazy, people will understand why.” As an old dad, I find nothing offensive about this, which is why we need focus groups before we launch ads and key messages.

But plenty of new moms were offended. Shortly after the ad was posted, they activated an entire mommy network via Twitter (You'll get the gist here if you have the time and patience: http://search.twitter.com/search?q=%23MotrinMoms). Jessica Gottlieb, freelance writer and mom, wrote on her blog, "...you are going to be furious, and I think we all know that a pissed off group of Mommies is (and should be) terrifying." Johnson & Johnson, who owns McNeil, understands that fact now.

With the internet and IM lit up all weekend bashing Motrin, the company pulled the ad by Sunday night and apologized (http://www.motrin.com/). Kathy Widmer, vice president of marketing for McNeil, wrote on the Motrin web site Thursday, " So…it’s been almost 4 days since I apologized here for our Motrin advertising. What an unbelievable 4 days it’s been. Believe me when I say we’ve been taking our own headache medicine here lately! Btw - if you’re confused by this - we removed our Motrin ad campaign from the marketplace on Sunday because we realized through your feedback that we had missed the mark and insulted many moms.... In the end, we have been reminded of age-old lessons that are tried and true: When you make a mistake - own up to it, and say you’re sorry. Learn from that mistake."

It remains to be seen how much long-term damage to Motrin’s brand and to Johnson & Johnson’s stock price will be. The company responded to the crisis swiftly and appropriately. But a couple of focus groups might have prevented the whole thing. Guys like me can't always anticipate the wrath of young mothers to messages that, to my demographic, may seem innocuous. Another key lesson here is how quickly a negative story can grow and spread in today's wired world. Communications is instantaneous, as businesses seem to find out the hard way every day -- even on weekends, as the Motrin case illustrates.

Follow-up on Davenport University Post: President Resigns

I wrote on October 9 about Grand Rapid's Davenport University President Randolph Flechsig, who was arrested for drunk driving (http://crisisexperts.blogspot.com/search?updated-max=2008-10-11T21%3A32%3A00-04%3A00&max-results=7). He either lied or was mistaken about being impaired, blaming a diabetic reaction, and he did it through the university's spokesperson. I received a comment from an anonymous reader who said the spokesperson, Chris Ervin, was a new employee who would "likely face more (baptism by fire) before this man's reign is over at Davenport University." A subsequent comment let me know that Flechsig's reign at Davenport is over.

Flechsig resigned during his drunken driving sentencing in 63rd District Court, where he received a suspended sentence of 93 days in jail (http://crisisexperts.blogspot.com/search?updated-max=2008-10-11T21%3A32%3A00-04%3A00&max-results=7). He apologized for his poor choices and the damage he caused to the reputation of Davenport University, but no word on whether he apologized to Ms. Ervin, as urged by "Anonymous" and me. The Davenport board asked for his resignation, which takes effect on November 23.

"I work at DU" commented on my post, expressing shock that "Anonymous" could be so critical of an "effective leader, and a victim of people like 'anonymous.'" The writer goes on to say, "In the past, if you had an opinion, you wrote a letter to the editor and signed your name. There is something wrong with a society that allows mean-spirited people to attack others, lie about them, and basically broadcast it to the world without having to state their name.... It is evil and morally wrong to allow blogging/posting by "anonymous" people saying derogatory, untrue things."

I couldn't agree more. But that's the way of communications now, so we better get used to it. People can write ugly things about individuals and companies without worrying about the truth or being prosecuted for libel. We don't have to like the new communications environment, but we have to live in it. As communicators, we need to find ways to deal with this new world. Take a look at Wal-Mart. I just Googled "Wal-Mart hate" and found 8,140,000 results. The company can't fight the on-line negativity. Its best response is to conduct business reputably, offer value to customers, and keep shareholders contented. And it has to recognize that it will receive both unfair and fair criticism that can't be dealt with by filing libel lawsuits and expressing indignation, which was the way of the pre-internet era. People are out there, waiting to tarnish our company's good name. Are you ready? Do you have a strategy for highly visible web attacks against your reputation? How will you respond?

What Does Best Buy Have That Circuit City Doesn't?

The Circuit City store near my house will close permanently next month. I shop at Best Buy anyway. I guess I'm not alone. I know why I prefer Best Buy, but I wondered what factors led Circuit City to file for bankruptcy this week. Here are two companies in a similar business, often with stores in fairly close proximity to each other, competing for the same customers. So how did management at Circuit City deal with a smoldering financial crisis and where did it go wrong?

The crisis was obvious. Best Buy's latest annual report shows revenue of $40 billion and net earnings of $1.4 billion (fiscal year ending March 1). Circuit City had net sales of $11.7 billion and a net loss of $321 million (fiscal year ending February 29). Further, it reported a loss of $239 million last quarter, while Best Buy earned $200 million. Circuit City's stock sold at a high of $31.54 in fiscal 2007 and a high of $19.60 in fiscal 2008, a span of eight straight quarters of declining prices. It fell to 1o cents before the New York Stock Exchange suspended trading yesterday.

A web search reveals a number of web sites and blogs critical of Circuit City management and the company in general. The best unbiased analysis I found today comparing BB to CC is a Time web site at http://www.time.com/time/business/article/0,8599,1858079,00.html?imw=Y. Among the mistakes Circuit City made, according to reporter Anita Hamilton:

• Circuit City failed to secure prime real estate. Its out-of-the-way locations are often just inconvenient enough to tempt customers to head to other retailers. The two stores in this area are both partially hidden, tucked away behind other businesses.
• It stopped selling appliances.
• It moved slowly into the games market.
• It missed out on big promotions with thriving companies like Apple. When the latest and greatest new electronics gadget is released, do you see people camping out in line at Circuit City? I never did.
• Circuit City neglected to improve its web presence, just as online retailers like Amazon.com were hitting their stride.
• "They had been unable to move their inventory," Helen Bulwik of New Market Solutions, a retail consultant in Oakland, pointed out. That backlog left the company frozen, unable to buy fresh products and pay off their debts.
• In March 2007, Circuit City announced plans to lay off its highest-paid hourly employees, largely the salespeople we rely on for product information, and replace them with cheaper workers. That same year, then CEO Philip Schoonover received $7 million in compensation.

These are all reasons why Circuit City failed and Best Buy succeeded on a macro level. From a micro point of view, Best Buy has better prices, knowledgeable salespeople, a large selection, and well-laid-out stores. I feel bad for all the employees who have lost and will lose their jobs because of poor decision making at the top and complacency throughout.

Whether you're in retail, wholesale markets, or the service industry doesn't matter: You need to change, adapt, improve if you expect to keep market share and compete successfully. Dust off your crisis plan and your business recovery plan. Do they spell out what to do when your business or the overall economy begin to sour? What messages will you deliver, and to whom? How will you retain confidence of investors or contributors? On the business recovery side, what response will you make to keep customers coming back? Operating in this economy will magnify all the competitive challenges.