RETAIL: Toys ‘R’ Us China Toy Story — Real, or IPO Hype?

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Bottom line: Toys “R” Us’ big China expansion plan contrasts with pull-backs and departures for many major western retailers in the tough market, and could be aimed at generating buzz in the run-up to a potential IPO.

Toys “R” Us steps up China expansion

China’s economy may be headed for a rapid slowdown that casts a chill on the retail sector, but don’t tell that to US veteran Toys “R” Us. The retailer whose name is synonymous with children and fun has disclosed it’s planning an ambitious China build-up that will see it increase its local store count by 30 percent this year, even as other major western retailers are closing shops and even leaving the difficult market.

All that leads to the question of whether Toys “R” Us really intends to open so many new stores at a time of uncertainty, or whether this China toy story is part hype with other motivations. If the latter is the case, this particular story could be designed at least partly to generate some excitement around an otherwise boring traditional retailer, as it gets set to potentially re-list in New York more than a decade after being privatized. 

Toys “R” Us would be bucking a major trend with this major new expansion, though it’s not the only company that’s still bullish on China. According to the latest reports, the retailer plans to open 30 new China stores this year, adding sharply to its current count that recently reached the 100 mark. (company announcement; Chinese article) That would mark a sharp acceleration in new store openings, since the current store count took a decade to achieve after the company first entered China in 2006.

Toys “R” Us entered China just a year after being taken private in a $6.6 billion buyout by a group that included private equity giants KKR and Bain & Co, who saw value in a company that was fast becoming obsolete in a new era where consumers made more purchases online. Since then the company has made at least 2 attempts to re-list its shares in New York, including an attempt as recently as 2 years ago. But both ultimately failed due to poor reception from investors.

It’s not difficult to see why Toys “R” Us is hardly an exciting investment option. The company’s revenue was flat in its latest annual reporting year of 2014, though it has yet to release 2015 results. It also reported a $292 million net loss for the year, though it did swing to an operating profit from an operating loss the previous year.

Return to New York?

Despite that uninspiring story, media have begun to speculate that Toys “R” Us could be eyeing a return to New York as early as this year, following its hiring last year of CEO David Brandon. Earlier in his career, Brandon served a long stint at fast food giant Domino’s Pizza (NYSE: DPZ), and helped to steer it towards the biggest IPO in restaurant history. Brandon hasn’t commented on the IPO story, and the company said at the time of his hiring that strengthening Toys “R” Us’ foundation remained its top priority.

All that brings us to the China story, and why it looks just slightly strange. The current retailing climate is pocked with stories of big foreign companies that failed in China, including names like US giant Best Buy (NYSE: BBY), and Britain’s Kingfisher (London: KGF) and Tesco (London: TSCO). Others like Carrefour (Paris: CA) and Wal-mart (NYSE: WMT) are also struggling, as they face a huge challenge from e-commerce juggernauts like Alibaba (NYSE: BABA) and JD.com (Nasdaq: JD).

That’s hardly an encouraging retail environment for Toys “R” Us. The company does have at least one major bedfellow with its aggressive expansion, following Starbucks’ (Nasdaq: SBUX) announcement last week that it plans to double its China store count to 2,000 by 2019. (previous post) But I also have doubts about that plan due to China’s accelerating economic slowdown. And what’s more, Starbucks has a far more premium image than Toys “R” Us, whose China stores are compact and colorful but never seem too crowded and buzzing when I walk by them in Shanghai.

All of that brings us back to my original speculation on the actual motivation behind this major expansion in the face of a challenging environment. The process for opening most or all of the 30 new stores has probably already begun, since that kind of effort usually takes months or even a year. But the move could also be just as much about grabbing headlines as it is a serious business proposition, possibly in the run-up to an IPO bid, and I suspect the pace of expansion could get quietly scaled back later in the year as China’s economic slowdown accelerates.

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